Not All Meme Stocks Are The Same: AMC Entertainment Is One To Avoid (NYSE:AMC) (2024)

Well, the memes are at it again. After closing last week below $3, AMC Entertainment Holdings, Inc. (NYSE:AMC) opened at $3.55 on Monday and spiked to more than $10 by opening on Tuesday. It has since given back roughly 50% of that peak on the news, which is a bit more complicated than just a capital raise as we will discuss, that CEO Adam Aron has (again) cashed in on the meme traders' exuberance by selling new shares of stock - roughly 72.5 million shares this time, good enough for $250 million to be added to the company balance sheet before fees.

Does AMC perhaps now have some chance at a more fundamental rebound now? And, if not, what's holding back the world's No. 1 theater chain, and what can we expect going forward?

Meme Traders Latest Run

AMC's rally has been a bit of a shock to the system, even if multiple episodes of memeness should have diminished the shock value by now. We aren't nearly in 2021 GameStop Corp. (GME) territory in terms of gains, here, but this is a movie we've all seen before at this point.

It seemingly came out of nowhere, as meme rallies have a tendency to do. But actually the proximate cause wasn't hard to pin down. The Reddit trader known as Roaring Kitty posted a tweet for the first time in three years. It wasn't even words, just a simple picture of a person leaning in on a monitor, signifying interest in whatever's on the screen. But it was enough.

Many have tended to lump all the various short squeeze stocks that are rising this week together, as being the result of the Kitty posting. Actually, that's not quite true. GameStop was already rising significantly before Kitty posted anything. In fact, that's how most have interpreted the picture that was posted, a figure taking interest in something that is already happening. GME had already increased from $11 to $17.50 in eight days prior to last weekend when Kitty posted. Kitty's tweet apparently just followed a GME trend, it didn't create one. Though one could certainly argue the tweet also amplified it.

The real significance of Kitty's post was that it sent Reddit traders scrambling to other meme stocks such as AMC to bid up their price as well, even though their shares were not showing any pronounced upward trend at the time. Unlike GME, AMC hadn't moved at all, in fact, at $2.91 at closing last Friday it was lower than the $3.13 it traded for when GME's latest upward movement began.

But once Kitty went public, that didn't stop traders from piling into AMC anyway.

AMC Potential Share Dilution

Wrapping Up Previous Business

This latest spike upward obviously raises the possibility of further new share offerings, which could push the stock back down by diluting current ownership. In fact, what should jump out at you about that $250 million number is how low it is; at 72.5 million shares, $10 per share should have been worth almost three times what was raised if they'd all been sold at that price. The reason is that this stock sale wasn't entirely a response to the memes - Aron actually began selling seven weeks ago.

AMC's Q1 earnings report last week clearly showed that the company remains in the red operationally, despite the strong performance of films such as Kong, Dune: Part Two and carryovers from the holidays into the new year such as Wonka. Actually, in point of fact, the theaters are doing so badly in part because of the strong performance of those titles, not despite it, which I will come back to a little later.

AMC needs to continuously take in more cash on its financing side to make up for the cash going out on the operations side. So, in late March, AMC announced it would recommence sales of new shares of stock. This was an "at-the-market" offering, which meant that rather than sell a specific number of shares for some amount of money, AMC had declared that it would seek a specific amount of money - $250 million, in this case, and would sell such shares as necessary in order to get that number.

By the earnings report on May 8, AMC had raised roughly $124 million of its target. Monday's announcement wasn't an entirely new sale, but rather a declaration that it had hit the target it setback in March of $250 million. Thus, it appears that AMC sold as much in the six days since the earnings call as it did in the six weeks prior to it.

So, this first news of dilution wasn't AMC cashing in, exactly. And certainly, they weren't cashing in on the $10 per share peak. Rather, AMC seems to have benefited from the opening move higher - from below $3 to $3.55 on Monday morning - to complete the other half of the sale, and then had to endure the agony of watching the share price rocket higher and wondering how much more cheaply they could have gotten the money if only they'd waited a little longer. Shares peaked at roughly 3x when they sold the new issuance and are still trading for almost 50% more.

Cashing In On The News

They did better on their second attempt. On Wednesday, AMC announced before market open that it had closed a deal to exchange a little over 23 million new shares for $164 million of outstanding second lien debt, which was marked at a 10% interest rate - though AMC had the option of a 12% payment-in-kind instead.

The implied price of the exchange was $7.33, which was a considerably more impressive price considering that the price of AMC stock had fallen back to $6.19 by 1:00 PM on Tuesday.

It seems clear management struck while the iron was hot, but it's less clear whether it will have further opportunities to do so. The meme rally seems to be running out of steam, which might mean the window of opportunity has closed already. Still, management's past behavior indicates that they will probably seek further opportunities to sell shares on price spikes if the opportunity continues to present itself.

Of course, such sales might be to shareholders long-term advantage, despite their dilutive effects, if the capital was wisely spent.

Operational Analysis Of AMC's Theater Business

This leads to a more important question, in my mind, than the meme traders latest moves: Has AMC addressed the underlying causes of its losses over the past few years?

Contrast With GameStop

Despite our tendency to talk about memes as a group, it's a mistake to lump all the meme stocks in together and assume that what drives one drives all, or that if one is a lump of coal they all must be. There's one big fundamental difference between AMC and GME that, I believe, is often overlooked in analyzing the meme trades as a whole.

GameStop is, quite simply, a normal company, if you'll forgive a non-normative statement for a financial analyst. Yes, it buys games as well as selling them, which can complicate matters slightly. Yes, it has somehow found itself at the very epicenter of the meme stock paradigm.

But GameStop is a company with an internally consistent operation whose difficulties, if indeed difficulties it has, stem largely from external factors. More and more gamers are moving the buying and selling of games online, making GameStop's trade-and-buy business model less relevant to gamers.

But some gamers still prefer physical discs. So GameStop is, like many retailers these days, a judgment call on these two competing forces: if you believe too many gamers will move online for a physical store to remain viable, you think GameStop is overvalued. If on the other hand, you believe that there remains a hard core of gamers looking for the trade and buy experience, then you might very well conclude GameStop was undervalued.

I do not share that view, but I find nothing obviously ridiculous about such a statement, despite the views of the "smart money" on the topic.

AMC, on the other hand, is not a normal company in the sense that its troubles are not a reflection of external forces. At least, not primarily so.

AMC's Self-Imposed Dichotomy

Yes, the typical narrative is that streaming and COVID-19 have done a number on movie theater attendance and that AMC, like GME, is threatened by technological disruption.

I would argue that is completely wrong. By which I mean that it reverses the cause and effect. Yes, whole swathes of movie-going have gone veritably extinct in the past few years, as romantic comedies, crime caper movies, and a slew of others have transitioned to going straight to a streaming service like Netflix or Amazon rather than going through the theater system first, which now often seems to be solely the province of superheroes and magic.

However, I would argue that movies aren't being pulled to streaming, they are being pushed out of the theater system, with streaming being the natural fallback option for those so expelled from traditional movie-going. If I'm right about that, then AMC's business, along with Cinemark Holdings, Inc.'s (CNK) and Regal's and others, is fundamentally different from GameStop's because it's being mismanaged from within, not threatened from without. And as long as that continues, no amount of meme rallies or fresh capital will solve the problem.

Revenue Share System Flaws

The real flaw in AMC's business model, I would argue, is not the economics of the theater system, but the self-imposed flaws of the payments system. Specifically, how AMC and its brethren structure their partnership with the studios. Even more specifically, how they treat different films that come from those studios.

It's generally known that theaters and studios split their box office take. What's less generally known is just how much that take can vary from one film to the next. What's more, these varying percentages do not accrue randomly. Blockbuster films tend to secure larger percentages compared to smaller fare, like say, for example, a romantic comedy? Or a crime caper?

AMC's overall average of film exhibition revenue payments, i.e., its payments to studios, in Q1 was 45% of admissions revenue. And yet top blockbusters routinely score shares of 60%-65%. Taylor Swift's concert film took a box office share of 57%, despite "only" generating $180 million in domestic revenues. Imagine the take of a Marvel or Star Wars film at 3x-4x that.

Even worse, consider what the share rate of smaller movie fare has to be in order to produce that overall average AMC reported. This past quarter, the top 4 films alone accounted for $762 million of the $1.6 billion Q1 2024 domestic box office. The slant doesn't entirely end there. The next three films took another $211 million, and carryovers of Migration and Anyone But You, released in the previous quarter's final week, accounted for another $136 million in quarter. You's success was unexpected, so its rate may have been smaller. Even without it, though, relatively high-performing films with presumably high share rates for studios account for almost $1 billion.

If those films were taking an average of 57%, the remaining smaller films would need to take a share of just 25% in order to produce the aggregate figure AMC reported. Perhaps a sliding scale means the ones below the top four took less, but even so, anything more than the low-30s seems very optimistic.

The Cost Of Admission… For Studios

The difficulty is that theaters don't just demand a share of revenue from the movies that play on their screens. They also demand the studios make a major marketing push to bring people in the door. Theaters don't want to risk taking up a screen with something nobody's heard of and wasting the slot.

In general, marketing spending on non-blockbuster films tends to follow the production budget, i.e., for every dollar you spend on producing a film you spend another dollar marketing it. But, there's a floor beneath which even low-budget films generally can't go, since, again, theaters want to make sure people show up. This floor was seen to be about $20 million a decade ago. We'll assume it hasn't gone up, even though I find that ridiculously unlikely.

At a take rate of just 25% for lower-wattage films, it would take $80 million in box office dollars to recoup theater-imposed marketing expenses alone. There's international, too, of course, so maybe only half those expenses are allocable to domestic. But they also have to recoup production costs.

And that's for the bare-bones films. The true mid-range, mainline films today cost more. Challengers, a character-driven drama film with no explosions, no CGI and minimal set/location expenses, had a production budget of $55 million. With marketing expenses to match, it would need $110 million in domestic box office just to break even.

Most films simply won't generate enough, and they're starting to realize it.

The Self-Inflicted Blow

The current payment system is optimal for large studios like The Walt Disney Company (DIS) and Warner Bros. Discovery, Inc. (WBD) which have more or less fully committed to producing nothing but blockbusters with well-known IP. However, it kills the production of mid-range films.

More importantly, Disney and Warner movies are so expensive that they have little choice but to remain in the theater system even if they were treated a little less generously, while other studios' original productions are near or over the line where they truly will simply leave.

Thus, whole categories of films seem to have had their returns pushed below the floor beyond which it no longer makes sense to put the films into theaters at all. Creators can save marketing expenses as well as revenue share by skipping theaters entirely. And more and more mainline films do. Not just low-budget films, but anything non-blockbuster has to seriously question the theatrical value proposition at this point.

The Fixed-Cost Element

The problem here, from the theater perspective, is that movie theaters are a fixed-cost business. Having fewer movies in theaters does almost nothing to reduce their costs because rent, electricity, nightly cleaning, maintenance, projector costs, sound systems, and a slew of others cost the same whether one person sits in a seat or a hundred.

This isn't theoretical on my part - AMC just confirmed as much. In fact, in its own earnings report, AMC calculated the contribution margin of its product, i.e., its revenues minus the variable costs. Essentially contribution margin is the money that goes, first, to covering fixed costs, and second to generating profits. In AMC's case, the variable costs are the film exhibition costs - what it pays to studios for each ticket it sells - as well as food concession costs. Their finding? Movie-going boasts a contribution margin of a staggering 75%!!

That means that when whole categories of movies leave theaters, their costs don't shrink proportionately. Instead, theaters have to increase the load on remaining movies to cover the losses… which in turn chases more of them out of the theater system and starts the cycle again.

A business with such a large ratio of fixed to variable costs cannot afford to chase potential products out the door. And when it does so, as effectively as movie theaters have done with non-blockbuster films over the past two decades, the results we see are exactly the ones we should expect to see.

Risks

The primary risk to a bearish thesis on AMC Entertainment is that it will correct the underlying flaw in its business model, i.e., begin to equalize payout ratios for blockbusters and more standard films. Such a decision would, after a presumably painful transition period, take the vicious cycle and transform it into a virtuous one, boosting operating profit and making AMC's business internally consistent again.

So far, management has given absolutely no indication that it intends anything like this. Most strategic shifts are unknown until they happen, so a definitive statement that this is not in the cards is difficult to make. But the current posture of management does not lend itself to optimism.

Investment Summary

AMC strikes me, even by meme stock standards, as an exceptionally weak candidate for a buy. Further share sales certainly strike me as likely, if the price continues to benefit from any sort of meme trader support over the coming days. AMC's near-term maturities are relatively low, but it has a massive maturity wall of almost $3 billion set to hit in 2026 and management cannot be sure how many more meme bounces it can look forward to raising the necessary funds. So it will likely pounce on any bounce.

Meanwhile, there's no evidence that AMC, or its brethren, has grappled with the core disease at the heart of movie-going right now, which is not streaming or COVID but their own slanted economic incentives to creators.

I recommend Avoid on AMC stock.

Max Greve