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CC-004 Video rental · USA 2010

Hollywood Video — The Runner-Up That Won the Bidding War and Lost the Company

ecommerceliquidated2010s
Lifespan
1988–2010 · 22 yrs
Peak Stores
~1,900 (mid-2000s)
Killed By
streaming + LBO debt
Status
Liquidated

Summary

Hollywood Video was the perennial number two of American video rental — the chain that was always close behind Blockbuster and never quite caught it — and in 2010 it was liquidated along with the parent company that had bought it. Founded in Portland, Oregon in 1988 by Mark Wattles, it grew through the 1990s into roughly 1,900 stores, the clear second to Blockbuster's empire, with bright superstores, deep new-release walls, and a video-game retail offshoot, GameCrazy, planted inside many of them. It was never the killer in this story; it was the company that got killed twice over — first by a leveraged acquisition that buried its parent in debt, and then by the same streaming and kiosk forces that took down the whole rental business. By August 2010 every store was closed.

The decisive event was financial, not technological, and it happened years before the lights went out. In 2005, the much smaller Movie Gallery — an Alabama chain of small-town rental stores — won a bidding war against Blockbuster for Hollywood Video's parent, Hollywood Entertainment, paying about $1.2 billion. Outbidding the giant for the right to acquire the runner-up was a victory of the most expensive kind: Movie Gallery took on a debt load it could not service, and the combined company spent the rest of its short life servicing the price of the deal rather than fighting the future.

When that future arrived — Netflix by mail, Redbox in $1 kiosks, and streaming over broadband — the debt-laden combine had no room to maneuver. Movie Gallery filed for Chapter 11 in October 2007, emerged in 2008 weaker than it went in, and filed again in February 2010 with roughly 2,600 stores and more than 19,000 employees. This time there was no reorganizing. The company converted to liquidation, closed its Movie Gallery, Hollywood Video and GameCrazy stores in waves, and the last US locations went dark by the end of July 2010.

So Hollywood Video died of two diseases at once, and the order matters. Streaming and kiosks were killing the entire rental format — Blockbuster itself filed for bankruptcy weeks later, in September 2010. But Hollywood Video specifically was finished faster, and with no cushion, because the leveraged buyout had already drained the patient before the disease set in.

Timeline

1988
The Portland start
Mark Wattles opens the first Hollywood Video; the parent company is Hollywood Entertainment Corp.
1993
Going public
Hollywood Entertainment IPOs with about 16 stores and begins a rapid expansion.
mid-1990s–2000s
The clear number two
Hollywood Video grows to roughly 1,900 stores, trailing only Blockbuster, with big bright superstores and deep new-release inventory.
late 1990s
GameCrazy and the web
Hollywood launches the GameCrazy video-game retail concept inside its stores and buys the online retailer Reel.com (1998).
2005
The bidding war
Movie Gallery outbids Blockbuster for Hollywood Entertainment, paying about $1.2 billion — and taking on the debt that comes with it.
2005–07
The debt bites
Streaming, mail-DVD (Netflix) and kiosks (Redbox) erode rental demand while the combined company carries the cost of the acquisition.
October 2007
First bankruptcy
Movie Gallery files Chapter 11, closing hundreds of stores; it emerges in 2008.
February 3, 2010
Second bankruptcy
Movie Gallery files Chapter 11 again — about 2,600 US stores, more than 19,000 employees, liabilities of roughly $540 million — and announces 760 store closures.
late April 2010
Liquidation
With no viable path out, the company announces it will close and liquidate all remaining stores.
July 31, 2010
Lights out
The last US Movie Gallery and Hollywood Video stores close; Canadian operations wind down by early August.
September 2010
The giant follows
Blockbuster files for bankruptcy weeks later — confirmation that the format, not just one operator, was finished.

Always the Bridesmaid

Hollywood Video existed, for most of its life, in the long shadow of Blockbuster. Mark Wattles opened the first store in Portland in 1988 and took the parent company, Hollywood Entertainment, public in 1993 with just 16 locations; from there it expanded fast, building large, brightly lit superstores stocked deep with new releases — at times ordering dozens of copies of a single hit per store to guarantee a customer never left empty-handed. Through the late 1990s and early 2000s it settled into a stable second place: never as large as Blockbuster's roughly 9,000 stores, but a genuine national chain of around 1,900, with a recognizable brand and a game-retail sideline, GameCrazy, that gave it a second category under one roof.

That second-place position was, in retrospect, a comfortable trap. Hollywood Video was big enough to be a serious business and small enough to be a takeover target, in an industry whose entire premise — driving to a store to rent a physical disc — was about to be obsoleted by the mailbox, the kiosk and the broadband connection. The chain's fate would be decided less by how it ran its stores than by what happened to its ownership, and in 2005 its ownership changed hands in the worst possible way.

The $1.2 Billion Victory

In 2005, Hollywood Entertainment was in play, and two suitors wanted it: Blockbuster, the industry leader, and Movie Gallery, an Alabama-based chain best known for small-format rental stores in rural and small-town markets — a company substantially smaller than the target it was chasing. The two bid each other up, and Movie Gallery won, paying roughly $1.2 billion to acquire Hollywood Entertainment and beat Blockbuster to it.

It was the kind of victory that ought to come with a warning label. To buy a company bigger than itself, Movie Gallery took on a debt load — the deal saddled the combined business with hundreds of millions of dollars in obligations — that it would spend the rest of its existence struggling to carry. The logic, presumably, was scale: a combined Movie Gallery and Hollywood Video would be a stronger number two, better able to compete with Blockbuster. But the timing was catastrophic. The acquisition closed just as Netflix's mail-DVD subscriptions were going mainstream, just before Redbox's $1 kiosks colonized every supermarket entrance, and just before streaming made the trip to any video store optional. Movie Gallery had borrowed heavily to win a bigger stake in a business that was about to collapse — and now had to make debt payments out of a revenue stream that was draining away.

This is the LBO playbook's signature failure mode, run here on a public-company acquisition: load the balance sheet with debt to fund a deal, and you convert any downturn in the underlying business into a solvency crisis. A debt-free Hollywood Video might have shrunk slowly and painfully alongside the rest of the format. A Hollywood Video owned by a company that had mortgaged itself to buy it had no such luxury. The interest came due whether or not anyone was renting movies.

Two Bankruptcies and the Dark

The crisis arrived on schedule. In October 2007, just two years after the acquisition, Movie Gallery filed for Chapter 11, closing hundreds of underperforming stores in an attempt to right the balance sheet. It emerged in 2008 — leaner, but smaller and weaker, and into a market deteriorating faster than it could cut. Netflix kept growing, Redbox kiosks multiplied, broadband streaming improved, and the recession squeezed discretionary spending. The reorganized company was running uphill on a treadmill that kept speeding up.

On February 3, 2010, Movie Gallery filed for bankruptcy a second time, reporting roughly 2,600 US stores, more than 19,000 full- and part-time employees, and liabilities of about $540 million. It announced an immediate round of 760 store closures and tried to restructure around what remained. But the prospects were so poor that the company did not even attempt to emerge: by late April it had decided to close and liquidate everything. The Movie Gallery, Hollywood Video and GameCrazy stores were wound down in waves through the spring and summer, going-out-of-business sales stripping the new-release walls, and the last US locations closed by July 31, 2010, with Canada following in early August. Weeks later, in September, Blockbuster filed for bankruptcy too — the clearest possible sign that no operator, leveraged or not, was going to save the storefront rental business.

The Five Factors

01
Winning a bidding war can be the most expensive way to lose
Movie Gallery beat Blockbuster for Hollywood Entertainment in 2005 and paid about $1.2 billion for the privilege, taking on debt it could not service. Outbidding a larger rival for a declining asset is a victory that bills you for years; the winner of an auction is, often enough, simply the bidder who most overestimated the prize.
02
Acquisition debt converts a downturn into a death sentence
The borrowing that funded the Hollywood Video deal turned every drop in rental revenue into a solvency problem, because the interest was fixed while the income was not. Leverage taken on to buy growth removes the slack a company needs to survive the moment that growth reverses.
03
The format was dying regardless of the operator
Mail-DVD, $1 kiosks and streaming were obsoleting the trip to a video store across the entire industry; Blockbuster's own bankruptcy weeks later proved it. No amount of operational skill saves a business model whose core premise — drive somewhere to rent a disc — has been made unnecessary.
04
Scale built for one era is fixed cost in the next
Roughly 1,900 large Hollywood Video superstores, plus Movie Gallery's small-town fleet, were an asset while people rented physically and an enormous lease-and-staff liability the moment they stopped. A big store fleet cannot contract at the speed a demand collapse demands.
05
Being a stable number two is not a safe place to stand
Hollywood Video's comfortable second place made it a target rather than a survivor; it was big enough to be worth acquiring and not strong enough to control its own fate. In a disrupted industry, the runner-up is often acquired into someone else's debt before the disruption even finishes the job.

Aftermath

The liquidation ended the jobs of more than 19,000 people across the Movie Gallery, Hollywood Video and GameCrazy banners — store clerks, managers and game-counter staff, many in smaller towns where the rental store had been one of few entertainment options and few employers. The stores, large and small, emptied across the country, joining the wave of vacant video-rental boxes that became a visual marker of the early 2010s, soon to be matched by Blockbuster's own shuttered locations.

There was no meaningful brand afterlife. The Hollywood Video name effectively disappeared from retail; the company's old web domain was later repurposed, unrelated, as an entertainment-news site. What endures is the cautionary shape of the story: a runner-up that was sold, at the top of the market, to a smaller company willing to borrow more than the asset was worth, just as the entire format began to die. It is the rental industry's clearest illustration that financial engineering and technological disruption can arrive together — and that when they do, the company carrying the most debt is the first one the tide takes.

Lessons

  1. Treat a contested acquisition with suspicion: if a larger, better-capitalized rival is bidding and you win, ask whether you have outbid them or simply outspent your ability to pay — the prize of a bidding war is often a liability.
  2. Do not fund the purchase of a cyclical or disrupted business with debt you can only service at the top of the cycle; acquisition leverage turns the inevitable downturn into insolvency.
  3. Read the format, not just the competitor: Hollywood Video was beaten less by Blockbuster than by mail, kiosks and streaming that were obsoleting the whole category — diagnose whether your industry's premise still holds before you bet on your rank within it.
  4. Build the ability to shrink a store fleet as deliberately as the ability to grow it; physical scale that took a decade to assemble cannot be unwound at the speed a demand collapse requires.
  5. Recognize that a stable second place is not a defensive position in a disrupted market; being acquirable and not dominant is the profile of a company whose fate gets decided by its balance sheet, not its operations.

References