Investor alert: Theatrical exhibition thrives on innovation and stability
“2014 looks really good and, obviously, we are very optimistic as we look to 2015 and 2016. But one of the key things about the industry has been…stability. And as the largest operator in the industry, we get a lot of efficiencies from our size and scale, and so we believe we are the leader in that stable industry.”
With her opening remarks, Regal Entertainment Group’s chief executive officer, Amy Miles, set the perfect tone for Gabelli & Company’s sixth annual Movie & Entertainment Conference (June 5 in New York City).
As our readers can review in our past reports about the Conference, participants and presenters have always made compelling cases about the soundness of investments and solid growth opportunities in the movie theatre industry. And, judging from the feedback delivered this time around, 2014 was no different.
In addition to the presenters and companies detailed below, theatrical exhibition was represented by Cinemark Holdings and Reading International, whose notes and presentations can be downloaded in the Investor Relations section of Cinemark.com and accessed here.
Philip Bowcock, chief financial officer of Cineworld Group plc, provided a first look at the newly consolidated circuit that now includes the portfolio of Cinema City International, making them the second-largest cinema chain in Europe with 202 cinemas and 1,858 screens. The Group is “number one or number two in every country” that it operates in, with a combined 2013-pro-forma revenue of £652 mil./US$1,107.7 million. Representative of the potential for growth that exhibition in general and individual companies were talking up to investors, Cineworld’s “strategy is to continue to grow the estate and deliver the best customer experience” at the same time. That said, Cineworld is not resting on its laurels as “the number-one cinema group by box-office revenue in U.K. and Ireland with a market share of 27.3%.” And Cinema City’s status as “the number-one cinema business by number of screens” in Central/Eastern Europe and Israel is also not enough. Their “development plan includes 546 planned screen openings across the enlarged group within next three years.”
For the past six years, our friends at National CineMedia have also attended the Conference, reporting nothing but good news. Even though the recent merger with Screenvision certainly brought hard-to-top glad tidings. They were joined this year by Rentrak Corporation, Entertainment Properties Trust, Lionsgate and Cinedigm Digital Cinema Corp. Outerwall Inc., the company behind Redbox, Coinstar and ecoATM, and Ryman Hospitality Properties, operators of The Grand Ole Opry, among others, rounded out the entertainment mix.
NATO Promotes Notion of Long-Term Stability
Kicking off the investors’ day on behalf of the National Association of Theatre Owners, VP and chief communications officer Patrick Corcoran provided some general perspective on this great business. Beginning with record numbers, both domestically ($10.92 billion represented +1.2% over 2012) and internationally ($24.7 billion, +4.6%) as well as the year to June 1 in North America ($4.22 billion, +4.22%), Corcoran was particularly upbeat about the fact that films have been released on a more consistent, year-round basis. That way, distributors have been covering periods that are traditionally considered not suitable for big-time movies. “A good product mix distributed throughout the year will continue to drive increased revenue,” he noted.
While the number of wide releases playing on more than 1,000 screens has continued to decline over the past seven years (from 168 to 135), the ones grossing the $100 million milestone have remained consistently stable during that same time from 2007 to 2013 (28 vs. 35 films). And let’s not forget NATO’s favorite statistic that the average ticket price of $1.97 in 1973 adjusted for inflation to $9.27 would be significantly higher than the actual 2013 rate of admissions of $8.13.
In his personal remarks to the readers of Film Journal International, Corcoran added, “As the international market grows, it is still important to remember that the domestic market remains strong, with 5% of the world’s population providing 30% of theatrical revenue. It is also important to bear in mind that the phenomenal growth in the Chinese theatrical market still does not benefit our most important domestic distributors that greatly. Last year, they took out at most $369 million.” In a record Chinese box office of some $3.6 billion, foreign films had a market share of 41%. Taking a quarter of that $1.476 billion, Corcoran arrives at the previously mentioned take for the U.S. studios.
Speaking for what is a truly global organization—with 686 member companies in 81 countries, representing 54,846 screens at 5,956 locations—Corcoran also previewed the latest technical breakthroughs to attendees (H-VFR, HDR and laser illumination) as he announced the successful conclusion of another. “The digital-cinema conversion is almost complete and opens up many new possibilities in technologies and ways of distribution.”
Carmike Remains Focused on Target Locations and Screens
“Carmike’s successful turnaround and our strong balance sheet put us in a good position to further expand our footprint to achieve the 300/3,000 goal we have set internally, and the Digiplex acquisition will put us close to that level.”
Richard B. Hare, senior VP and chief financial officer of Carmike Cinemas, has provided FJI with an exclusive summary of “what the company has been up to recently and where they are headed,” as highlighted during the Gabelli Conference. “Carmike has consistently performed at or better than the overall domestic exhibition industry in terms of box-office receipts,” he noted. “Following the successful completion of its operational, theatre-level and de-leveraging turnaround a few years ago, Carmike shifted into growth mode.” Setting a target of some 300 locations and 3,000 screens for its expanded circuit, Carmike “is now approaching its next milestone.”
Even before the latest agreement for approximately 260 Digiplex screens (206 in operation, plus an additional 53-screen, five-location “pipeline of signed asset purchase agreement locations”), Carmike had already acquired more than 500 screens (including a portion of Rave Cinemas and nine remaining Muvico locations). Now Digital Cinema Destinations Corporation (aka Digiplex) “would bring Carmike into four new states, expanding its circuit to 41 states, and further boost its already strong presence in Pennsylvania where it presently operates 17 theatres,” Hare reported. “Digiplex also brings expertise and experience in alternative programming. That chain has been a leader among exhibitors in playing this content—averaging 5% of its box-office receipts in recent quarters, materially improving its capacity utilization during non-prime Monday-Thursday time slots.”
Bud Mayo, chairman and chief executive officer of Digiplex was at the Conference as well to lend his support to the deal. “My comments were all about how complementary Digiplex and Carmike’s proven successes and experience are,” he told FJI. “Our team’s industry-leading alternative-content progress and our long history in digital-cinema technologies are what we will bring to Carmike, as well as geographic expansion of our theatres. We intend to add real value to a great circuit.”
In addition to this active mergers-and-acquisitions program, “Carmike has also been opening state-of-the-art, build-to-suit entertainment complexes.” Hare mentioned seven planned for 2014 in partnership with Real Estate Investment Trusts (REITs such as EPR Properties, also presenting at the Conference) and commercial developers. While “some of these have been in existing markets and other new builds are going up in ‘green-field’ communities,” all of these new theatres “have largely been offsetting Carmike’s exits from some underperforming locations and the expiration of long-term leases that no longer make economic sense. Still known as ‘America's Hometown Theatre’ through its M&A and new-build program, Carmike has been transitioning from a small to a mid-market presence in recent years.”
Cineplex Expands Offerings from Coast to Coast
While “America’s Hometown Theatre” has expanded into mid-size markets, its “Truly Canadian” colleagues to the north are also growing by buying and building and bolstering offers all around. Gord Nelson, chief financial officer of Cineplex Entertainment, shared some exclusive comments with Film Journal International after the Conference. “With the acquisition of 24 Atlantic Canadian theatres” from Landmark Cinemas of Canada [FJI June 2014], “we realized our vision of becoming a truly national company with theatres from coast to coast. A national presence provides a great platform on which to build core businesses and key brands, such as our SCENE loyalty program, Cineplex Media [FJI May 2014], Front Row Centre Events programming, and proprietary concession offerings.”
“The integration process has been quite smooth,” Nelson has observed. “We have a very strong national operations team and inherited strong theatre teams in Atlantic Canada, so the switch to Cineplex systems and processes has been nearly seamless. We think we’ll see improvement in the performance of our Atlantic locations, especially with improving weather and a stronger film slate for the balance of 2014 and into 2015.”
That slate will receive an additional box-office boost from the Cineplex suite of “premium experiences” such as 3D, D-Box, IMAX and UltraAVX, as well as Cineplex VIP Cinemas. Nelson noted that the circuit has reached 39% of revenue from premium formats today, up from a mere 3% in 2008. “In time, we think that number can reach 50%. 3D films in Canada have consistently outperformed the U.S. market. We also see considerable opportunity for growth in our premium large-format offering, as we add second UltraAVX screens to certain top-performing locations. Our VIP Cinemas present a significant opportunity to grow premium experiences. Not only has the experience been overwhelmingly popular, but we have plans to expand on our ten current locations by bringing Cineplex VIP Cinemas to nearly every major Canadian market.”
With 15% of the Canadian population as card members and the Cineplex app generating some nine million downloads, the SCENE loyalty program is another outstanding success for Cineplex. At Gabelli, investors wanted to know how this program actually drives financial performance and Nelson did mention a number of ways. “It encourages repeat visits to our theatres and gives customers further incentive to make concession and foodservice purchases. That SCENE is Canada’s fastest-growing loyalty program is a testament to the value the program provides. Beyond the typical, consumer-facing benefits of a loyalty program, SCENE provides a wealth of customer data that helps us better target offers to members. We also believe SCENE presents a huge opportunity for our media clients, studios and suppliers—as the program provides unprecedented access to more than 5.6 million Canadian moviegoers.”
SCENE is also instrumental in developing “a bright future” for the Cineplex Store, “Canada’s one-stop shop for digital downloads and rentals,” Nelson continues. “We are the first to interact with movie fans in a film’s life cycle, and we have the incredible leverage of SCENE… We were the first Canadian retailer to offer customers access to the UltraViolet ecosystem, and also the first exhibitor in the world to partner with multiple studios on SuperTicket, a bundled movie ticket and digital download. Last year, we completed a major refresh of CineplexStore.com, dramatically improving the user experience. We also made significant progress in marketing our e-commerce offering to our Canadian consumers, using both in-house and external media.”
Marcus Maintains Edge Through Ownership and Innovation
With movie theatres (686 screens in 55 locations) as well as hotels and resorts (nine properties owned, 11 managed) in the company portfolio, representatives from The Marcus Corporation readily admitted being “a little different from some of the other companies” heard during the Conference.
Gregory S. Marcus, president and chief executive officer of the Corporation that bears his family name, began by giving his perspective on how these two divisions relate to each other. (For even more perspective, check out our March 2013 conversation with Rolando Rodriguez, president and chief executive officer.) While “revenues were actually pretty equal” with 54% of the total going to theatres, in terms of operating income and EBITDA flow, “it’s really more of the theatre company. In fact, about three-quarters of our operating income on a trailing 12-month basis comes from our theatre division.” During the last reported quarter that ended in February, results were “outstanding,” in fact. “Whereby the industry was up 15%,” he assured, “we were up 24% in the same time period. Number one in the industry and our performance is continuing as we speak.”
Additional performance highlights include a debt-to-capital ratio of about 42%, excellent operating EBITDA margins in the 28% range and owning nine hotels fully or with a majority share. No less than “85% of the screens that we operate are fee-owned,” Marcus added. “Certainly our business judgment has been that [owning the real estate] has provided a strategic advantage for us, particularly on the theatre side. As this business has changed over the years [transitioning to stadium seating and megaplexes], we moved very quickly, and were able to add screens to existing locations. And as a result, we have a very strong market position in the seven Midwestern states that we operate in. There was no weakness as others came in and looked… There were no openings generally in our markets and we think owning the real estate was very key to that.”
Another key to success is providing a variety of premium options to moviegoers. In developing Take Five Lounge in the lobbies, Zaffiro’s pizzeria restaurants, and its in-theatre options, CineDine and Big Screen Bistro, Marcus Theatres has greatly benefited from the corporation’s hospitality division. “It’s a restaurant business and dealing with food. This is not popcorn and soda anymore,” Douglas Neis, the treasurer and chief financial officer, told Conference attendees. “We leveraged some of the expertise that we have in our hotel business in helping us on the theatre side as well… And so we think we are in a unique position to be able to partake in the food and beverage growth that is occurring right now in the theatre business.”
The overall “nimbleness” with which Marcus Theatres has been able to convert existing locations is directly attributable to real estate ownership, both executives mentioned on numerous occasions. That includes premium seating: Marcus Theatres has taken the category-defining step of installing recliners, proprietarily branded as DreamLoungers and without changing admission pricing. For Neis, “the best way to describe it is: It’s a first-class seat at a coach price… It’s an attractive and a great way to see a movie, frankly.” Installing these loungers represents a unique approach to upgrading “theatres that maybe have needed to be refurbished or needed a revitalization.” If they had been leased locations towards the end of their life span, no recliners and no restaurants would have ever happened, he opined.
Instead, with company-owned properties, Marcus Theatres now has the DreamLounger premium available at 19% of is total screens. As far as Gregory Marcus knows, “that’s the highest in the industry,” not to mention that the replacement program began not more than a year ago. “While we are in the early stages of evaluating how it applies in different markets,” he said, the circuit has indeed moved very quickly “because we have been very nimble.” At the same time, going from 13 to 21 UltraScreens, as their large format presentation is called (http://bit.ly/FJI0910bigscr), has led to modifications to the concept that allow the private-label experience to enter markets where the previous incarnation of UltraScreen might not have been a fit. While “still a very large screen,” it is now combined with premium seating and Dolby Atmos, “so it is really an entire experience.”
As for premium offerings in general, “we are seeing good demand for all of them,” Marcus reassured Conference attendees, drawing another comparison to the hospitality side. “Yield management is really important in the hotel business and it is about getting the right customer at the right price at the right time. On a Saturday night in the theatre business, that’s premium. You are going to get a premium price then. During weeknights, you might not get as much. So our job is to make sure that we are getting incremental customers, incremental box office, so that we can generate a bigger take for us, for the studios, for the whole business.”
Asked the obligatory question about growing the business through mergers and acquisitions, Gregory Marcus diplomatically agreed to the possibility. “We have been in the business a long time. We know a lot of people in the business. We maintain relations with everybody. For us, it is about maintaining a strong balance sheet and having the opportunity to move when the opportunity presents itself.”
Regal Emphasizes Return-Focused Investment in Circuit Growth
“Over time, we have grown our asset base by acquiring and building new theatres. We have also found innovative ways to better utilize our assets, and we have been able to accomplish these goals and at the same time provide a meaningful return of capital back to our shareholders.” During her presentation to investors, chief executive officer Amy Miles clearly stated the objectives that have guided Regal Entertainment Group. “Making sure we bring that premium moviegoing experience, generating a lot of free cash flow, using that cash flow in a way that benefits our shareholders—what has that meant?” she summarily asked.
In addition to spending some $600 million on improvements, new builds, mergers and acquisitions, Regal has generated free cash flow of around $250 million in each one of the past five years. “That number is after we have made the required growth investments in our business. So, we have the financial wherewithal to pursue a lot of these strategies and at the same time complement those strategies with a healthy perspective on shareholder return.”
Over the past 12 years since going public, “the annualized return is right around 12.5%,” she noted. “We have paid our shareholders dividends totaling $25 a share since that date. And from that perspective, if you had invested in Regal at the IPO and held those shares, you would have about a 316% return today.” Talk about stability of an industry and of investment strategy.
With d-cinema deployment having reached its own point of stability by now, chief financial officer David Ownby provided an interesting take on how that fact relates to acquisitions. Even though he does not foresee “specific opportunities in the immediate term…we still think it is a really good environment for M&A for our industry.” For one, the continuing “box-office tailwind…always is a good environment for sellers to come off the bench and think about selling their circuits.” On the other hand, with premium amenities being introduced in the industry on the heels of the digital conversion, smaller exhibitors may not want to spend their hard-earned money yet again. “If they now are faced with the choice of having to invest in some of these luxury amenities or maybe sell their circuit,” Ownby opined, “we think some of those may choose this as a good time to exit.”
Asked about the typical synergies that Regal realizes in an acquisition, he mentioned two basic types. “Because of our size and scale, we can buy a film and concessions cheaper than a smaller exhibitor can. Historically, for us, those operating synergies have amounted to about a half to a full turn on the pre-synergy multiple. In addition to that…anytime we acquire another circuit and put those screens into our deal with National CineMedia, into the advertising network, we get compensated with equity.” By way of example, he said, although the purchase of Great Escape and Hollywood Theatres was at 5.5 times and 5.9 times post-synergy, “they look more like four times to 4.5 times. It’s a great deal for our shareholders.”
Looking at how the industry is dealing with premium presentation formats, Ownby further noted, “We probably view that a little bit differently than the studios do.” Instead of measuring the success of IMAX, RPX: Regal Premium Experience and 3D one film at a time, “we tend to analyze that more from an overall box-office perspective.” In what he called the post-Avatar period, these formats have generated somewhere between 17% to 20% of the box office every year. “We do not see a big catalyst for that number to change dramatically going forward. We do not necessarily think it is going to grow significantly, but we don’t think it is going to fall significantly either. It has just evolved into a very stable part of our business on an annual basis.”
Even release windows have remained stable and consistent. We close our report on another item of concern, not just to investors. “It is something that we spend a lot of time working on and thinking about,” Miles readily admitted during the Gabelli Conference. “The studios are finding new ways of attacking the window in the home. How can electronic sell-through be beneficial to the studios? Where does that need to fall inside the home window—is it before the DVD release? How can they push the rental model, as the cheapest way to consume content, further back in the window? Those are all good things for us. So from that perspective, I would say that it’s been pretty stable over the past few years and the changes are good for our industry as well."