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Hmv Group Plc

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(Updates with closing share price in fifth paragraph, comment from supplier in 14th.)

Jan. 21 (Bloomberg) -- HMV Group Plc, the U.K.'s biggest music and DVD retailer, may need to sell its Waterstone's bookstore chain, suspend its dividend or offer shares as time runs short to develop a business model for the digital age.

The retailer probably needs five years to shift its business away from CDs and DVDs and become a web- and mobile phone-based destination, said Mark Mulligan, an analyst at Forrester Research. With a banking covenant test due in April and suppliers having credit insurance reduced, it may need to buy time to implement such a strategy, analysts say.

Selling the 311-store Waterstone's chain might fetch as much as 75 million pounds ($119 million), according to Nick Bubb at Arden Partners. Eliminating the dividend would save about 31 million pounds for the Maidenhead, England-based retailer, which is diversifying into live music venues to boost sales as competition increases from supermarkets and online retailers.

"It would let them clear the decks to play another day," said Bubb, who rates the shares "neutral." "The danger is, they don't sell Waterstone's, and die a death of 1,000 cuts."

HMV shares have fallen every year since 2005, plunging 66 percent in 2010, and trade at a price-to-earnings ratio of less than three. They declined 3 pence, or 13 percent, to 20.5 pence in London trading today, the lowest since a 2002 initial public offering. HMV's market value of 87 million pounds is a fraction of the 845 million pounds that Permira Advisers Ltd. offered for the company in 2006.

Not For Sale

HMV said this month that profit would be at the lower end of analyst estimates and the covenant test would be "tight." The retailer also said it will close 60 U.K. outlets in 2011 after reporting a 14 percent decline in same-store sales at U.K. and Irish HMV stores in the 10 weeks ended Jan. 1.

Selling Waterstone's "would be the last thing they would want to do" as HMV might be viewed as a distressed seller and have difficulty getting a realistic price, said Sanjay Vidyarthi of Execution Noble who has a "sell" rating on the shares.

There's also a lack of suitable buyers, Vidyarthi said, while a sale would scuttle a four-store experiment in combining HMV and Waterstone's stores. Bookstores worldwide have struggled, as Amazon.com Inc.'s Kindle wins sales away from hard copies. Borders Group Inc., the second-biggest U.S. book chain, hasn't posted an annual profit since 2006 and is seeking to refinance debt, cut costs and restructure vendor agreements.

Waterstone's has not been put up for sale, said Paul Barker, a spokesman for HMV.

'Run on The Bank'

U.K. entertainment retailers have struggled to contend with competition from Tesco Plc and Amazon.com. The 99-year-old Woolworths Group Plc and U.K. music chain Zavvi Group both went into administration in December 2008.

HMV, whose debt excluding deferred financing fees nearly doubled to 151.6 million pounds by the October end of the first half, said this week some suppliers had their credit insurance levels reduced. Credit insurers seek to protect wholesale merchants against risk of non-payment, and suppliers could demand tougher terms from the retailer to compensate.

Suppliers losing credit insurance



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