Good morning. Welcome to the Blockbuster Inc. first quarter 2006 earnings release conference call. At this time, all participants have been placed on a listen-only mode. And the floor will be open for your questions following the presentation. It is now my pleasure to turn the floor over to your host Ms. Angelika Torres, Blockbuster's Director of Investor Relations. You may begin.

Thank you, Elsa. And good morning, everyone. Thank you for participating in Blockbuster's first quarter 2006 earnings conference call. This morning we will hear remarks from John Antioco, Chief Executive Officer, and Larry Zine, Chief Financial Officer. This earnings call may include forward-looking statements relating to our plans, objectives, and initiatives; our outlook for the industry and our performance relative to the industry; projected transfer of financial items; anticipated liquidity; goals for online subscriber growth and profitability; cost reduction expectations; divestitures, and other matters that do not relate strictly to historical or current facts. Actual results may differ materially from those projected in the forward-looking statements. For additional information, regarding these forward-looking statements, and factors that could cause actual results to differ materially, please refer to the cautionary statements in today's earnings release, and in our public Securities and Exchange Commission filings, including our 2005 Form 10-K, and our upcoming Form 10-Q. Today's earnings call may also include a discussion of certain non-GAAP financial measures. Please refer to today's earnings release for the required reconciliation to the most directly comparable GAAP financial measures and other related disclosures. Our earnings release is available on our website at www.Blockbuster.com, under the link for Investor Relations. With that, I will now turn the call over to Larry Zine, our Chief Financial Officer.

Thank you Angelika, and good morning, everyone. This was an important quarter for us, from a strategic and operational perspective, and was the second consecutive quarter of improved profitability and cash flow with operating income increasing $91.8 million year-over-year. In the second half of last year, we clearly communicated a plan designed to improve profitability and cash flow, by focusing on strengthening and growing our core in-store and online business, reducing our overhead structure, optimizing our store portfolio, improving financial flexibility, and lowering capital spending. Our first quarter results clearly demonstrate that our plan is well under way. Our domestic same-store rental revenues led by a 3.1% increase in domestic movie rental comps, are positive are for the first time since the first quarter of 2003 and our operating expenses are significantly lower year-over-year. As a result, overall profitability and cash flow have improved substantially. We also continue to actively manage our store portfolio, and have taken accelerated actions to that effect. As compared to the same time last year, domestically, we have closed 211 Blockbuster stores, and 45 stores that operate under other brands. In our international markets, we closed 45 stores, eight of which were non-Blockbuster branded, and we franchised 47 corporate stores in Australia. Overall, with the addition of the 112 new stores, the net year-over-year reduction in our company-operated store base totaled 236 stores. Looking specifically at the first quarter of 2006, in addition to approximately 65 stores we closed worldwide, at lease expiration, we were able to negotiate favorable early termination terms with our landlords, and closed approximately 25 Blockbuster, and 25 non-Blockbuster-branded stores in the U.S. Additionally, as part of the ongoing review of our international assets, we are currently in the process of exiting the Spanish market, and will close approximately 90 company-operated stores in the next few months. Now, let's talk about the most significant aspects of our Q1 performance in more detail. Total revenues decreased 7.7%, to $1.43 billion for the first quarter, mainly due to a shift away from high revenue, low margin merchandise sales, the 236 store reduction in our company-operated worldwide store base, significantly lower advertising and promotional activities, a year-over-year decline in Movie Pass subscribers, and continued pressure in the in-store rental industry. Our domestic same-store rental revenues increased 2.1%, and despite a significant impact from higher movie pass revenues, and heavy promotional activities in the first quarter of last year, we were able to drive a 3.1% increase in our domestic same-store movie rentals. The improvement in domestic same-store movie rentals was somewhat offset by a 6.8% decline in domestic same-store game rental revenues, mostly attributed to a lack of new game titles, as new game platforms from Sony and Nintendo are not expected to be released until late 2006 and early 2007. Worldwide same-store rental revenues decreased 0.7%, mostly as a result of a 9% decline in international same-store rental revenues, driven by negative industry trends, coupled with the growing rate of piracy. Worldwide same-store retail revenues declined 16.2% during the quarter, mainly due to lower sales of new movies, which resulted from our efforts to reduce merchandise inventory levels. Our gross profit declined by $61.5 million, mostly due to the decline in our international revenues, a reduction in our company-operated store base, and lower retail revenues in the U.S. Gross margin for the first quarter increased slightly to 56.1%, from 55.8% for the same period last year, mostly due to a change in the revenue mix between rental and retail. Rental revenues represented 74.5% of total revenues for the first quarter of 2006, as compared to 71.4% for the same period last year. Rental gross margin decreased 170 basis points to 66%, mostly due to the year-over-year growth in Blockbuster Online, which operates at a lower gross margin. Merchandise gross margin increased 100 basis points to 24.1% as new movie product sales were a lower percentage of the retail revenue mix, reflecting a reduction in our merchandise inventory levels. Operating income for the first quarter was $19.7 million, up $91.8 million from an operating loss of $72.1 million last year. The improvement in operating income was driven by a $147.1 million decline in SG&A, as compared to the first quarter of last year. Let me walk you through the components of that decrease. Overall, G&A declined by about $70 million, due to lower compensation expense, and a leaner overall cost structure, and was partially offset by severance, lease termination expenses, and costs incurred for our planned exit of the Spanish market. Out of the approximately $80 million decline in advertising costs, about $50 million was related to the 'No Late Fees' campaign in the first quarter of last year, and the remaining $30 million primarily reflects decreased in-store promotional activities, and lower year-over-year spending for Blockbuster Online. As a percentage of total revenues, SG&A expenses decreased to 51.2% for the first quarter of 2006, from 56.7% for the same period last year. The necessary steps we took to achieve our targeted SG&A, and operational savings this year did not come without cost. During the quarter, we incurred severance costs of approximately $10 million related to the reduction in force. Lease termination costs incurred for store closures were about $6.2 million, and we recorded $5.9 million in costs associated with the exit from Spain. The net loss for the quarter was $1.9 million, adjusted net income was $13 million, or $0.05 per diluted share, a significant improvement over an adjusted net loss of $48.6 million, or $0.26 per share for the same period last year. The improvement in net income was partially offset because for financial reporting purposes, we have not recorded income tax benefits associated with the current period results, due to operating losses incurred in the past. Our liquidity position and balance sheet continued to strengthen during the quarter, driven by the improvement in profitability and cash flow. Consequently, we were able to reduce the outstanding balance under our revolving credit facility by $75 million during the first quarter, to $60 million. And as a result, our borrowing capacity has increased to $238.9 million at March 31, 2006. Our free cash flow for the quarter increased by $181 million, to 32.9 million, from a negative $148.1 million for the same period last year. The significant increase was due to the improved profitability and lower capital spending. Also, as I mentioned on our last earnings call, since we did not have the build in inventory, and the associated accounts payable at year end, working capital was just a slight use of cash this quarter, versus a significant use of cash last year. I would like to conclude my remarks by saying that even though we are pleased with our results, and the progress we have made thus far, there is more to be done. We believe that the plan we have put in place is working, and as a Company, we will continue to execute on that plan by further optimizing our asset portfolio, and improving operational efficiencies in-store and online. Now, I will turn the call over to John.

Thank you, Larry. Good morning, everyone. We're happy to announce that 2006 is off to a strong start. And that our efforts to position the Company to compete more effectively in a rapidly changing world are paying off, as evidenced by the fact that we continue to pick up momentum in our top line, our domestic same-store rental revenues are positive for the first time in three years. Our SG&A is down substantially. Our operating margin is significantly improved. Profitability and cash flow have greatly increased and as a result, our liquidity and balance sheet have continued to strengthen. We have accomplished all of this, and created a consumer proposition, we believe, enables us to serve customers better than anyone else in the rental industry. Because we are the only ones in the marketplace with an integrated offering, whether customers want to shop in-store or online, or mix and match, they can do it all at Blockbuster and they can do it all without late fees. As a result of this unique consumer proposition, we believe we will outperform the rental industry in 2006 and beyond. Our first quarter results indicate to me that we are on our way to achieving that goal. Looking first at the reported industry numbers, both in-store and online, according to Rent Track, the domestic industry was down almost 2 percentage points for the first quarter. While we were up slightly over 2 percentage points. So although it is not a precise science, it would appear that we have nicely outperformed the industry. However, we continue to study Rent Track's methodology and how they derive their numbers, and that will determine whether we feel comfortable in citing these numbers in the future. Another way to measure out performance in the marketplace is to compare our active member counts with those of our franchisees who have continued to charge late fees, and what we consider to be a proxy for the industry at large. Prior to eliminating late fees, our active member trends and those of our franchisees tracked pretty closely together. However, since we have eliminated late fees, with a goal of better retaining customers, our active member numbers have consistently outperformed non-participating franchisees. This quarter was no exception. To best understand the impact of the changes we've made to our in-store rental proposition, compare the first quarter of '04, when we and our franchisees were both charging late fees, to the first quarter of this year. Based on that two-year comparison, the gap between our active member comps, and the non-participating franchisees is more than 11 percentage points. Our comp store revenue performance has been significantly better this year as well. So it appears by offering a superior consumer proposition, we are doing a much better job of retaining customers than others. As for the consolidation of the store-based business, we continue to believe it will occur, beginning this year, and continuing for the next several years. We know of at least 50 stores that were directly competitive with Blockbuster locations that closed in the first quarter alone. Our goal is to drive revenues from these closed stores, both our own and the competitors, to Blockbuster, as well as Blockbuster Online, and take advantage of the great flow-through profitability these transfer revenues offer. As to how many Blockbuster stores will close this year, our base plan is pretty consistent with what we have done in the past, in 2004 and 2005, somewhere around 150 stores in the U.S., and additional locations internationally. However, we are seeing the opportunity to negotiate cost effective closures of Blockbuster stores ahead of plan. We will execute this plan both in the U.S. and around the world, and during the first quarter, we did just that. As far as downsizing opportunities, it isn't a new topic for Blockbuster. We have consistently worked to optimize our real estate portfolio, and we have been moving towards smaller stores for years. As a result, we don't see downsizing holding huge opportunities for us going forward, especially downsizing through subleasing, which for the most part can be expensive, disruptive, and inefficient. However, we will continue to aggressively manage our real estate portfolio, and we will continue to work with both internal and external resources to reduce rents, weed out non-performing stores, and when the opportunity exists, downsize. We also continue to lower our store level cost structure, in order to improve our store level profitability. We have already improved our product margin mix, by putting more emphasis on rental and previously viewed product, and less on new retail, considerably improved our store labor productivity, as measured by transactions per hour, over the past 12 months, and lowered our distribution costs to the stores. So we feel very comfortable about our consumer proposition. We can grow our share, our same-store revenues, continue to lower costs, and profitably build our store business. Which gets more and more integrated with our online business every day. Looking at our online business, we continue to believe we will meet or exceed our goals of 2 million subscribers by year end, with the majority of subscribers being added in the last half of the year. As you know, when we launched our online service in August of 2004, we had terrific growth for the first 12 months. We were then forced to shut down our marketing spending in the later half of 2005. As a result, consumer awareness of our service dropped, and we lost momentum. We only began advertising again in February of this year. But still, during the first quarter of '06, spent only about half as much as we did during the same period last year. But the good news is, we haven't been sitting idle. We've made significant service level enhancements to Blockbuster Online to improve our already good service, and among other things, have shortened our round trip shipping time, and improved the average queue position chip, so more subscribers are getting their preferred new releases more quickly. We have also been continuously improving the website experience and by the end of the second quarter, we believe subscribers will find our website provides them with an even more enjoyable online rental experience. As it relates to the question of online cannibalization, after lots of analysis, we believe not only are we keeping customers who would have left us for a competing service, by transferring them to Blockbuster Online, which alone would be enough to justify our actions, we have also found that on average, our average store-based customer becomes a Blockbuster Online subscriber, increases the overall revenue they spend with us and the operating profit we earn from them over time. So now based on our comfort level with the enhanced online rental experience we offer, and the profit contribution per Blockbuster Online customer, you will see us stepping up our efforts, and keeping with our plan during the second half of the year, both in-store and through online and traditional advertising. We will clearly be communicating that in addition to having movies in-store, Blockbuster also delivers. Once again, we believe all of this will help us meet or exceed our goals of 2 million subscribers by year end, while still enabling us to lose significantly less money with our service than we did in 2005, which put more positively, means we believe we will be able to enhance our year-on-year profitability, and still grow our online business at a significant rate in 2006, and be profitable in '07. I'm sure many of you are wondering about the Netflix patent lawsuit. Clearly, we would have not gone into this business if we weren't confident of our business prospects, and the legality of our offering. The fact that Netflix waited 19 months after the launch of Blockbuster Online and watched us make significant investment into the service, yet during this time, never contacted us with any concerns about patent infringement -- which is highly unusual in these type of cases -- indicates to us that this is intent by Netflix to distract us from competitive engagement. However, I hope I have laid out for you we're not distracted. We're focused on driving our subscriber numbers and believe we will ultimately prevail with this litigation, and with our plans for our online rental service. As Larry said, we have much more to do as a Company. But we are pleased with our results for the quarter, and pleased with the progress we have made to position the Company to take advantage of the opportunities in the marketplace. Starting with opportunities, with our store base rental, no matter what forecast you look at, for in store rental, it is still projected to be a multi-billion dollar business years into the future, and we plan on growing our share of that business. As for online rental, it is a growing business. Whether the opportunity is 12 million or 14 million subscribers, or even more over the next five years, we believe we know what we need to do, to get our share of that business and we're doing it. In short, we have a great brand with great consumer recognition, and a unique consumer proposition that we don't believe will be easy for a competitor in-store or online to duplicate. We are encouraged by the current performance of the theatrical box office. This should bode well for us, as these titles move to home video throughout the remainder of the year. Now, through the remainder of the year, we will continue to focus on improved store profitability, improved customer acquisition, both in-store and online, and continued cost containment, with one single goal in mind, to profitably grow our share of the overall rental industry. Thank you. And now, we will open it up for any questions.

Thank you. (Operator Instructions) Our first question is coming from Tony Wible with Citigroup. Please go ahead.

Thanks. Solid quarter, guys. Couple of questions. Don't know where to start but I think we can go to your comments, John, about cannibalization, and how you saw the average sales and profits from someone coming in were actually higher when then moved online. Can you elaborate where that cross-sell is coming from? Is it on previously viewed content? Is it general merchandise sales?

Well, actually, Tony -- are we getting feedback?

I can hear you just fine.

It is echoing a little bit in the room here. Actually what we see is obviously consumers continue to rent in the store some of which is because we induce them to with free rentals, and while they're in the store, they usually pick up a copy. So the combination of their online spending and their in-store spending raises the overall revenues, and then when you kind of net out the overall profitability of the customer, considering all of the loaded costs, you can easily come to the conclusion that net/net, this is a good changeover for us, so to speak.

If I net out the one-timers that we had this quarter, in the G&A line, and we look out on a per store location, it looks like the G&A cost per company-owned store was up a little bit. Is that just seasonality? In other words, should we see that kind of work itself out over the next three quarters?

Tony, are you talking as a percentage of revenues?

I'm just saying that if you took the G&A and you divided it by your ending store base, the G&A cost per store looked to be a little bit higher. I'm just curious if there is some kind of first quarter seasonality there that might be being picked up?

I don't think so. It might be a little bit related to online costs year-over-year, it really depends on how you divide it out.

Well, how many of the store closures happened late in the quarter versus middle or early?

Most of them would have happened later in the quarter.

Okay. So maybe that's it.

That certainly could be weighting it.

Last question is, just your current thoughts on the current advertising spending levels, are you comfortable with the current level? I know last time you had indicated that you were going to be backing away from broadcast advertising, and focusing more on kind of one to one channels. Should we assume that going forward?

Yes, you can assume we're comfortable with our current levels of spending on advertising.

Great. Thank you.

Tony, the exception would be as it relates to online, which is included in that, and as we ramp online up during the year, we would expect it that advertising would come up as a result, but in-line with what we've said previously. .

Thank you. Appreciate it.

Thank you, our next question is coming from Robert Meloche with JP Morgan. Please go ahead.

Good morning, everyone. Just in regard to Tony's last question in advertising for online, I know in the K, you disclosed about $30 million of advertising last year, had gone to online. Can you give us kind of a similar number for 1Q?

We haven't broken out that separately but as John said in his remarks it was about half of what it was last year for the first quarter, and I guess to further on that, we spent a pretty good chunk of money on advertising and online in the first quarter of last year.

Okay. Great. And then also if you could talk a little bit about the strength of video rental going into the second quarter. You know, April started out strong. The Rent Track number looked like it started to weaken just recently. I mean what are you expecting? Are you expecting kind of weakness in the middle of the quarter, and then coming back towards June, that type of thing?

Well, we're really not in the guidance-giving business at this point in time. I think that the Rent Track numbers as John said have always been directional. We will see how the quarter performs, from a title line-up during the quarter. April was a decent month in terms of box office year-over-year, and it is a little softer in the next couple of months. There are fewer titles, so we will see what happens. Again, this is all about competitive store offering, competitive online offering and we're working on the combination of the two, in conjunction with our expense management, so I think we're positioning ourselves appropriately for the revenues of the quarter.

I would also add that just to give it a little bit more color, the box office for the first quarter was down 6%. The box office for the second quarter is up about 5%. For the back half of the year, it would appear that the box office is going to be up mid to high single digits, depending on how the summer box office plays out. So I would say overall it is an improving box office trend through the balance of the year.

Great. Thank you. Thank you both very much.

Thank you. Our next question is coming from Arvind Bhatia with Sterne Agee. Please go ahead.

Good morning, guys. First question is on the CapEx for this year. I know you had given guidance for about $90 million. What is your guidance at this point for the year, and then in terms of the piracy topic that you brought up for international, I haven't heard you talk about that that much recently. Can you elaborate on what has changed on that front? Final question is on store closings, can you talk about if you're seeing historical type transfer of sales to existing stores, when you're closing them? In other words, I think you had talked about 25% transfer of sales to existing stores. Is that trend still holding up?

As it relates to CapEx, the first quarter was low, relative to the $90 million we said we were going to spend during the year. At this point, we're still in the mode of spending about $90 million a year, this year. It could change as the year goes on, depending on what happens in certain markets, et cetera. But the first quarter is generally a little lower in terms of capital than the rest of the year. So you can expect that the other quarters might be up slightly relative to this.

Okay.

John, do you want to talk about piracy?

Piracy has always been an issue internationally, you know, a bigger problem than obviously it is in the U.S. In certain countries, it has gotten, you know, over the last couple of year, more acute, and Spain is a specific example. Up to the point that not only are we competing with the pirates, but we're competing with other video stores that rent pirated product. That makes running a profitable business difficult. In other parts of the world, it just continues to be an issue. I don't know that it is necessarily any greater than it has been. But it continues to be something that we have to compete with. I wouldn't necessarily assume that any, that the issues related to piracy are going to get significantly worse. It would be nice if they got better.

Okay.

On your store closing revenue transfer question, that's still tends to be the case. You know, we're obviously very early on in that process, but on average, we see about 25% of the revenues transferring to other stores.

I guess when competitors are closing stores, are they in certain markets where you're stronger, is that a trend that you're seeing?

I don't have it market by market in front of me. But I would say it is kind of across the board, I couldn't necessarily say it is any more or any less. You know, in markets that we're stronger in. I think what you're going to see is as we have been talking about now for a couple of quarters, is that a lot of people who have been kind of hanging on, based on the declining revenues over the last couple of years, are not going to be able to hang on much longer, and when you consider the fact that the average independent video store in the U.S. does somewhere between $200,000 and $300,000 in revenues, it doesn't take that much of a decline to put it from profitable to unprofitable. Clearly, people will continue to want to rent in-store, and we would love to be the beneficiary of that, and we have been positioning ourselves to do that for a while now.

Thanks, guys.

Thank you. Our next question is coming from Stacey Widlitz with Pali Research. Please go ahead.

Thanks. Good morning. Can you guys comment on the $1.3 million ending online number? Was that generally in line with what you thought? And can you give us an idea of which is more of an issue at this point? Is it churn, or is it new sign-ups?

Well, we still are committed to our $2 million goal. As I mentioned in my remarks, Stacey, is that, you know, when we put the brakes on things last year, we lost a significant amount of momentum. So we always knew it would be slow going at first, and then we would have to build momentum during the year. Churn has improved, so clearly, we're never going to be happy with churn, but we're happy with the direction that churn is going in. The fact that we've gotten increasingly more comfortable with the prospects of online, its profitability, and how a customer behaves, once they go from a store customer to an online customer for us, you will see us step up our in-store efforts even more, which we have found is, let's call it the least costly sub for us to acquire; the best sub in terms of profitability, and in terms of the length of time they remain on the service. So as we go forward, the efforts that Blockbuster is in the online business, and the communication of that will become more and more dramatic in our stores. In addition to stepping up our efforts outside the stores both online and with some additional other forms of media.

Thanks.

Thank you. Our next question is coming from Carla Casella with JP Morgan. Please go ahead.

It is actually Carla Casella from J.P. Morgan. I wanted to know if you could talk about what percentage of your in-store rentals are coming from the subscription services, and the margin you're getting on that business versus a regular rental?

Well, toward the end of last year, after kind of studying the profitability of our business, in a more granular fashion, we made a conscious effort to do a couple of things. One is to intentionally reduce the amount of in-store movie passes, thereby improving the profitability of the customer on the Movie Pass, and freeing up availability of product for a la carte renters. At the same time, we intensified our efforts to sign people up for our Rewards program, which provides an incentive for a la carte renters to rent more from our stores, and we think that that is the best balance of profitability and customer satisfaction, between those customers who just want to rent one at a time and those customers who want a pass. Additionally, when we remove late fees as part of the consumer proposition at Blockbuster, we certainly knew that a significant percentage of customers were on a movie pass, as a means of avoiding late fees. So it is roughly, you know, it is roughly 10% of our membership base that fluctuates, up and down a little bit based on seasonality. You can assume somewhere in the mid teens for a percentage of our rental revenue comes from subscription inside the store. It is probably where it needs to be in order to get the best profit answer for us.

Okay. Great. Thank you.

Thank you. Our last question is coming from Grant Jordan with Wachovia Securities. Please go ahead.

Great. Thanks for taking the question. Most of my questions have been answered, but just as you look at your business, it seems like certainly the profitability has improved, and you've been able to reduce debt, and improve your balance sheet over the past six months. How do you think about your priorities going forward, between spending and reinvesting in the business, and advertising versus perhaps paying down more debt?

Well, I think as always, it will be the balance that we run is, we're going to be cautious on both sides. I mean if we have, and we generate free cash flow from asset sales, obviously we will use that for paying down debt. If we advertise in certain areas, or promote in certain areas, and see that we're getting returns from those investments we may step that up, but it would only be on a return on investment basis. I think what we're saying is we're going to run the balance for the year of prudent balance sheet and income statement management, and we're going to invest appropriately where we see returns. But we're not talking about spend levels beyond what we've already talked about in terms of capital. It is a $90 million number; we've talked about advertising, being $50 million less than what we have spent in the prior years for that. We've talked about the G&A reductions, and that we are achieving. So from all of that perspective, we're looking at it that we will take, free cash, manage it appropriately, and pay down debt wherever possible; while still giving us the ultimate flexibility if something comes up that looks like we can get a decent return on it.

Okay. Just to follow up on that, you talked about paying down debt with any asset sale proceeds. Is there any update as it relates to asset sale proceed, I mean as it relates to asset sales?

We're still in the process. We've not changed our view on the markets that we're looking at. Hopefully, we will have further updates in the next quarter or so.

Great. Thank you.

Thank you.

So to kind of build on Larry's last answer, in terms of what you can expect from Blockbuster going forward, it is continued focus on profitability, continued focus on growing our business in a profitable way. We are seeing some stronger growth in our competitive markets, whether that is coming from stores that are closing, or coming from customers who prefer our proposition over the competitors. All of that makes us feel good about the plan we are executing, and the results we expect to continue to get. With a little wind at our back from theatrical box office, that seems to be occurring now, those could all be good things for us as we go forward. We appreciate your time this morning, and look forward to talking with you in the next quarterly call. Thank you.

Thank you. At this time, I would like to turn the floor back over to Ms. Torres. Do you have any final remarks?

Well, I think John just summarized the final remarks. I would like to thank everybody for participating, and please give us a call if you have any questions.

Thank you. This does conclude today's teleconference. Please disconnect your lines at this time, and have a wonderful day.