Coinstar: Counting More Than Coins

Shares get a jolt after the company announces a deal to boost the number of DVD rental and coin machines at Wal-Mart

Like the loose change that is Coinstar's (CSTR) bread-and-butter, the coin-counting company's after-hours earnings announcement Feb. 7 was almost an afterthought. Announcing a deal with Wal-Mart Stores (WMT) will have that effect.

Under the terms of the agreement, Wal-Mart will increase the number of Redbox DVD rental units from 800 to more than 3,000 over the next 12 to 18 months. Wal-Mart will also install 2,000 coin-counting machines in the superstores, to go along with the current 400. Elated investors, who had seen the stock fall 16% since Oct. 31, pushed the shares up 10%, to close at 31.97 on Feb. 8.

Still, Coinstar did release earnings. The Bellvue (Wash.) company, which also operates Redbox DVD machines and gift card dispensers, lost $22.3 million, or 80¢ a share, in 2007, against a gain of $18.6 million, or 66¢ a share in 2006. Revenues came in at $546.3 million, compared with $534.4 million in 2006, an increase of 2.2%.

The loss came on a $65.2 million write-off in its entertainment business, which includes rides and games placed in the entrances of supermarkets. Over the next 12 months, Coinstar will be pulling the machines out of Wal-Mart stores, to be replaced with the DVD and change counting units, hence the massive markdown.

"It's been a bit of a disappointment money-wise," analyst Eric Wold of Merriman Curhan Ford (which is a market maker in Coinstar securities) said. "But they're replacing a lot of the space those [ride and game] machines took up at Wal-Mart and replacing them with higher margin and higher revenue Redbox and coin-counting machines."

However, the losses might just be the cost of doing business with the Bentonville (Ark.)-based retail giant. Coinstar bought its entertainment division three-and-a-half years ago as a way to get its coin-counting machines into Wal-Mart's superstores. "At the time they bought it, Wal-Mart was 50% of that company’s revenues," Wold said. "Frankly, if they hadn't bought [the entertainment business], we wouldn’t be discussing Wal-Mart at all."

Still, not everyone has been so enthusiastic. Coinstar said it expects revenues of $125 million from the deal by mid-2009, but that makes 2008 another transitional year, as it was in 2007. "The company's not going to see a substantial return on this for 12 to 18 months," B. Riley analyst Ali Mogharabi said.

Yet the phasing out of the games, leaving the coins and DVDs businesses, may make Coinstar a bit more recession proof. During a recession, consumers might think twice about paying $15 a month for Netflix or $5 for a movie rental from a store front, but they'll likely pony up $1 for a Redbox rental.

And while shoppers might refrain from dropping their coins into a crane game for a chance to win a stuffed animal, they’ll be predisposed to depositing those coins into the Coinstar kiosk's gaping maw, especially now that consumers can avoid the 9% fee by loading money onto a prepaid gift cards. After all, a penny saved is a penny earned.

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