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Almost everyone knows Marvel. The company owns the rights to over 5,000 character properties, most of which were brought to life through comic books. Some of the most recognizable super-heros and villains in the world are Marvel properties - Spider-Man, X-Men, The Fantastic Four, The Incredible Hulk, and Blade are some of the company's most valuable assets.

Using these trademarked characters, they have historically licensed the properties for use in movies, television series, video games, general merchandise (think bed spreads and t-shirts), and action figure toys. This Licensing segment has contributed over half of revenues and over 60% of earnings over the past 5 years. The venerable Publishing segment, which still produces Marvel's famous comic books, contributes a quarter of revenues and earnings. The toys segment, which collects royalties from partner Hasbro (HAS), provides the rest.

Licensing is a wonderful model. Marvel's characters require very little capital investment to maintain, and with their widespread recognition, appeal, and history, are almost impossible for a competitor to duplicate, providing the company with a durable competitive edge. The company has ridden it's "A" list to big profits over the last 7 years, as the Spider-Man and X-Men series of movies were big hits at the box office. This led to upticks in not only the licensing, but the publishing and toy businesses as well.

Now, Marvel has switched gears and is changing it's strategy from a pure licensor of characters to a movie production company. This is a high-risk, high-reward strategy. On the risk side, the company must bankroll production of these often high cost movies. If a big budget film tanks, a small company like Marvel could find itself in a pile of debt quite quickly. On the reward side, another set of blockbuster movies like Spider-Man sees the lion's share of profits flow directly to the company, in addition to the residual effects described before. Marvel also stands to profit handsomely from home movie distribution of it's self produced films.

The movie production arm of the business is crucial to this company's future success. The key is for the company to avoid high cost duds. Marvel is not immune to disappointing box office takes. Elektra, Ghost Rider, and The Punisher were all 3 disappointing films. Even more concerning is that the list of characters the company is planning to convert is not that well known or regarded. The two most popular characters in the list, The Incredible Hulk and Iron Man, are the first two slated for release in 2008 under Marvel's new strategy. After that, the only well-known character planned for conversion is Captain America.

MagicDiligence likes Marvel's historical business model, but is less enthused about it's new strategy as a Disney or Dreamworks style movie production company. There's a much higher cost structure and inherent risk involved now than before. Additionally, I have to question the timing. The most valuable assets will all be out of movie theaters for some time now. Lastly, the apparent cheap valuation is due to a spike in revenues and earnings related to Spider-Man 3 last summer.

My spidey-sense just doesn't tingle enough on this one.

Steve owns no position in any stocks discussed in this article.

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