QVC: the Ride Gets Bumpy

NEW YORK -- Is the bloom off the rose, or has QVC simply run into a pothole on the electronic superhighway?<BR><BR>QVC, the billion dollar-plus leader in home shopping, was viewed only recently as a lucrative profit center, with vast growth...

NEW YORK — Is the bloom off the rose, or has QVC simply run into a pothole on the electronic superhighway?

QVC, the billion dollar-plus leader in home shopping, was viewed only recently as a lucrative profit center, with vast growth potential.

In the last few months, however, the company has taken a big hit on the bottom line from its failed takeover attempt of Paramount Communications and, in the midst of several ambitious startups — and increased competition — has lost considerable ground in the financial community.

Last August, when the future of interactive marketing seemed rife with promise, and QVC boss Barry Diller’s reputation for creativity and leadership was dazzling Wall Street, QVC’s shares were trading at 73.

Since then, the stock has taken a nose dive. On Monday, the stock closed at 31 1/2, unchanged in over-the-counter trading.

“There was a belief a year ago that Barry Diller could walk on water,” one industry analyst said. “The market is now saying he can’t swim.”

Last week, QVC reported that first-quarter earnings dropped 31.5 percent. Net income in the previous quarter was off sharply after an $18.8 million after-tax charge to cover the company’s failed pursuit of Paramount.

QVC said its profit margins were hurt by higher gold prices that depressed markups on the jewelry products it sells. Jewelry is a key category, accounting for about 40 percent of the company’s overall sales.

The lower margins also reflected strong sales of QVC’s promotional Today’s Special Value items, which run about 8 to 10 percent below QVC’s normal prices, the company said. These items accounted for 20 percent of sales versus 16 percent a year earlier, QVC said.

Is this the classic retail dilemma of shoppers hanging back, waiting for markdowns?

No, says William Costello, executive vice president and chief financial officer of QVC.

“We’re very competitive on all our prices already,” he said. “What we don’t know is whether it was the strength of the TSV itself or that the rest of the mix was weaker last year.”

Wall Street analysts point to a number of reasons for the stock’s decline, including the general state of the stock market, which has only lately begun to rebound.

For the last few weeks the whole home shopping industry group of stocks has been suffering, analysts pointed out.

Other factors are affecting QVC: Growth in its core business has slowed, and revenues and earnings are running below what many analysts had expected. For example, first-quarter revenues were up only 8.4 percent and gross profits up only 2 percent.

Explaining the slowdown in its core business, Costello said, “Last year we had higher subscriber growth. Also last year, in the first quarter, we were up 16-17 percent. You just can’t sustain those levels.”

Meanwhile, Home Shopping Network, QVC’s chief rival — HSN does $1 billion a year, QVC $1.2 billion — pulled off a dramatic turnaround. The company reported first quarter earnings of $6.7 million, against a $17 million loss in the year-earlier period. Sales in the quarter ended March 31 rose 14.5 percent, while the company’s operating profit rose 17 percent. HSN attributes the successful quarter to impact from the new households it gained and improved merchandising and cost control.

Another drain on QVC’s profits has been two new businesses, international and Q2.

“The concern is that [QVC] has entered the international arena and is losing $25 million to $30 million for the year ending January 1995,” said Alvin Mirman, a communications analyst at Gruntal & Co. “They are also initiating a new channel, Q2, which will result in substantial losses. The question is, will customers buy the merchandise that’s offered on Q2?”

Q2, whose start-up costs have been estimated at $25 million for the current fiscal year, is a weekend lifestyle service that will offer relatively upscale products for the home, equipment for sports enthusiasts, apparel and even vacation packages.

“I think over time they will resolve these two issues and be an outstanding investment,” Mirman added. “At the present time, we think it’s difficult for the stock to be an outperforming issue.”

“There’s some nervousness now, whereas before you had really heady days,” said Steven Kernkraut, a managing director of Bear Sterns. “The home shopping industry is still something people are going to look at. As a group, they’re a good investment.

“There isn’t disillusionment, but general nervousness, over some of QVC’s new ventures,” Kernkraut said. “HSN’s earnings came in at the high end of what everybody was expecting, while QVC came in at the bottom range.”

As for QVC’s future earnings, Costello said the company could see growth in the low-double digits this year.

Kernkraut said it all depends on how quickly Q2 and the international division become profitable.

“We’re operating the company on a long term basis, and we’ve told people we will be making investments that will affect our earnings short term that will create new assets long term,” said Diller. “When I came into QVC a year and four months ago, the stock ran up because people felt I would create new assets.

“This is a period when the developments taken now will mean everything in three to five years, when we begin to see more interactive TV,” Diller said.

QVC’s explanation for the stock’s decline, according to a spokesman, is: “The current regulatory environment for cable is not great, and our stock gets hit in sympathy.”

Others noted that a year ago there was the perception that QVC did not have much competition. Since then, Time Warner and Spiegel’s Catalog 1 and Fingerhut’s S channel, as well as others, have emerged.

In addition, many Wall Street analysts were eager to see the completion of the proposed merger between QVC and Home Shopping Network — begun prior to the Paramount battle — since it would have reduced QVC’s competition and reduced costs.

Instead, QVC tried to acquire Paramount and the HSN deal was put aside.

“It would have created one entity that controlled over 96 percent of the home shopping industry,” said Kernkraut. “Investors have to wonder whether QVC is indeed focused on building a home shopping powerhouse or whether it is going to chase after another entertainment acquisition, shelving shopping ventures even further.”

Others said Diller’s declaration that he will pursue another media or entertainment company has spooked investors.

“The idea of a dilutive acquisition is not all that appealing,” said Mark Riely, a principal of MacDonald, Grippo, Riely, a consulting firm. “I think the acquisition thing hurt the stock again.”

Peter Siris, a cable analyst at UBS securities, said there was a concern over whether Diller would bid for Time Warner. Diller recently made a statement disavowing any interest in the company. That seems to have allayed some fears. However, Siris said there are still concerns that Diller will bid for something “massive and major that would hurt earnings.”

“People don’t quite know what they’re buying,” said James M. Meyer, a securities analyst with Janney, Montgomery, Scott in Philadelphia. “There is a general feeling that Diller is going to do something else big in the not distant future, but nobody knows what. Generally, when you buy a stock, you know what you’re buying. If you bought QVC a year ago, you thought you were buying a home shopping company, then six months later it looked like you were buying a big entertainment company.

“It looked like Diller was going to overpay for Paramount,” said Meyer. “I’m not sure I want to take at face value that all his deals will be good.”

“QVC was something that had everything going for it last year,” said Riely. “It had Diller, a perceived lack of competition and the HSN merger. Each of the elements got chipped away at a bit and HSN is now considered a competitor.”