One Year Later: Why I'm Selling Coinstar for a Huge Profit
Chad is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
One of Tuesday's best performing stocks is Coinstar (NASDAQ: CSTR), the owner of Coinstar and RedBox branded kiosks. The stock is trading around $60 per share, up about 18% after a busy 24 hours of news. In addition to reporting very strong fourth quarter sales and earnings, CSTR announced a streaming video partnership with Verizon (NYSE: VZ) and a $100 million acquisition of DVD assets from NCR Corp (NYSE: NCR), the maker of self-service kiosks.
Ironically, it was exactly one year ago, on Feb. 7, 2011, that I wrote a bullish piece on CSTR with the stock trading down hard to $39 per share (link: Coinstar Shares Look Very Cheap After Guiding Down Earnings Expectations). With a 50% gain, I am taking profits for several reasons.
The first is simply a valuation call. Investors are going to limit the price they pay for a company that sells physical DVDs through kiosks. RedBox is the leader in the space but the business is viewed as a dying breed. Eventually we are all going to go the streaming route and as more and more consumers become comfortable with the technology (not just younger people), sales and rentals of physical DVDs will see their decline accelerate. Although Coinstar has a strong, profitable business here, and the consumer is looking for the value proposition, investors will still be careful to pay up for antiquated technology. After a 50% run-up over the last year, CSTR stock is no longer dirt cheap.
And that is where the whole Verizon partnership comes in. With this deal, Coinstar is hoping to slowly transition their core kiosk customers to a streaming service with the help of a large, established player like Verizon. This is not unlike what Netflix (NASDAQ: NFLX) is trying to do by promoting their $8 per month streaming service and barely mentioning the fact that they still ship millions of DVDs out to customers' mailboxes every year. CSTR investors have been waiting for several quarters to hear about the company's digital strategy and now we know a little more, with the all-important details coming later this year when the service is officially launched.
Regardless of what pricing structure Verizon and Coinstar decide on, or what exactly their service offers, I do not think it will be huge boon to Coinstar's stock from here. As we have seen with Netflix, content costs are very high and competition is fierce. There are already questions about how well positioned Netflix really is longer term and how high-profit margins could possibly go with the business model as it sits today. Although Verizon and Coinstar are large, well-known players, adding another streaming product into the mix will just make competition worse, resulting in lower profit margins for everyone.
In terms of Coinstar directly, their Verizon partnership will almost certainly eat into their free cash flow. They were able to get Verizon to take on a majority stake in the joint venture (65%) but that 35% is still going to cost a lot of money that they have not had to spend up until now. Even if their kiosk business remains strong, which I do expect for at least a couple more years, earnings and cash flow will almost surely be hit by the capital expenditures required to cover their 35% interest in the new streaming venture. As earnings and cash flow erode, investors will surely give pause.
Without a lot of details about the new service, and a stock price that is soaring nearly 20% on the news, I think it is a great time to take profits in Coinstar stock if you are hoilding it here. I bet the streaming venture will prove more difficult than Wall Street seems to believe at first glance.
The Motley Fool has no positions in the stocks mentioned above. peridotcapital was long shares of NCR at the time of writing but positions may change at any time. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.
