Taking a Look at $AMC from the Creditor's Perspective
Capital structure considerations for all $AMC investors
In this post, I'll review AMC Entertainment's capital structure from a creditor's perspective. The company has a sizeable, multi-tranche debt balance with various stakeholders who each have their own incentives. As a result, there are quite a few different factors one must consider before making a simple statement such as “AMC is going bankrupt!” In my opinion, management has quite a few levers it could pull in order to avoid bankruptcy, even if the box office doesn’t return to pre-COVID levels or if the company is unable to issue more equity.
In the following sections, I'll provide an overview of the current situation, examine the company's existing capital structure, and present a few key considerations/preliminary views that one should take into account before investing in any part of AMC. That being said, I won’t be taking a view on the upcoming film slate/box office projections, which is the ultimate revenue driver here. Rather, this post is meant to review the company’s current capital structure and examine the options that management has at its disposal.
At a cursory level, a simple waterfall recovery analysis might suggest that most of the debt (including equity) beyond the first lien secured debt is impaired. However, I'll explain why this simple analysis is not only wrong but why junior parts of the capital structure might have better recoveries vs. what current market prices suggest. Importantly, I think the probability of bankruptcy is very much overstated despite what you may read in various media outlets. I am fairly confident that AMC is not a bankruptcy candidate in the near-term.
AMC Entertainment Holdings ("AMC") is a dominant player in the global movie theater industry, commanding 22% of the US box office through its network of 920 theaters and 10,246 screens across 11 countries. While the company's business model is familiar to most people, it's worth noting that while box office admissions are AMC's largest source of revenue, accounting for roughly 56%, food and beverage revenues, which account about 34%, are significantly more profitable. Nonetheless, the fate of the business is intrinsically tied to the success of the box office which is still well below its pre-COVID levels. Complicating matters even further are the recent Hollywood strikes which likely ensure a weaker box office in 2024 given halts in production. Prior to the strikes, AMC's competitor, Cineworld, projected an 18% improvement for the full year, with industrywide domestic box-office revenue reaching around 77% of 2019 levels, amounting to $8.7 billion
There are some positive indicators within the business. Both the US and European markets have seen increases in food and beverage spending per patron (+7% in 1Q’23), which is up a substantial +49% compared to 2019 levels. Furthermore, attendance at premium large format (“PLF”) theaters, such as IMAX and Dolby, has notably increased, boosting the company's profit margins. The company has a robust competitive position in the PLF segment, which boasts half of the IMAX screens in the US, and retains an ongoing exclusive US contract for Dolby Cinema.
Currently, AMC is striving to regain its pre-COVID ticket sales which have left earnings depressed. During the pandemic, the company raised a significant amount of debt (and equity) to bridge the funding gap caused by cinema closures and production delays. As earnings are still considerably lower than before, high interest payments are eating into the company's FCF, causing an ongoing liquidity crunch. And with already high leverage in a rising rate environment, debt capital markets remain closed to AMC, forcing the company to resort to equity capital issuance. This strategy proved successful during the "meme" stock mania in 2021. However, with the stock now 90% off its peak from two years ago, interest in continued equity raises is dwindling.
Recently, the company exceeded its allowed balance of issuable shares as defined by its equity charter agreement, meaning it can't issue any more common shares without an amendment. While it should be theoretically easy to amend, the majority of common shareholders in this case are retail investors who typically don't vote. Consequently, the company wasn’t originally able to secure enough votes to change the charter. To navigate this issue, AMC issued preferred equity units, known as APEs, which allowed them to cleverly get enough votes to pass a charter amendment. However, this was ultimately postponed due to a class action lawsuit which I outline below. The suit alleges a breach of fiduciary duty by the company's directors related to the creation of APE shares and charter amendment proposals. While AMC could theoretically issue more APE units, marketability remains a challenge until the ability to convert APEs into common shares is certain. As a result, APE units trade at a substantial discount to AMC equity.
The company's focus on raising additional capital is crucial to its survival, as it indicated that without court approval of the shareholder litigation settlement, AMC would have limited options to raise more funds and could potentially face bankruptcy. AMC's 2023 outlook and its ability to manage through the year depend on its liquidity position and industrywide box-office performance. While the company is estimated to have sufficient liquidity to navigate through 2023 based on its current status, it could also face challenges during a period when no significant blockbusters are slated for release. As such, capital raises are critical for AMC's future financial stability and success.
In the wake of the COVID-19 pandemic, AMC was forced to raise equity capital keep its operations running. However, the company hit a roadblock as it approached the authorized share count limit set forth in its charter agreement. Facing a cap on issuing more common shares, AMC created a new class of shares called AMC Preferred Equity Units (APEs). These APEs are preferred stocks, not bound by the charter's cap on authorized common shares. They were designed to mimic common stock with the same economic and voting rights, and to automatically convert to common stock if AMC gets shareholder approval to issue enough shares.
AMC's retail-heavy investor base has historically been disengaged in voting, which posed a problem when the company tried to amend its charter to issue more shares. To get around this, AMC invented APEs, and via a technical workaround, authorized one billion of them. AMC started selling APEs when it couldn't sell more common shares. However, APEs did not trade at similar prices as the common shares. To resolve this issue, AMC sought shareholder approval to convert APEs into common stock to then sell more common stock. This is where APEs become clever; any APE holder who did not vote would have their vote cast proportionately with those who did vote, as stated in the deposit agreement governing the APEs. This clever method ensured that AMC's proposal would pass, effectively solving the problem of retail non-voting.
In an effort close this valuation gap (and more effectively raise capital), management proposed to combining AMC’s common shares and APE units into a single share class. In parallel, AMC hoped to complete a 10-for-1 reverse stock split. This strategy was met with a lawsuit from shareholders, who claimed that APEs represented a "blank check" form of preferred stock, designed to dilute the voting power of common shareholders. They also argued that AMC's Board of Directors failed to adequately disclose the risks associated with APEs. The outcome of this case could set a critical precedent for how companies use preferred stock to influence common shareholders' voting power.
Interestingly, the two parties did reach a settlement. However, courts rejected the proposed class-action settlement, leading to a 100% surge in AMC's common shares in after-hours trading, while APE units dropped by 63%. The judge deemed the proposed deal to be overreaching, as it would have required AMC shareholders not involved in the lawsuit to forfeit potential legal claims. This decision led to over 2,800 objections from AMC's investors. The denied settlement put the brakes on a potential equity raise for AMC, which could have provided immediate financial relief and reduced bankruptcy risk. Without this capital infusion, AMC could potentially exhaust its cash reserves by 2024 or 2025, making debt refinancing significantly more challenging.
Despite the initial settlement denial, AMC and the plaintiffs have filed a revised settlement pertaining to the lawsuit. Both parties have strongly opposed any requests for an injunction that would halt the implementation of the settlement during the appeal process before the Delaware Supreme Court. Given the intricate legal and financial considerations, the court's revised ruling is eagerly anticipated by all parties, as it will significantly impact AMC's financial restructuring and equity capital raising endeavors.
Current Capital Structure:
Below is AMC’s current capital structure as of March 31, 2023, pro forma for subsequent APE issuances and debt paydowns.
Simple Recovery Waterfall:
Below is a simple recovery waterfall which sensitizes the hypothetical recoveries for each class of debt, depending on one’s view of EBITDA and valuation multiple.
The above analysis might lead one to believe that the 1st lien secured debt stands a good chance of full recovery, while other parts of the capital structure face impairment (unless one has an optimistic outlook on future earnings).
However, this line of analysis is misleading. The reality requires a more nuanced review, walking through the key characteristics of each debt tranche and their implications. In the section below, I review key capital structure considerations and provide preliminary views based on current trading levels.