Looking at Cineworld (LSE: CINE) from some angles, it may seem like a potential bargain. The chain with thousands of cinemas has seen its price crash. I could now buy over 20 Cineworld shares for a pound. That is 90% cheaper than the price a year ago – and 98% cheaper than what I would have had to stump up just five years back.
I have zero intention of putting my hard-earned cash into the company. I think doing so could well be the sort of costly investing mistake that many investors make, but especially those with little experience in the market.
Considering why can hopefully help me avoid some costly errors in the future and improve my investment returns. Let me explain why I see buying Cineworld as a classic beginner’s mistake.
Do share prices matter?
Cineworld shares sell at around 4p each. But Games Workshop shares sell at almost £92 each. Does that mean that Cineworld shares are cheap?
Absolutely not. It is a beginner’s error to believe that a share price on its own gives useful information. Share price is only one factor in the overall process of valuing a share.
Different companies decide how many of their shares to issue. For example, Games Workshop has 32.9m ordinary shares on the stock exchange (this sort of information is available for free, simply by reading a firm’s stock market announcements). Cineworld, by contrast, has over 1.3bn shares in issue.
In other words, buying one share in Cineworld gives me a far tinier fraction of the company than buying one share in Games Workshop.
Investors and valuation
But whether I own a tiny fraction of nothing or 100% of it, ultimately I still own nothing.
For now, Cineworld is not worthless. It has a market capitalisation of £58m. But its directors have repeatedly warned that as part of an ongoing reorganisation, shareholders could end up being wiped out altogether. That would see the share price fall from its current 4p to zero.
Valuation matters hugely to investing, because as an investor I am trying to buy shares for less than I think they are ultimately worth.
It is a classic rookie error to think that a company with a low share price is cheap. Whether a share is cheap or expensive depends on valuation.
Ignore the balance sheet at your peril
But, one might protest, Cineworld could be a great business.
Its admissions remain well below pre-pandemic levels. But in the first half of last year, 83m customers visited its cinemas. It has a well-known name, a huge estate of cinemas and large customer base.
The issue is that Cineworld had $8.8bn of net debt by the end of the first half. That threatens to wipe out shareholders as debtors negotiate with the company about how they can try to be repaid.
For me, knowing that net debt figure alone makes Cineworld uninvestable at a stroke. The information is freely available on the company’s most recent balance sheet, contained in its interim results.
Not looking at a company’s balance sheet before investing is a classic beginner’s mistake. The balance sheet of a company is there for a reason!
