Home Video Business Filed for Chapter 11 Bankruptcy 8 Years Ago
|Sep 20||Public post|
Remember The Perfect Storm? It was a subpar 47%-rated movie starring George Clooneyand Marky Mark as the prettiest and most beleaguered Bah-stonian commercial fisherman on the planet. You know, fighting…uh…the perfect storm. The special effects looked like some kid was splashing water at a plastic boat he won at a recent street fair. The acting was…well, some of Marky Mark’s finest work. Once upon a time, you could’ve rented this sh*tshow at a Blockbuster Inc. ($BBI) chain near you. Ah, nothing like nostalgia for the year 2000.
Speaking of Blockbuster Inc., it filed for bankruptcy eight years ago on September 23, 2010. Its story was also a “perfect storm.” It starred technological disruption, leverage, capital markets and Carl Icahn. As himself.
(Moment of Silence).
Blockbuster’s stated mission was “to provide its customers with the most convenient access to media entertainment by making movies and games available to them anyway they want it.” It doesn’t take hindsight to know that they clearly failed to accomplish that mission.
Blockbuster had 3,306 stores (2,924 company-owned, 382 franchised) in the United States and an additional 2,333 stores in 16 markets outside the United States (which made up roughly 30% of the company’s revenue).
To provide some context for that number, today there are approximately 5,000 Walmartstores, 2780 Kroger stores, 3,500 Mattress Firm locations (not for long?), and 14,000 McDonald’s restaurants. AMC and Regal Cinemas combined have fewer than 1,000 locations.
Blockbuster also had 25,500 employees, 7,500 of whom were full-time. To refresh your recollection, Toys R Us had 30,000 employees at the time of its demise. Lehman had 25,000 employees. Blockbuster, clearly, was an absolute BEAST.
On this eighth anniversary, let’s take a moment to revisit the ubiquitous chain’s demise.
Clearly, Blockbuster was late to the game in delivering content to customers “anyway they want it.” Only shortly before the bankruptcy filing did the company “expand its presence into the by-mail and digital channels of distribution” and roll out branded vending kiosks.
Why was it late? One reason: the company was saddled with high-interest debt and, therefore, didn’t have the free cash flow necessary to invest in its business during a massively transformative time. This is what the company’s capital structure looked like at the time of filing:
$675mm ‘14 11.75% senior secured notes
$300mm ‘12 9% senior subordinated notes
In its First Day Declaration the company stated:
Blockbuster seeks a restructuring that permits a significant deleveraging of its business so that it can move forward at the digital clip at which its industry and competitors are currently running and not only meet, but exceed, customer demand and expectation so that Blockbuster remains their first choice amongst distributors of personal media entertainment.
Hmmm. We wonder which “competitors” it was referring to? 🤔
At the time of its filing, the company’s domestic operations comprised of three different distribution channels: (i) retail (i.e., brick-and-mortar stores and kiosks); (ii) mail; and (iii) digital. The company leveraged each of these channels to benefit from its stated competitive advantage: an exemption from the movie studios’ 28-day new title release window which otherwise applied to the company’s competitors (cough, Netflix Inc. ($NFLX)!).
By the time of its filing, Blockbuster was a party to a licensing deal with NCR Corporationto launch Blockbuster Express branded vending kiosks…
…to compete directly with a competitor that provides movie rentals through vending kiosks and has expanded rapidly into Blockbuster’s markets. Through this partnership, NCR deploys, operates, and maintains the kiosks and pays royalties to Blockbuster on the revenues generated. This agreement allows Blockbuster to compete directly with such competitors in the popular vending kiosk channel without incurring capital expenditures and start-up costs on its own account, while making Product more convenient and less expensive for its customers. As of September 19, 2010, there were approximately 6,630 kiosks operating…throughout the United States and its territories.
Through Blockbuster.com, the company allowed customers to rent product delivered to them by mail. From the First Day Declaration:
The by-mail subscription program provides customers access to substantially more Product than is available in its stores, and allows Blockbuster to compete directly with the primary offering of certain of its competitors. In contrast to the comparably-priced basic by-mail subscription of such competitors, Blockbuster offers: (i) a wide selection of games and (ii) Blu-ray Product at no additional charge. Through its BLOCKBUSTER Total AccessTM program (“Total Access”), Blockbuster customers can augment their subscription with the ability to exchange up to five online movie rentals for in-store movies at its retail locations for only a few dollars more per month. The by-mail subscription program allows Blockbuster to reach customers located in geographic areas where it does not operate store locations.
The company also entered into a partnership with Comcast Cable Corporation to avail Comcast customers of Blockbuster’s DVD selection through DVDsbymail.com. Blockbuster was optimistic that this partnership would create awareness of its by-mail offering to a whole new avenue of potential customers.
To satisfy its by-mail program, the company operated 39 distribution centers across the United States. It used the United States Postal Service to distribute movies and games from each of its centers, giving Blockbuster the ability to reach its customers within one business day. Consider, therefore, how much volume the USPS lost when Blockbuster went away (and, subsequently, Netflix turned more vigilantly to streaming). Ouch. And we wonder why the USPS is a distressed sh*tshow.
Reviewing Blockbuster’s old school digital initiatives is like hopping into a DeLorean, blasting some Huey Lewis & the News and taking a trip back in time.At the time of filing, Blockbuster customers had the option of downloading Blockbuster’s PC application and then downloading and viewing movies, a process that, though only a mere few years ago, sounds like a complete and utter nightmare. Blockbuster also became a fixture with embedded apps on “smart internet-connected tvs,” and blu-ray players. Remember those? It also partnered with Motorola and HTC to embed its digital apps in popular new mobile models for Verizon and T-Mobile. Finally, it was also in the midst of pursuing partnerships with cable tv providers to offer Blockbuster video-on-demand services inside an operator’s set-top-box infrastructure. We’re not even sure what that last bit means.
In a dramatic understatement, the company declared:
Blockbuster believes that its digital initiatives are integral to the transformation of its business, and that the digital channel will play a principal role in the success of the restructured entity upon exit from chapter 11.
As we all know, there was no real successful restructured entity upon exit from chapter 11.
So what led to Blockbuster’s plunge into bankruptcy court? The company stated:
Blockbuster has faced a number of challenges in recent years, which, taken together, have had a negative impact on its overall financial performance. Recently, declining revenues have been driven by: (i) increased competition in the media entertainment industry from alternative forms of entertainment; (ii) technological advances that have changed the landscape of the industry; (iii) changing consumer preferences; (iv) the rapid growth of disruptive new competitors; and (v) the general economic environment. Given these rapid changes and the difficult operating environment of the past several years, the Debtors’ ability to transform their business in response to this ever-changing landscape was severely hindered by the high level of debt that the business had incurred during earlier periods of significantly lower competition and higher operating performance.
It then went on to note the “largest challenge.” Insert Netflix ($NFLX) here. The company stated:
Likely the largest challenge that Blockbuster has faced in the past several years is the rapid rise of new competitors that use alternative distribution methods to meet customer demand. These competitors have garnered substantial market share and have eroded the size of Blockbuster’s traditional “brick and mortar” retail store based customer market, resulting in a decline in revenues. While Blockbuster has successfully launched its own channels of distribution in the by-mail and, through its partnership with NCR, vending kiosk markets, the revenues and profits from these new channels have not offset the negative economic results from the reduced traffic within, and downsizing of, its traditional store-based channel, which historically carried stronger margins than these other channels.
But the blame doesn’t stop with Netflix. Blockbuster also highlighted direct delivery media entertainment, e.g., direct broadcast satellite, cable television, broadband internet, TiVo/DVR, and the rise of digital competitors like Apple Inc. ($AAPL) and…wait for it…wait for it…Amazon Inc. ($AMZN).
With all of this competition nipping away at revenue streams the company had to address its costs via an operational restructuring. This is where the company unleashed its trimming devices. It shed approximately $570 mm in general and administrative costs in 2009 and 2010; it closed 1,061 unprofitable company-owned stores and liquidated inventory; it divested international assets, e.g., Ireland; and it granted security interests in unencumbered collateral in exchange for new credit.
But, with over $1 billion in debt, all of the operational fixes in the world couldn’t do the trick alone. The company had to address its balance sheet. In early 2009. In the middle of the financial crisis. Riiiiiiight. This is where the Great Recession and the capital markets make their appearances, respectively, in the Blockbuster story.
Regarding the former, the company noted:
…Blockbuster has for the last two years been operating in one of the most challenging economic environments since the Great Depression. During this time, the world economy and in particular the domestic economy, has suffered a severe economic downturn. Generally, domestic unemployment has remained high and consumer spending has remained low. As a result, customer sensitivity to changes in pricing and convenience has increased, negatively impacting the performance of most retailers, including Blockbuster.
Regarding the latter, the company hired Rothschild in February 2009 — rightfully a full year and a half ahead of its ultimate bankruptcy filing — to conjure up some financing options. This was the backdrop:
At this time, during the depths of the global financial crisis, Blockbuster was facing the imminent maturity of its revolving credit facility (which was its primary source of liquidity), with effectively no access to new capital given the state of the bank and bond markets and the accelerating deterioration of its financial performance.
In other words, the capital markets were, for all intents and purposes, closed. You couldn’t paint a more perfect storm for a business.
Consequently, these circumstances forced Blockbuster to replace its credit facility with a…
…steeply amortizing term loan that carried high rates of interest and fees and an amortization schedule that significantly reduced available liquidity and constrained operations.
This, for those who don’t remember or were to young to recognize the lessons of the financial crisis, is what happens when there is no longer a fervent frenzy for yield, baby, yield. Covenants return. Amort payments return. It is definitely not — in contrast to today — a borrower’s market. For Blockbuster, indeed it was NOT a borrower’s market.
And but for the sale of the Ireland assets and the liquidation of excess game inventory, liquidity would have been even more effed.
Shortly thereafter, in October 2009, Blockbuster issued $675mm in (quarterly amortizing) senior secured notes to refinance out the term loans and and get out ahead of its onerous and significant amortization payments. This gave the company a little bit of breathing room provided…provided…that it could execute on its business.
It couldn’t. The company continued to suffer as (i) competitors rapidly expanded, (ii) big-box retailers discounted sales of new-release titles, (iii) it failed to secure the 28-day competitive advantage on key titles ahead of the holidays, and (iv) just generally poor holiday performance. To put some numbers around just how bad it was:
In fiscal year 2009, revenues generated by the Debtors’ domestic segment decreased by 15.6%, declining same store comparables resulted in a $1.0 billion decrease in revenue, and Blockbuster reported a loss of $558.2 million.
Adding to the perfect storm, the announcement of these generally horrendous numbers triggered an expected response: (i) the company’s security prices declined considerably; (ii) the media homed in exacerbating matters; and (iii) the company now had to deal with tightening trade credit in both its domestic and international markets, all of which helped further constrain liquidity.
By March 2010, the company had to draw water from a stone. As negotiations with the various constituents in the company’s capital structure took place, the business continued to falter and, ahead of a $43mm amort payment on the new(ish) senior secured notes, the company was forced to lien-up unencumbered Canadian collateral in exchange for an additional 30 days of credit terms.
At and around the same time, the company attempted an out-of-court transaction pursuant to which the senior subordinated noteholders — the lowest tranche in the capital structure — would equitize their positions and backstop a rights offering that would infuse the business with a $100mm injection of much-needed cash. Under this plan, the senior secured notes would be left unimpaired and reinstated. But the business was deteriorating too quickly. This plan was wishful thinking. The company’s rapidly diminishing valuation simply didn’t support it. And so the company and its advisors had to turn to Plan B.
As a transaction with holders of $300mm of subordinated notes looked increasingly unrealistic given the sad and increasingly pathetic reality of Blockbuster’s business performance, the company had no choice but to turn its attention to the holders of the senior secured notes (Monarch Alternative Capital LP, Varde Partners Inc., Owl Creek Asset Management LP, Stonehill Capital Management LLC, Tenor Capital Management LP, and Icahn Capital Management LP). Those notes were increasingly looking like the “fulcrum security.” For the uninitiated, the “fulcrum security,” generally and simply, is where the projected and estimated value of the company meets the highest ranking impaired security in the capital structure. Said another way, in the early stages of the negotiations, the company and its lenders appeared to believe that the equity value of the business corresponded with the lower-ranking senior subordinated notes. That is to say, the parties involved thought that the business was worth more — and therefore covered — the $675mm of senior secured notes. In reality, however, the business was deteriorating so rapidly that the senior subordinated notes were — sadly for those investors — out of the money.
Given this new reality, the company hoped to swap the senior secured notes in exchange for equity and a $125mm DIP credit facility. For the holders of subordinated notes, preferred and common stock, this new proposal foreshadowed a recovery of, as Jay-Z once said, “zip, zero, stingy with dinero.” The company and its bankers contemporaneously explored a strategic transaction with outside parties, none of which ultimately proved fruitful. In other words, nobody…NOBODY…was interested in buying Blockbuster. Oh how the mighty had fallen.
Compounding matters, Blockbuster pursued these various avenues while also functioning as a public company. Which means quarterly SEC Filings. Its Q2 2010 results continued the string of poor performance, providing tailwinds to the negative press and financial coverage. Meanwhile, the NYSE delisted the company’s stock. All of this had the collateral effect of complicating the company’s efforts to negotiate new trade agreements with certain key movie studios, which were critical to the company’s go-forward business.
At the end of Q3, the company entered into a plan support agreement with holders representing 80% of the principal amount of senior secured notes that would delever the company and provide it with much-needed (DIP) financing to operate its business. It filed for bankruptcy on September 23, 2010. Major creditors included Twentieth Century Fox Home Entertainment, Warmer Home Video Inc., Sony Pictures Home Entertainment, The Walt Disney Company, Universal Studios Home Entertainment, and Lions Gate.
Alas, the plan support agreement did not hold and the company, AGAIN, had to pivot strategy. Per the company:
Due to, among other things, poor holiday sales, deteriorating business operations, the inability to reach a consensus with the DIP Lenders with respect to a long-term business plan and the failure to meet certain other milestones required by the PSA, the Debtors, in conjunction and in consultation with the Steering Committee, determined that the Plan was no longer feasible. The Debtors and the Steering Committee thus agreed, in an effort to maximize the value of the Debtors’ estates, to pursue a sale of substantially all of the Debtors’ assets on an expedited basis under section 363 of the Bankruptcy Code.
The company defaulted under the DIP credit facility. The Senior Secured Noteholders, therefore, terminated it. If any of this sounds familiar, it should: it’s not all-too-dissimilar from the Toys R Us situation. The company, however, was able to locate a viable stalking horse purchaser of the assets: a subset of the Senior Secured Noteholders.
Introducing Cobalt Video Holdco LLC, an acquisition vehicle set up to house the ghost of Blockbuster past. Carl Icahn stood at the head of the entity, leading funds managed by Monarch Alternative Capital LP, Owl Creek Asset Management LP, Stonehill Capital Management LLC and Varde partners, Inc., which, combined, owned more than 50% of the outstanding senior secured notes. Cobalt agreed to pay somewhere between $265 and $290 million, depending upon a variety of contingencies — including consummation of a a definitive agreement with five of six major studios to continue to support Blockbuster’s digital business and ship physical copies of movies. The agreement included an “Agency Alternative,” which gave Cobalt the option to compel a conversion to a Chapter 7 liquidation if it was unable to obtain the right to assume certain unexpired leases. The agreement also limited the extent of assumed liabilities.
Still, the agreement, somewhat shockingly in retrospect, did, in fact, envision, a continued brick-and-mortar presence. Albeit a much smaller one: it designated 609 locations for liquidation and closure. And there was no obligation on the part of Cobalt to keep any stores open, in fact, after the initial wave of closures.
Outside of the company, its direct professionals and Carl Icahn, most constituencies — including dozens of active objectors — thought the proposed purchase was a joke. Primarily because it ensured that the professionals got paid and the lenders recovered some of their claims, leaving nearly nothing for anyone else. The Office of the United States Trustee for the Department of Justice objected on the grounds that the proposed plan was a “virtual Chapter 7.” And, therefore, supported a conversion to chapter 7.
The opposition led to some concessions by Icahn and his band of resourceful co-conspirators…uh, buyers. Among them, (i) the movie studios would receive 50% of their claims, (ii) unsecured creditors would get a “tip” of de minimis cash consideration to shut the eff up, (iii) a lower wind-down budget and (iv) rejiggered waterfall of sale proceeds.
The beautiful thing about bankruptcy auctions, however, is that they are subject to higher or better offers. That is, if you can get past quibbling over pizza to arrive at a deal.
For Wall Street lawyers and bankers, it was a Blockbuster Night.
Starting early Monday and ending at 1:30 a.m. Wednesday, from the stuffy chambers of the U.S. bankruptcy court to the stark aerie of a Manhattan law firm, the auction for video-store chain Blockbuster Inc. at times became like a "cage match," said one person who was there. Another likened it to a "lawyers' gang fight," worthy of the Jets and Sharks of "West Side Story."
On the line: The fate of a company that employs more than 16,000 workers around the country. Liquidators were among the four bidders vying for Blockbuster's assets.
Also in the mix was corporate raider Carl Icahn, whose associate erupted in a shouting match with a creditors' lawyer. A rival group of hedge funds led by Monarch Alternative Capital complained that the auction lacked transparency. As the clock neared midnight on Wednesday, there were even allegations of stolen pizza.
"A good auction throws off good heat. If you don't have heat, you don't have a good auction," said Neil Augustine, the Rothschild Inc. banker who represented Blockbuster and presided over the auction.
Correction: if you don’t have good pizza, you don’t have a good auction:
As the break stretched to several hours, lawyers munched M&Ms and chips from snack machines and drank sodas before finally ordering pizza around 9 p.m. The first batch of pizza was devoured quickly and another round of pies didn't arrive until around 11 p.m.
Some bidders ordered food directly to their "breakout" rooms, and accusations soon flew that some were stealing pizza from others.
PETITION Note: Nothing like a bunch of 1%ers fighting over some Papa John’s while negotiating over a transaction worth hundreds of millions of dollars. Hilarious.
Dish Network Corp. ($DISH) dove in with a handheld fan and won out with a $320mm bid (which, after price adjustments, amounted to $228mm in cash). Bloomberg reported:
The deal with Dish will build Blockbuster’s subscriber-based service as it evaluates how many stores to close with its new owner, Blockbuster Chief Executive Officer James W. Keyes said earlier this month. He said 29,000 jobs and “billions” of dollars in contracts with suppliers were in limbo until the deal is completed.
Ryan Lawler reported the rationale for the purchase as follows for the now defunct Gigaom site:
Dish appears ready to try to keep Blockbuster afloat and use its brand and physical locations for cross-sale opportunities, among other things.
With so many locations throughout the U.S., Dish could use free or discounted Blockbuster rentals as a value-add to its pay TV subscribers. It could leverage the movie chain’s physical presence and brand in marketing efforts aimed at Blockbuster customers. But the more interesting opportunities could lie online: Blockbuster also holds streaming rights to a number of video titles that Dish could use to expand its own streaming offerings, perhaps rolling the Blockbuster licenses into a Dish-branded online VOD offering.
All that said, Dish will have to move quickly to make those synergies actually work.
Dish won’t have three or four years to make synergies with Blockbuster work.
Indeed, Dish stated:
“With its more than 1,700 store locations, a highly recognizable brand and multiple methods of delivery, Blockbuster will complement our existing video offerings while presenting cross-marketing and service extension opportunities for Dish Network… While Blockbuster’s business faces significant challenges, we look forward to working with its employees to re-establish Blockbuster’s brand as a leader in video entertainment.”
Mmm hmm. Sure.
*****Dish’s dalliance with the Blockbuster brand proved short-lived. At the time of the auction, The Wall Street Journal wrote:
The deal means that Blockbuster avoids liquidation.
It spoke to soon.
Dish started shedding stores almost immediately after the purchase and throughout 2012. In January 2013, Dish continued decreasing the Blockbuster footprint, shedding 300 additional stores and cutting jobs in January 2013. Per The Wall Street Journal:
Dish Network Corp. plans to close a further 300 Blockbuster stores in the U.S. in the coming weeks, leaving the video chain with less than one-third of the stores acquired by the satellite-television company in 2011.
The closures will result in the layoffs of 3,000 employees, or about 40% of Blockbuster's workforce of 7,300, a spokesman for Dish said Tuesday.
About 500 Blockbuster stores will remain open in the U.S. after the moves, Dish said.
Blockbuster, which had more than 9,000 retail stores across America just nine years ago, is closing the few hundred video-rental stores that it still has, the company’s owner, Dish Network, said on Wednesday in a bittersweet but long-expected announcement.
Contrary to what we often say, perhaps what is dead may actually die.
So what’s left of Blockbuster on this 8th anniversary of the bankruptcy filing? One store. One hilarious Twitter account. A Kickstarter-funded documentary in the works. A craft beer (naturally). One outdated website. An upfront cameo in the brand-spanking-new Captain Marvel trailer. And lots of nostalgia.
📼 The last Blockbuster stores in Alaska are closing.
That leaves just one store in the entire U.S.: Bend, Oregon.https://t.co/4zLb7gn1kn
Sometimes you want to watch something fucked up like Human Centipede or Fraggle Rock but you don't want it sitting on your shelf at home where loved ones could see it. That's where we come in.August 24, 2018
We like that you guys are safely disposing of your needles but that's not the purpose of the movie return slot.August 30, 2018
Just a reminder that while Netflix was busy adding commercials to your experience we were busy adding ant traps to give you an ant free experience.August 20, 2018
Congrats to the little league team we sponsor on a stellar 2-11 season. Enjoy the pizza party you talentless hacks.July 27, 2018
Anyone else stare longingly when u pass by where a Blockbuster used to be?August 28, 2018
We recently crossed Netflix’ 21st anniversary:
On this day in 1997: Netflix founded
Netflix website in 1999: pic.twitter.com/4GafjdqCLt
August 29, 1997: Netflix launches as a direct mailing DVD service.
2000: Reed Hastings (Netflix CEO) approaches John Antico (former Blockbuster CEO), offers to sell for $50 million. Antico declines.
August 29, 2018: Netflix has 118 million subscribers and is worth $156 billion. pic.twitter.com/Tvi2Qil2yL
And — just saying — Netflix has significantly more debt than Blockbuster had at the time of its bankruptcy filing. All in the name of creating original content.
And R.I.P. Blockbuster.
Jurisdiction: Southern District of New York (Judge Lifland)
Capital Structure: $675mm ‘14 11.75% senior secured notes ($630mm outstanding: includes a quarterly redemption of 3.33% of the original principal amount of the notes at a price of 106% of the principal amount)(US Bank NA); $300mm ‘12 9% senior subordinated unsecured notes (Bank of New York Mellon)
Legal: Weil Gotshal & Manges LLP (Stephen Karotkin, Martin Sosland, Debra Hoehne, Charles Persons)
Financial Advisor: Alvarez & Marsal North America LLC (Jeffrey Stegenga, Justin Schmaltz)
Investment Banker: Rothschild & Co. (Neil Augustine)
Claims Agent: KCC
Other Parties in Interest:
Ad Hoc Group of Senior Secured Notes (Legal: Sidley Austin LLP; Financial Advisor: Houlihan Lokey Howard & Zukin Inc.)
Ad Hoc Group of Senior Subordinated Notes (Legal: Paul Weiss Rifkind Wharton & Garrison LLP; Financial Advisor: Moelis & Co.
Official Committee of Unsecured Creditors (Legal: Cooley LLP - Jay Indyke, Cathy Hershcopf, Richard Kanowitz, Jeffrey Cohen, Seth Van Aalten, Robert Winning; Financial Advisor: FTI Consulting Inc. - Steven Simms, Mark Laber)