Yesterday’s article focused on how Netflix, despite its stellar past stock performance, might not be a great future investment. Today I want to look at one of the victims of Netflix’s success and how it may present a great opportunity for options trading.
Shares of movie theater chain AMC (AMC) have tumbled some 56% from their 2017 high, as the era of ‘Netflix and chill’ has made the age of “Let’s all go to the movies” an anachronism.
But the recent performance of Blank Panther, which has now grossed over $1 billion and counting, shows the death of movie theaters has been greatly exaggerated.
There is no doubt the that over the past decade, the combination of affordable high-definition flat screen TVs, the rise of streaming, and the explosion of high quality over-top high content has created a secular headwind against theaters.
When given a choice of unlimited binging from Netflix (or HBO, or HULU etc) at $10 per month or going to the multiplex at the mall at $10 per ticket, the choice is easy. Why spend the time and money of going to the movies when you can have an equal or even better experience at home for a fraction of the cost?
But like many trends, once there is a consensus that people will never do (or eat, visit, or wear) something ever again, that usually marks the bottom, and a possible turning point for that something to come back into favor.
And in fact, the nadir of box office sales looks to have hit back in 2014. The industry has shown a measurable upturn over the past two years.
As noted, thanks to blockbusters such as Black Panther and the Last Jedi, 2018 is already off to a record start, with the domestic tally 36% higher than where the industry stood five years ago through the same date.
A Better, More Profitable Experience
Granted, some of the gains are strictly a function of higher ticket prices, but this is consistent with theater owners’ plans. Consumers are willing to pay more to get a distinctly better or different experience than they can enjoy at home.
To that end, AMC, which owns and operates over 365 theaters with 8,225 screens in the U.S. and another 262 theaters with 3,400 screens throughout Europe, has been adding large screen formats such as IMAX , upgrading theaters to include reclining chairs, offering reserved seating, and introducing more and better food choice.
This has allowed them to charge more and realize higher profit margins, especially on the food items. Last quarter, AMC reported food and beverage revenue was up 47% to $415.3 million, and average ticket prices went from $9.50 to $9.72.
AMC, which recently acquired the Carmike theater chain last year, expects these numbers to increase going forward as it works to re-brand its acquisition, which had been positioned as a “value” chain, to fall in line with AMC’s more upscale persona.
AMC expects more than 200 fully reclined theaters by the end of 2018. In addition, as Saudi Arabia looks to expand in entertainment, AMC could benefit. Partnering with the country provides an untapped market of more than 30 million people to serve.
Subscription Model
Another interesting way to combat streaming services is through subscription models, such as MoviePass (HMNY), which offers unlimited access to theaters for a fee of around $100 per year. For now, companies such as MoviePass seem willing to absorb the cost to grow their base, as AMC reported that that several hundred thousand of their subscribers showed up at AMC theaters at an average of 2.7 times per month. Movie pass paid AMC approximately $11.90 per ticket, which means that MoviePass paid over $32 per subscriber.
Consolidation Equals Higher Valuation
The movie theater industry has undergone tremendous consolidation, which gives the companies scale to reduce costs and leverage when negotiating with movie studios regarding revenue share and exclusivity.
For an example of this in action, take Cineworld acquiring Regal, which itself had already acquired Cinemark. The price paid for Regal was $3.6 billion, or 11 times EV/EBITDA.
If one applies a similar multiplier to the AMC/Carmike combination, one derives a $46 target price. That is well above the current $15 level.
To participate in the potential turnaround of the theaters’ fortunes, I want to buy longer-term call options.
Specifically, I’m purchasing the 15 strike calls that expire January 2019 for $2.50 per contract.
This options trading gives me 8 months to kick back, eat some popcorn and watch AMC shares move higher.
