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Is Napster Best Buy's Alternate Apple Strategy?

Remember a decade ago when discussions about virtual stores versus brick-and-mortar stores filled the hours between startup and IPO? That debate settled in to a somewhat stable median a few years ago, with Amazon.com and eBay maintaining pure online plays and the rest of the world looking for a balance between physical and virtual locations.

In the last few months, there have been several inflections on this theme that bear mentioning, especially given the latest news that Best Buy is planning to buy Napster for between $121 - 125 million in cash. We'll come back to that deal in a moment, but let's also look back at another potential deal: the Blockbuster-Circuit City deal that was considered earlier this year.

Blockbuster has attempted to diversify several times, with its initial attempts in 2000 with partner Enron to launch an online downloadable movie store. "Forget Doom," a Forbes article from that era heralds. "Curling up on the sofa to watch the latest Jim Carrey flick has become the killer app for broadband services."

That effort was a bit ill-fated, in no small part both to Enron's sleight-of-hand and Blockbuster's decision to use slower DSL rather than cable modems. But the experience - along with the later push to mail DVDs via its Total Access program in response to NetFlix - taught Blockbuster that it needed to diversify.

So when it approached struggling Circuit City at the beginning of this year, it did so under the premise that its physical footprint could expand as a way to draw crowds to brick-and-mortar while it continued to hone its online delivery services. "Successful combination of Blockbuster and Circuit City would immediately provide Blockbuster with a larger retail footprint throughout the U.S. and a broader customer base to which it could market its rental/download options in-store," said Lehman Brothers' Doug Anmuth. "As a result, the combination could potentially delay the number of net physical store closings by Blockbuster over time."

That last line seems key to the Best Buy-Naptser deal. Best Buy already has a strong balance sheet and is expanding its store fronts, including in many smaller markets where Circuit City has foundered. The company seems to realize, though, that a stronger online strategy might be helpful.

In the Blockbuster-Circuit City case, the argument couldn't be made for compelling "It's not quite clear to me what their intentions are," said Dennis Bryan, of First Pacific Advisors, a Circuit City shareholder. "or what's the strategic rationale for the deal."

Best Buy has been shoring up in other areas. It has a deal with Apple to sell the iPhone 3G in its retail stores, a first for any retailer, and has expanded the store-within-a-store concept that Apple had crafted in its work with now-liquidated CompUSA, filling in areas of the country in which Apple does not have a brick-and-mortar presence.

Showing that it can work both sides of the operating system aisle, Best Buy is also one of the companies called out by Microsoft in its recent announcement that it will begin putting Microsoft Gurus (somewhat akin to the Apple Genius at Apple's stores) in to Best Buy in an attempt to "answer questions about PCs and Microsoft products, as well as giving demos of how the company's products work together," according to a Microsoft spokesman.

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