At the start of 2019, things were going well for Cineworld (LSE: CINE). The firm had just acquired Regal Entertainment Group and was looking to make further acquisitions in the aim to become the largest cinema operator in the world. The Cineworld share price was also thriving, sitting at a price of around 300p. Fast forward a couple of years and things are far less pretty. For one, the shares are now just 65p. Furthermore, its debt pile of nearly $9bn is both excessive and unsustainable. Accordingly, are shares heading to zero or will they be able to make a remarkable recovery?
Trading update
The recent trading update demonstrated that the troubles Cineworld has faced from the pandemic have continued into 2021. In fact, the firm reported an operating loss of $208.9m, while revenues were just $292.8m. This was mainly caused by the temporary closures of cinemas from January to May 2021, alongside very few film releases.
But while these results were pretty dreadful, the Cineworld share price still rose on the back of them. This was due to a couple of reasons. Firstly, there was an improvement on last year, when its operating loss was far larger, at over $1.3bn. This was partially because there had been asset impairment reversals of $95.6m, showing some increased optimism.
Secondly, investors were also cheered by the possibility of a US listing. This would either be a full listing of Cineworld, or a partial listing of Regal Entertainment. It’s hoped that this would maximise shareholder value, potentially following in the footsteps of rival AMC, which has seen its share price soar 760% in a year to over $50. This was part of a short squeeze.
Accordingly, this could be a catalyst for the Cineworld share price, as it would allow it to shore up its balance sheet through a rights issue. This would also enable it to reduce its huge debt pile. But of course, there’s no guarantee that this US listing will happen, or that it will have a positive influence. Therefore, I’m certainly not buying on this news alone.
Financial position
The main concern I have with Cineworld shares is the company’s financial position. This is the reason why I think there’s the possibility of the shares heading to zero. Indeed, at the end of June, the group had US term loans outstanding that totalled $3.7bn, a euro term loan of $224m, a private placement loan of $244.5m and a fully drawn revolving credit facility of $449m.
For a company with a market capitalisation of less that £1bn, this is a huge amount of debt. It also leads to very large financing costs, which an unprofitable company may find very hard to keep up with. In fact, interest on these loans totalled $126.6m in the first half of 2021, far higher than the $72.9m in the same period last year.
The loans are also accompanied by several covenants, including one that requires net-debt-to-adjusted-EBITDA to be below 5. Under the company’s base case scenario, these financial covenants would not be breached. Nonetheless, this assumes that cinemas will remain open the whole time, at 90% of 2019 levels in 2022, and 95% of 2019 levels in 2023. Such admission levels are certainly not guaranteed. Therefore, the possibility that covenants will be breached is high. In the worst-case scenario, this would mean that the loan becomes payable immediately. In Cineworld’s current financial position, this would be very difficult, and it could even be one factor that leads to bankruptcy.
Negative shareholder equity
The recent trading update also revealed that it has negative shareholder equity of $280m. This means that its liabilities outweigh its assets, often a major sign of financial distress. As such, even if Cineworld sold off its assets to pay its debt, it would still not have enough. This greatly increases the chances that the Cineworld share price will head to zero. Such a factor is an extremely large risk that I must consider before investing in Cineworld.
Positives
Although there’s a possibility of the Cineworld share price heading to zero, there’s also the possibility of the share price exploding. One major positive is the fact that new films are being released. These include the new Spider-Man in December and the new James Bond at the end of this month. I’m optimistic that this may lead to much-increased demand at cinemas and admissions may be similar to 2019 levels. Hopefully, this may help Cineworld reach profitability at some point, a factor that should send the Cineworld share price soaring.
Recent trading has also been positive, and there have been signs of increased demand. In fact, in the US and the UK, data shows that cinema attendance figures are already back to around 50% of pre-pandemic levels. This indicates that people still want to go to the cinema, and consumer habits have not changed to streaming services for the long term.
Furthermore, at the end of June 2021, Cineworld was operating 98% of their cinemas in the US and 99% in the UK. This implies that normality is starting to resume.
What’s next for the Cineworld share price?
If things continue to get closer to normality, I cannot see the Cineworld share price falling back to zero. Instead, I feel that there would be room to rise, especially if it returns to profitability. It would also allow it to pay off some of its debt, a factor that’s currently holding the firm back.
But if coronavirus cases continue to increase, Cineworld could be one of the worst affected stocks, especially if there’s another lockdown. In this scenario, there’s a realistic chance that the company could become bankrupt and the share price would fall to zero. In this case, shareholders would be left with nothing. I’m all for taking a risk, but even this is far too much of a risk for me. This means that I’m staying well away from Cineworld, at least until I can see some signs that bankruptcy is out of the question.
