Blockbuster's Rise and Fall: The Long, Rewinding Road

NEW YORK ( TheStreet) -- Before Blockbuster ( BLOKA.PK) became a video store behemoth -- and, now, a firm that has filed for bankruptcy -- it was, in fact, an oil company.

That's right -- if Blockbuster were a movie, the opening scene of The Blockbuster Story would be set 25 years ago in the Dallas offices of an oil-equipment provider called Cooks Data Services.

Cooks Data, a supplier of tools and computer software to the Texas oil and gas industry, had been founded in 1978 by a man named David Cook. Cook -- who Fortune Small Business once called the video world's Pete Best -- was an entrepreneur with a penchant for building databases. After the collapse of the oil market in the mid-eighties, Cook, at the urging of his wife, decided to try his luck in the video rental market. He opened the first Blockbuster store in Dallas in October of 1985.

It was an unconventional corporate move, for sure. And critics almost immediately began to question the longevity of his "Blockbuster" model.
Blockbuster Timeline

Now more than two decades later, investors are still questioning if, at any point amid Blockbuster's tumultuous and sometimes sordid history, the company could have done something different to change its fate. For the answer to that, let's rewind the tape, and play it all back.

Act 1: Blockbuster Booms
From the beginning, Blockbuster was an immediate success -- and soon devised a model that would revolutionize the industry: With more than 8,000 VHS tapes in more than 6,500 titles, Cook's Blockbuster store was three times larger than its nearest competitor. Unlike other video chains that stored movies behind the counter, Blockbuster displayed titles on shelves. Cook kept his doors open later than traditional video stores. He used a computer system and scanner to track of tapes and ease checkouts. And in perhaps the most crucial move for future growth, Cook determined that Blockbuster would be a family-friendly destination, and he refused to stock adult films.

Cook, realizing he had something powerful in his hands, decided to completely abandon the oil industry, renaming the company Blockbuster Entertainment and issuing a new ticker on Nasdaq.

With growth playing the lead role of the company's business plan, in September 1986 Blockbuster set out to raise money with a public offering. Days before it was to be completed, however, a news article emerged revealing Cook's background in the oil industry and questioning his ability to run a video chain. As a result, the offering was canceled and Blockbuster quickly began running out of cash. By the end of 1986 it had lost $3.2 million.

Looking for any possible cash infusion, Blockbuster became involved in what was, at the time, considered another seedy industry: garbage collection.

In February of 1987, Waste Management ( WM) founder Wayne Huizenga and a group of other investors stepped in, purchasing one-third of the company and buying more than $18 million in stock.

That was merely the boot in the Blockbuster front door. Within a few months, Cook had surrendered complete control of the company to Huizenga. And while Cook had envisioned steady growth through franchising, Huizenga planned to do what he does best: gobble up competitors.

At the helm, Huizenga spent the late 80s acquiring several of Blockbuster's key rivals -- most notably Major Video. He also bought back a chunk of franchised stores and opened new locations at a break-neck pace of one per day. Blockbuster was looking like, well, a blockbuster.

Act 2: Blockbuster Gets Bad Reviews
By May 1989, however, Blockbuster's push to acquire rival chains suffered a setback when a Bear Sterns analyst issued a report criticizing the company's accounting practices, calling it "inaccurate and grossly misleading." The report claimed Blockbuster's earnings growth was "due to dubious merger accounting, nonrecurring sales to new franchises, and changes in amortization practices."

Despite these concerns, Blockbuster refused to change its accounting practices. While investors quickly forgot about the potentially misleading practice, analysts started to question the long-term growth prospects of the company, especially after its largest shareholder, United Artists Entertainment, announced it would divest its 12% stake and sell its 28 franchised stores.

It didn't help that Blockbuster's sales growth was also waning. In 1988 monthly sales of company-owned stores had shot up 35%, but then rose just 8% and 7.5% in 1989 and 1990, respectively. Huizenga blamed the Gulf War for detracting attention away from videos and instead to television news.

At the time, pay-per-view and cable programming were becoming more mainstream. Faced with this rapidly maturing industry, Blockbuster looked to international expansion and in an effort to boost earnings lowered its rental price for hit movies.

Act 3: Blockbuster Goes Into Wide Release
By 1993 there were more than 3,400 stores and Blockbuster was looking beyond its core video chain business to fuel growth. Its next conquest -- the music industry. The company purchased music chains Sound Warehouse and Music Plus and entered a partnership with Virgin Retail to open music mega-stores in the U.S., Europe and Australia that were later called Blockbuster Music.

Huizenga had grandiose dreams when he dove into the music business, envisioning entertainment centers that rented movies, sold music, computer programs, video games and featured virtual reality entertainment arcades. Blockbuster entered into a deal with IBM to develop a system for instant duplication of CDs in-stores, creating a digital database. Huizenga was, technically, making the first foray into digital music. In his "music stores of the future" Huizenga foresaw customers to come in, browse a vast music selection, and then make their own customizable CDs of their favorite songs and artists.

Of course, music studios and record labels didn't react favorably to these ideas.

The company also invested in computer technology and added stakes in production companies, Spelling Entertainment and Republic Pictures, as well as Discovery Zone, a children's entertainment center. There were even discussions to build an entertainment complex to house Huizenga's growing roster of sports teams.

With a potential growth pipeline that could have made Blockbuster the McDonald's ( MCD) of media, not just video stores, the company made a decision that could only be viewed as the catalyst that paved the way to its eventual downfall.

Act 4: Blockbuster Loses Its Way
In September 1993, Blockbuster proposed a $4.7 billion merger with media giant Viacom ( VIA), which, at the time, was in a bidding war for Paramount Communications with QVC.

Blockbuster, eager to get in on this deal and grow its new media initiatives, heavily invested in Viacom to help sweeten its bid. But the prolonged takeover battle became a drain on both Viacom and Blockbuster, and merger talks stalled, driving down the stock of both companies. Viacom ultimately ended up purchasing Blockbuster for $8.4 billion.

The buyout ignited an executive shakeup, where Blockbuster saw CEOs resign at a rate of one a year for three years. Huizenga stepped down in September 1994 and was replaced by President Steven Berrard. Berrad held the post for just a year-and-a-half, before former Wal-Mart ( WMT) executive, Bill Fields, stepped in. Fields unexpectedly resigned in spring 1997 and John Antioco took over that summer.

Antioco inherited a company in tatters: new releases weren't making it to the stores on time, a cutback in employees left store operations in shambles, and cash flow for the second-quarter of 1997 had plunged 70%. Its Blockbuster Music initiative wasn't growing as fast as Viacom would have liked, and had resulted in substantial losses for the parent company.

As a result, Viacom sold off Blockbuster Music to Wherehouse Entertainment in August 1998 for $115 million.

In these dark times, Blockbuster was forced to shutter some international stores, cut rental orders and exit its PC business, essentially returning the company to its core video roots.

When Viacom purchased Blockbuster, it was banking on its robust cash flow to pay down the debt it incurred from the acquisition of Paramount. Instead Viacom found itself injecting more cash into Blockbuster then it was getting in return.

In an act of desperation, Viacom made an initial public offering of 18% of its stock in Blockbuster in August 1999 to raise money. But the offering only garnered $15 a share, below its expected range of $16 to $18, raising just $465 million.

Blockbuster's stock received a lukewarm reception on that first day of trading, as the video rental industry was already being viewed as a dying sector.

Act 5: Internet Kills the Video Store
"Imagine a Blockbuster night without Blockbuster, a time when no video store will ever slap you with a late fee or fine you for failing to rewind. Because in this world, there are no videos, only home computers," the Chicago Sun-Times wrote back in June 1999.

Already, the Internet was being viewed as a potential killer of the video industry.

At the time, Amazon ( AMZN) had just entered the market, expanding from selling cheap books online to cheap DVDs, and a little company called Netflix rolled out a subscription service.

Blockbuster, for its part, was keenly aware of the impact the Internet could have on business, and did jump at the opportunity to capitalize on this new technology. The company formed a partnership with AOL ( AOL), took initial steps toward streaming video, tested home delivery, rolled out e-commerce and formed a partnership with TiVo and DIRECTV.

Still, while Blockbuster discussed creating its own subscription service to rival Netflix, it wasn't until August 2004 that its online DVD rental program actually started in the U.S. And when, in 2004, Coinstar ( CSTR) entered the market with its Redbox DVD kiosks, Blockbuster didn't begin installing similar devices until 2008.

And analysts also criticized the company for its late adopting of the DVD. In August 1999, a mere 1,000 Blockbuster stores carried DVD copies.

Act 6: Enter Stage Right -- Carl Icahn
In December of 2004, Blockbuster sought control of its biggest rival, the now defunct Hollywood Video, through a hostile takeover. Billionaire investor Carl Icahn was intent on seeing this deal done, and attempting to facilitate the takeover by becoming the largest shareholder of Blockbuster, with 9.98 million shares worth about $83.9 million.

Blockbuster proposed an offer of about $700 million, or $10.25 a share, later upping the bid to $1 billion. But Hollywood Video instead agreed to be bought out by Movie Gallery in January 2005.

With so much invested in Blockbuster, and a Hollywood Video deal squelched, Icahn looked for ways to beef up Blockbuster's return, butting heads with Antioco in the process.

In May 2005 Icahn waged a successful proxy fight to add himself, and two other members, to the board. Icahn accused Blockbuster of overpaying Antioco, who received $51.6 million in compensation in 2004.

Antioco and Icahn had different views on how to revive the business; Antioco scrapped late fees, started an Internet service and wanted to keep the company independent, while Icahn wanted to sell out to a private-equity firm.

Eventually Antioco became fed up with battling with the board, especially after Icahn and his crew decided to "use discretion" to cut Antioco's bonus in 2006. The next year, Antioco stepped down and was replaced by James Keyes, former head of 7-Eleven.

Act 6: Blockbuster Goes Bust
During his first few years on the job, Keyes slashed costs, tweaked product and aggressively marketed online and digital services, managing to briefly return Blockbuster to profitability. The company changed its image from "Blockbuster Video" to "Blockbuster Media," and once again experienced sales growth.

Still, the bed for bankruptcy has already been made before Keyes took over, when in early 2007 the company had missed a bank covenant and had to renegotiate its credit terms for the fourth time. The company had been relying heavily on a $400 million credit, which expired in August 2009.

Blockbuster also still owed a substantial amount of debt to former parent Viacom. A few quarters of profit weren't enough to revive the company, which sustained more than $4 billion in losses since 2001.

And then, of course, the recession set in, which only served to further hinder the already decaying business.

By March of 2009, bankruptcy fears were emerging, and a year later Keyes warned that if Blockbuster was unable to shore up enough cash to repay its nearly $1 billion in debt, it could be forced to file Ch. 11.

Since then, Blockbuster has shuttered hundreds of stores, Icahn has resigned from the board of directors and sold off most of his stake in the company, and the stock has been delisted from the New York Stock Exchange.

Now investors wait to see if Blockbuster will be able to make a $42 million debt payment due on Sept. 30, which it has pushed back two times so far. But the company may not make it until then, as reports have surfaced that a bankruptcy filing could come any day.

Still, the credits aren't rolling for the Blockbuster movie just yet -- and while this is one story that's unlikely to have a fairytale ending, it's destined to become a classic.

--Written by Jeanine Poggi in New York.

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