JANUARY 2018 1 Is the takeover of Regal Entertainment a solid solution for Cineworld? AUTHOR JULIA KLINKENBERG JULIA.KLINKENBERG@EDHEC.COM The first news about a potential acquisition of Regal Entertainment Group ( REG ), the second largest US cinema chain, occurred by the end of November 2017. A few days later on December 5 th, 2017, the British Cineworld Group plc ( Cineworld ) confirmed that both companies have entered a definitive merger agreement. Cineworld will acquire REG for a price of $23 per share, leading to an equity value of US $3.6bn and an estimated enterprise value US $5.8bn. The amount will be funded by a rights issue of 1.7bn and new debt facilities of 3.0bn (approx. US $4.0bn). The purpose of this acquisition is to strengthen Cineworld s position by entering in a new region (U.S./ Canada market) in order to become an important rival to the industry leader AMC Entertainment Holdings. This raises an important question: is this merger a sound move? First, the buyer of this cross-border acquisition, Cineworld Group plc, is headquartered in London (UK) and currently the market leader in the UK and one of the largest cinema chains in Europe. The group operates 226 theatres (sites) under 5 different brands, providing 2,115 screens in 9 different countries. Cineworld and Picturehouse are in the United Kingdom and Ireland; Cinema City is present in Central and Eastern European countries such as Hungary, Bulgaria or Slovakia; and Yes Planet as well as Rav Chen are located in Israel. The Greidinger family, former owner of the last three mentioned brands, owns approx. 28% of Cineworld s shares. Cineworld strives to become the leader in the movie theatre industry. In order to meet the company s objective, the strategy is to grow organically by expanding its estate and externally by finding profitable targets. Examples for this strategy are the acquisition of five Empire cinemas in 2016 and the plan to open further 441 screens over the next years (177 in the UK and 264 in ROW by the end of 2020). So how does the acquisition of Regal Entertainment fit into Cineworld s strategy? Spotlight 1: Entry into the U.S./ Canada market Chart 1: Global box-office revenue in US $bn First, we examine the global market by looking at how much box-office revenue was reached in the different regions. In general, the key drivers for box-office revenue are average ticket price and admissions, which depends on the number, timing and popularity of films. The global box-office revenue increased continuously over the past decade from US $23.4bn in 2005 to US $38.6bn in 2016. As we can see in chart 1, 2013 s global box-office revenue was quite similar in Asia Pacific, EMEA and U.S./ Canada, whereas the regional spread increased in 2015 and 2016. The Asian-Pacific region has overtaken the leading region in box-office income, mainly driven by the top 3 local markets China, Japan and India. Europe s decline in box-office revenue is mainly influenced by weak exchange rate movements. Latin America s box-office revenue including Mexico and Brazil has been on a steady level and the slight movements. According to HollywoodReporter, the global box-office revenue in 2017 reached
JANUARY 2018 2 a new peak of US $39.9bn, driven by very successful releases such as Disney s Beauty and the Beast or The Fate of the Furious. A closer consideration of the market in the United States and Canada shows that the box-office revenue ranges between US $10bn and US $11.4bn over the last five years (2017: US $11.1bn). However, the Motion Picture Association of America (MPAA) revealed in its last report a declining attendance of cinemagoers in the U.S. and Canada. At the beginning of the 2000s, up to 1.5bn tickets had been sold, but this number decreased to less than 1.3bn over the first decade of the 21 st century. Since 2010, the number of tickets sold has fluctuated between 1.27bn and 1.3bn, depending on releases of highly-expected US blockbusters. A reason for the declining attendance in cinemas might be the significant increase of the average ticket price from US $5.39 (2000) to US $8.90 (2017), influenced by 3D films, IMAX or overtime length. 1 Table 1: Top cinema chains in the U.S./ Canada market No. Movie theatre chains Screens 1 AMC Entertainment 8,218 2 Regal Entertainment Group 7,319 3 Cinemark US 4,544 4 Cineplex Entertainment 1,683 5 Marcus Theatres 895 6 Harkins Theatres 501 7 Southern Theatres 499 8 B & B Theatres 392 9 National Amusement 377 10 Malco Theatres 353 Source: Statista, Leading movie theatre chains in the U.S. and Canada as of July 2017, by number of screens So who is Regal Entertainment Group? According to table 1, the corporation is the second largest cinema chain in the U.S. and Canada with its headquarter in Tennessee (US). The group s brand portfolio includes Regal Cinemas, Edwards Theatres and United Artists and the company offers 561 sites with 7,319 screens in the United States, Guam, Saipan, American Samoa and the District of Columbia. Regal Entertainment follows the strategy that the company s ability is to provide capital effectively in order to enhance shareholder s value. The corporation of the well-known investor Philipp Anschutz owns 10% of REGs shares but is considered the major shareholder because the Anschutz corporation controls approx. 67% of the voting rights. As we can see in table 1, AMC Entertainment is one of Regal s main competitors and the current leader in the United States with more than 600 theatres. The company operates 1,027 theatres with 11,247 screens globally. Besides 8,218 screens in the U.S./ Canada, AMC Entertainment is also present in Asian-Pacific as well as EMEA regions and has grown externally by acquiring several movie theatre chains in the U.S. market and abroad. For example, in 2016, AMC Entertainment acquired UCI & Odeon Cinema Group, one of Cineworld s largest competitor, and Nordic Cinema, both representing a total of 364 theatres and 2,392 screens in Europe. AMC Entertainment is a U.S. company, headquartered in Kansas, but it is owned by the Chinese Wanda Group which is world s largest cinema chain operator. 2 Based on the number of screens in the U.S./ Canada, the no. 3 Cinemark, based in Texas, might be seen as the only alternative to Regal Entertainment. In both the U.S./Canada and Latin American regions, Cinemark has in total 533 theatres and 5,957 screens, with the majority of the company s screens based in the U.S./Canada (table 2). On the basis of the presented information, Cineworld s strategy to enter in the U.S./ Canada market as a second business area is an understandable move and I support this decision. The size and volume of box-office revenue of this particular region represents its importance in the global cinema chain market. Furthermore, we have seen that main competitors AMC and Cinemark are also operating in different regions around the globe. We can assume that both companies benefit from economies of size and scale, perhaps by negotiating 1 According to a survey about the frequency of cinema visits, 31% of the American adults visits a cinema less than once a year and 28% states several times a year but not once every month. The survey was conducted by Statista in October 2017. 2 The Wanda Group (or Dalian Wanda Group) acquired AMC Entertainments for US $2.6bn in 2012.
JANUARY 2018 3 about the costs for admission, film renting and advertising with the film distributors. Based on the number of screens in the U.S./ Canada market, a hypothetical acquisition of Cinemark by Cineworld would mean that they have two larger competitors (AMC and REG) and the total number of screens would only be slightly above REG s one. As a result, it seems that REG is a solid solution for Cineworld for entering in a foreign region and moreover following Cineworld s strategy of becoming an important rival to AMC. Spotlight 2: Financial performances Table 2: Cineworld s key financials in millions 2014 2015 2016 Revenue 619.4 705.8 797.8 EBITDA 126.6 155.3 175.8 Profit 54.5 81.3 82.0 Equity 506.3 534.7 663.4 Liabilities 540.4 559.2 633.3 Cash Flow Operating 86.1 165.9 150.1 Investing (325.7) (80.3) (130.3) Financing 260.1 (57.7) (33.9) Table 3: REG s key financials in US $ millions 2014 2015 2016 Revenue 2,990.1 3,127.3 3,197.1 EBITDA 512.7 599.9 640.0 Profit 105.6 153.4 170.4 Equity (897.3) (877.6) (838.9) Liabilities 3,436.8 3,484.6 3,479.2 Cash Flow Operating 349.1 434.4 410.5 Investing (150.5) (183.3) (223.6) Financing (332.4) (178.6) (160.0) According to table 2, which shows Cineworld s financial ability 3, the company s total revenues increased, influenced mainly by attendance, average price and admission revenue. Cineworld achieved EBITDA margins of 20-22%, and if we adjust EBITDA by foreign exchange movements, we can determine a CAGR 2014-2016 of approx. 12%. Furthermore, the company s profit margin ranges between 9-12%, from 2014 to 2016. Cineworld provides a share capital of 2.67, and the major parts of its total equity refer to a share premium of 306.4m and a merger reserve of 207.3m (both in 2016). Table 2 shows that the company had a total debt-to-equity relation of almost 1.ox in the last 3 years, which might lead to the assumption that Cineworld follows a balanced financing structure. Considering Cineworld s cash flows, both investing as well as financing cash flows in 2014 are related to Cineworld s acquisition of the brand Cinema City for 500m. As already mentioned, Cineworld follows the strategy of growing externally by acquiring profitable targets; a closer look on the key financials of Regal Entertainment Group 4 in table 3 demonstrates a positive development of the total revenues. Because REG is only operating in countries where the U.S. dollar is the local currency, the financial performance is not affected by foreign exchange movements. We can see that EBITDA increased by a CAGR of 7.7% from 2014 to 2016 and that the relating EBITDA margin ranges between 16-20%. Although the EBITDA margin is slightly lower than the equivalent figures of Cineworld, the industry leader AMC Entertainment generated similar values. Moreover, REG s profit margin improved from 3.5% in 2014 up to 5.3% in 2016. However, table 3 also reveals a negative equity and a significant debt volume (6x of Cineworld s debt without consideration of foreign exchange) and that leads to a total debt-to-equity ratio of -4.2x in 2016. As shown in the key figures, the total deficit (equity) decreased slightly over time while the size of debt fluctuated. As of December 31, 2016, the company had total debt obligations of US $2,310.1m, with new term loans and senior notes due between 2022 and 2025. Moreover, REG s operating lease position leads to a volume of US $6,040.4m as contractual cash obligations and commitments by the end of 2016. Cineworld presented its investors the expected potential synergies from the acquisition. The aim is to reduce costs by US $60m due to public company savings, commercial scale and an optimisation of business functions. In addition, Cineworld estimates further benefits of US $40m from business initiative such as best practice in sales and marketing or other income. The synergies will be equally phased in 2018 and 2018 and should rise completely to 3 Profit is represented by Cineworld s profit for the year attributable to equity holders of the Group. 4 Profit is represented by REG s net income attributable to controlling interest. The negative equity equals the total deficit including the non-controlling interest.
JANUARY 2018 4 the company s EBITDA of 2019e by US $100m. Furthermore, Cineworld assumes that it can realize an additional benefit of US $50m in its group financial structure, influencing its earnings as well as cash flow. Regal Entertainment s financial performance, particularly its revenue growth and EBITDA margin, lead to the assessment the company could match Cineworld s objective as a profitable target. However, I believe both REG s negative equity and extensive debt volume do not fit to Cineworld s financial structure at all. Based on the financial statements, I am concerned that Cineworld is overreaching with this takeover, especially considering the mentioned funding of the transaction by new debt facilitates. The presented potential synergies are vague and miss a more detailed description of how the synergies will be realised for a further assessment. Moreover, the assumption of realising the benefits in 2018 and 2019 might be chosen too optimistically. Chart 2: Movement of share prices in 2017, rebased to 100 November 29 th, 2017 Spotlight 3: Market responses & analysts concerns How did the markets in the UK and U.S. react on the acquisition? Chart 2 illustrates the share price movements in 2017 of both companies Cineworld and Regal Entertainment rebased to 100 as a starting point. As shown, Cineworld s and REG s share price performed a contrary development in 2017. In general, the share price of cinema chains is mainly influenced by the number of cinemagoers and therefore the weekly published attendance. Cineworld s share price increased in H1/2017 and reached its last year s peak on May 10 th, 2017 with a value of 740. We can assume that this development was due to the successful release of US blockbusters such as Guardians of the Galaxy Vol. 2 and Spiderman: Homecoming in April and May 2017 respectively. The chart 1 illustrates that in the summer, Cineworld s share price was volatile, which might be based on seasonal effects. After a significant fall in September 2017, Cineworld s share price recovered and rose again close to the 700 mark in October and November (i.e. release of blockbuster such as Blade Runner 2049 and Thor: Ragnarok). The orange line for REG s share price shows that it fell steadily and continuously by 22% in H1/2017. We can assume that this development was a specific for the U.S./ Canada region because the mentioned films were globally successful. Moreover, Regal Entertainment s major rivals AMC Entertainment as well as Cinemark also recognised a fall of 43% and 11% respectively. In the second half of the year, REG s share price rose slightly similar development to Cineworldto a value of close to US $16. A few days before the announcement of acquisition talks, REG s share price skyrocketed from US$ 16.6 on November 22 nd, 2017, to US$ 20.17 on November 29 th,2017. Chart 1 reveals that the market responded differently on the official news of Cineworld s acquisition of Regal Entertainment: REG s share price remained around US $20, whereas Cineworld experienced a dramatic fall in its share price from 694.5 (November 28 th, 2017) to 557 on the announcement day and decreased further over the following days. The same contrasting price movement can be seen after December 5 th, 2017, the day both companies confirmed the acquisition. Since then the share prices for both companies have increased to a year-end of 601 (Cineworld) and US $23 (REG), assuming influenced by the successful release of Star Wars VIII: The Last Jedi in December 2017. Based on the share price movements, we can conclude that the acquisition led to a value gain for REG s shareholders, while value was destroyed for Cineworld s shareholders.
JANUARY 2018 5 The major shareholders Anschutz (REG) and Greidinger family (Cineworld) both support the acquisition. However, the market response means that not all of Cineworld s shareholders approved the transaction. Some of them have been concerned that the expansion into the U.S./ Canada market will overstretch Cineworld. Shareholders have also expressed their worries about Cineworld s rights issue (expecting 1.7bn) as part of financing the takeover. Moreover, REG s debt volume and structure are under critic. Analysts such as the corporate finance advisor Peel Hunt downgraded its rating from add to hold ; on the other hand, experts such as the investment bank Berenberg kept buy due to the expected equity raise. Conclusion It is difficult to answer easily the question if Regal Entertainment Group (REG) is a solid solution for Cineworld. From a strategic and operating perspective as mentioned in Spotlight 1, I support the acquisition of REG because Cineworld will become an important rival to AMC Entertainment and gain significant importance globally that might be an advantage for negotiating with film distributor. Furthermore, the market entry into the United States brings several possibilities for Cineworld, such as a new customer base. From a financial perspective as described in spotlight 2, REG s financials are controversial. The company operates profitably and is therefore in line with Cineworld s strategy, however, Regal Entertainment provides a negative equity and a significant debt volume with relating cash obligations. Furthermore, the financing composition of both companies is fundamentally different. Considering Cineworld s plan of new debt facilities, I am worried that the company underestimates the future liabilities. The observed market response demonstrates that some of Cineworld s shareholders might share these concerns. In the end, the analysed transaction surely is one potential solution, yet I wouldn t define the acquisition of Regal Entertainment Group by Cineworld as a solid solution. Additional strategic and financial analyses could further help answering new arising questions: would an entry in the increasing Asian-Pacific market be more reasonable, has the target to be a company horizontal to Cineworld like competitors and how do we consider the increasing trend of online streaming? Sources: AMC Entertainment, BBC, Bloomberg, Cinemark, Cineworld Group, Financial Times, HollywoodReporter, Motion Picture Association of America, Regal Entertainment Group, Statista, The Numbers, Yahoo.finance
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