AMC Entertainment's (AMC) new preferred equity "APE" shares (APE) -- issued as a dividend to shareholders as of Aug. 19 -- began trading, so let's raise the curtain on how the stock is playing out.
Arguing for reason in a cultish "meme" stock like AMC may seem flawed. Trading in the stock, after all, often lacks rationality. On the other hand, some valuation parameters and motivating factors exist for buyers and sellers of the shares. As I wrote two weeks ago, buying the common stock of AMC at around $23 made little sense based on the upcoming dilution, uncertainty about the appetite for additional APE shares, and poor industry fundamentals.
Most financial media reported Monday's trading in shares of AMC as a plunge, possibly on the potential bankruptcy of its competitor Cineworld (CNWGY) . This mischaracterization led to a fair bit of confusion in the market, because most of the move down in AMC merely reflected the APE dividend. Like any dividend distribution, shares usually decline by a proportional amount of the dividend value. In fact, AMC plus APE shares were up for most of the day. The APE issuance also reflected that it's convertible into common shares, effectively a two-for-one split -- doubling the number of shares. On the day the media reported AMC plunged, the market cap actually increased by 15%, thanks to the additional APE shares. AMC's management lacks the approval to increase the outstanding share count, so the ability to convert to common may remain elusive.
While shares of AMC rallied from the excitement generated by the announcement of the pending APE dividend, AMC shareholders will soon figure out the structure is problematic for their ownership interest.
While shares of AMC rallied from the excitement generated by the announcement of the pending APE dividend, AMC shareholders will soon figure out the structure is problematic for their ownership interest. Considering APE-preferred shares have the equivalent ownership rights as common stock shareholders, the shares started trading at a surprisingly steep discount of over 40% to AMC common shares. The discount presents a fundamental flaw in the new structure: When the company issues new APE shares in the future, common shareholders will be diluted at a yawning discount to the market price of AMC. The prospect of AMC issuing more common stock will look far more appealing than raising new capital via APE shares.
Notable short seller Jim Chanos believes the newly issued APE shares dispels the cause célèbre for owning AMC shares -- the notion of a massive synthetic short leading to the "mother of all short squeezes."
The fundamental problem for AMC is that it burned through $95 million in cash during a solid summer season. The current quarter looks particularly bleak for moviegoing, although a strong rebound in the fourth quarter is anticipated with some potential blockbusters in December. For overall attendance, much of the problem stems from down the ticket. Blockbusters have proven to be a draw, but the slate of lower profile movies has remained weak. Reports that Cineworld -- the second largest movie chain and owner of Regal Cinemas -- may file for bankruptcy underscores the challenges faced by the industry. Perhaps there's an opportunity for AMC to consolidate the sector further, but the prospect won't give shareholders a fundamental reason to own shares at the current valuation.
To put AMC's valuation in perspective, Disney (DIS) trades at 3.15-times enterprise value to revenue while AMC trades at 4.6-times enterprise value to revenue. Of course, Disney is highly profitable, while AMC will likely continue to incur losses until after it pays down debt. AMC has authorization to issue 4.5 billion additional APE shares; at the current price, 900 million shares can clean up its debt -- almost another doubling of the share count.
The road ahead looks difficult for AMC's stock, with dilution on tap at a 40% potential discount in APE shares. The CEO, Adam Aron, referred to issuing new APE-preferred shares as 3D chess, yet AMC shareholders will be left scratching their heads to figure out how this benefits them in the near-term. In my previous column, I had recommended the same trade that Adam Aron is trying to pull off -- sell AMC stock to fund buying bonds. AMC's junk bonds maturing in 2027 at 60 cents on the dollar is a speculative investment, but it's like playing 3D chess compared to owning common stock.