Wow. There’s plenty of buzz surrounding Blockbuster’s offer to buy Circuit City. Blockbuster’s reasoning is full of the usual business jargon: cutting costs, benefiting from complementary products, exploiting the growing convergence of media content and electronic devices, etc. All this will result in a “game-changing retail concept with a sustainable competitive advantage.”
I admit that I’m interested in seeing this deal happen just because it’d create something we haven’t seen before. Imagine movies and video games for sale/rent in the same store you buy electronics/gadgets. Sounds kind of fun, but a sustainable competitive advantage? I’m not so sure.
The full text of Blockbuster’s February 17 letter to Circuit City:
February 17, 2008
Mr. Philip J. Schoonover
Chairman, President, and Chief Executive Officer
Circuit City Stores, Inc.
9950 Mayland Drive
Richmond, VA 23233
Since early December, we have had a number of conversations regarding the potential combination of our businesses. As a follow-up to those discussions, I would like to formally reiterate our interest in pursuing an acquisition of Circuit City. The purpose of this letter is to ensure that there is no ambiguity and to outline our proposal.
Our vision for the “new” Blockbuster is to be the most convenient source for media entertainment. We have undertaken a series of strategic initiatives including enhancement of our core rental business; a transition from solely rental to a concentration on consumer retail; and development of the fast-growing digital download market. We are pleased that these strategic initiatives have begun to improve our financial results and anticipate further improvement going forward.
The combination of Blockbuster and Circuit City will result in an $18 billion retail enterprise uniquely positioned for the convergence of media content and electronic devices. We would seek to differentiate products in both Blockbuster and Circuit City stores by offering exclusive content and content-enabled devices. Both companies would benefit from complementary products, marketing, management strengths, technology and distribution and the resulting synergies would significantly improve consolidated financial performance. Overall, I strongly believe that a combination of Blockbuster and Circuit City would deliver significant value to our respective shareholders, enhance the overall customer experience, and energize our employees.
Based on our review of publicly available information, we are confident that we can provide a substantial premium to your shareholders with an all cash offer in the range of $6.00 to $8.00 per share, subject to due diligence. We are also willing to pursue alternative structures which would enable Circuit City shareholders to receive stock and participate in what we believe would be an exciting future for the combined enterprise. Given current debt market conditions, we believe most of the cash necessary would
be generated through the issuance of additional Blockbuster equity, most probably in a rights offering to our existing shareholders. We believe they, and the market, will recognize the merits of this transaction and we are confident that we can raise the required equity. The borrowing capacity of the combined business would provide the remaining cash proceeds.
Time is of the essence and we are focused on minimizing the risk of business disruption. We are prepared to commence a very short due diligence process immediately, on the basis of exclusivity, with the intention of entering into a definitive agreement shortly thereafter. Attached, as an appendix to this letter, you will find a concise list of the most critical due diligence items which we would need to review in order to confirm our final offer. We have reviewed this potential transaction with our board of directors, and it is with their full support that we make this request to move forward. Given the importance of this opportunity to Blockbuster and the strong desire to complete it as soon as possible, we would be grateful for your response no later than 5:00 PM CST on February 21, 2008.
Again, I thank you for the time you have spent discussing this opportunity with me. I am prepared to discuss the details of this proposal at your earliest convenience and believe that we will be able to quickly come to a mutually beneficial agreement. I look forward to working together on this exciting opportunity.
Very truly yours,
Chairman and Chief Executive Officer
Critical Due Diligence Items
* Long-term corporate strategic plan and outlook (including 2008 in detail)
* Detailed store-level performance / economics
o Store level G&A
o EBITDA (4-Wall)
o Cash Flow
* Detailed review of real estate footprint
o Lease abstracts
o Locations relative to Best Buy stores
* Corporate headcount with breakdown by division / department
* Detailed G&A expense structure
* Detailed organizational structure
* Monthly working capital schedules for past three years and projected months of 2008
* Current inventory and accounts receivable aging schedules
* Key terms of material supplier / vendor contracts
* IT system overview and structure
* Briefs outlining any outstanding / pending litigation claims or regulatory matters
Circuit City Confirms Receipt of Unsolicited Proposal from Blockbuster:
Circuit City Stores, Inc. today confirmed that it received an unsolicited, non-binding proposal from Blockbuster Inc. (NYSE: BBI) to acquire all of the outstanding shares of Circuit City for at least $6.00 per share in cash. Consistent with its fiduciary duties, the Circuit City Board of Directors, in consultation with its outside legal and financial advisors, will continue to carefully consider and evaluate Blockbuster’s unsolicited proposal. Circuit City advises shareholders to take no action at this time with respect to the unsolicited proposal from Blockbuster.
The Company noted that its Board of Directors has previously reviewed a similar private proposal from Blockbuster. Circuit City, Blockbuster and their respective financial advisors have been in a process of exchanging information regarding the proposal, but to date Blockbuster has been unable to satisfy Circuit City and its advisors that Blockbuster’s proposal could be financed. In particular, Blockbuster’s proposal appears to contemplate a rights offering of unprecedented size relative to the issuing company’s market capitalization and at a price that is at a significant premium to Blockbuster’s current market price. Circuit City’s advisors have noted that most rights offerings, of which there have been very few in the United States, occur at discounts to market.
In addition, Circuit City and its advisors have a number of other fundamental questions regarding the structure, sources and uses of funds and consents required with respect to the proposed transaction. Among those questions are whether the proposed acquisition would require a refinancing of the existing Blockbuster debt, and if so, what would be the terms and structure of any new debt; how large a rights offering would be required to fund the transaction and what steps Blockbuster has taken to provide a backstop to ensure successful execution of the rights offering contemplated; and what precise internal and external approvals Blockbuster anticipates for a proposed transaction, including approval of the contemplated rights offering by Blockbuster shareholders and registration of the offering with the Securities and Exchange Commission.
While willing to engage in discussions to further understand Blockbuster’s proposal, having shared certain information with Blockbuster, Circuit City is unwilling to provide Blockbuster with additional detailed due diligence information and embark on a highly conditional undertaking until these questions are answered satisfactorily.
Wachtell, Lipton, Rosen & Katz is serving as Circuit City’s legal counsel and Goldman Sachs is serving as financial advisor.