CA - Cineplex: Bet On Improving 2023 Results To Launch Stock

Summary

• Cineplex performance depends heavily on box office attendance, but 2023 should be a solid movie slate.
• The other parts of CGX business are performing well, heading back to pre-pandemic levels of revenue and profit.
• The stock trades at a very depressed valuation with a manageable debt load.

Cineplex ( CPXGF ) is an extremely undervalued consumer stock, hurt greatly by the pandemic and the recent move to direct to consumer streaming. The Canadian theatre operator has a monopoly position in Canada with 75% market share in the country. While its brother AMC ( AMC ) in the United States continues to make steep losses, CGX has managed to swing to profitability the past 3 quarters. Management is strong and the movie industry is outperforming in Canada. However, the stock has continued to languish, with questions about the long term trajectory of box office numbers and movie theatre interest. If you expect that while in person attendance will decline, that it will continue to be part of society then Cineplex is a great buy now. The stock is at 52 week lows but the movie slate for 2023 looks quite strong and should be supportive of the stock this year. Recent Q4 results were solid with an underperforming movie slate, and the other parts of CGX business are doing well. June and July 2022 were 85% and 89% of the 2019 box office respectively, showing that the weaker movie slate is primarily to blame for people avoiding movie theatres. Improvements in movie quality and more original releases should help boost the stock in 2023.

2023 - improving box office outlook

The box office is not something the theatre operators have control over, however its essential to Cineplex's business. If you don't believe in a continued rebound in box office attendance and spending this is not a stock you should own. However, predictions for 2023 are much stronger than 2022 with some signs the industry is healing and revering to exclusive releases. Predictions show a large number of big releases this year, with $100m domestic movies at up to 33 for 2023 , up from just 18 in 2022. Total number of wide releases is still down significantly from 2019 at 104, down from 140. However, the big releases are what drive the majority of the box office performance. As studios continue to underperform when going straight to VOD, we will see an increase in theatrical releases in 2024 and beyond. Total box office predictions are between $8 and 9 Billion, up significantly from the $7.4B in 2022. At the midpoint that is 15% growth y/y which should lead to a significant boost in revenue with upside possible. $11.3B from 2019 may not happen for several more years, or it may not happen ever with continued straight to streaming releases. Studios have concern some audiences aren't coming back, but hopefully a stronger 2023 will alleviate this and we will see more wide releases in 2024.

Q4 - Solid execution in 3 core areas

The most important parts of the business from a longer term investment perspective are those the company has control over. That would be concession sales, the amusement offerings, the advertising business and the conversion to higher priced offerings with better margins. CGX made improvements in all these areas, beginning with improvements to advertising. Pre-movie ads rebounded strongly in Q4 with 37.4% growth over the prior year, even with attendance down 10%. They also had an improvement in digital ad installation revenue, a smaller business they have with revenue up 32.8% over last year. Operating margins in this business for the year are 55% with most of the revenue being converted to profit. Continued growth here is essential to make up for the reduction in attendance, as the profit continues to be made at the margins in this business. This ad installation revenue isn't tied to the theatres, as Cineplex does have some technology and expertise in this area. It was growing strongly before the pandemic and should rebound further in coming years. CGX also did well with 50% of higher priced ticket sales in Q4, and a 3% increase over 2021 for the full year to 41.8%. This led to a 6.3% in revenue per ticket overall - important to offset the gradual loss of attendance the industry has seen over time. Cineplex also added an online booking fee in June 2022, which provided $5.2 million of revenue in the quarter which goes straight to the bottom line. While fees like this may be seen negatively amongst consumers, the time saved in line and pre-show seat selection makes it essential for moviegoers. This isn't technically box office revenue, so CGX doesn't need to share the approximately 50% of it with the studios either. This fee should continue to increase to the $6-7 million range and should be nearly pure profit to the bottom line. CGX total revenue for Q4 was $350 million, with a solid $10.1m net profit in the quarter. This should scale well into 2023, with the company solidly profitable and likely trading below 16x forward PE right now.

The amusement business performance has been strong, rebounding from a very weak period in the early pandemic days. Cineplex runs some Rec Room locations or LBE, which are a bar and amusement combination that allows them to generate addition revenue from those 2 categories. This business model is successful in the US but not common in Canada, allowing some room for expansion. LBE performance was strong at the 13 locations opened to date, with a strong $31.6m in the quarter up 63% over 2021. EBITDA margin in this business is a solid 29.3%, so more locations are certainly likely in the future as the theatre business stabilizes. Cineplex wants to begin paying down some debt and show it can be profitable in all 4 quarters before adding new locations. The other amusement business Player 1 entertainment is the vending machines and game areas you see in theatres or other entertainment centers. This business grew a solid 26.4% in Q4, up to $40.2m in revenue with an improving 13.3% EBITDA margin. This is vertically integrated, which allows CGX to keep more profits from their own theatre amusement offerings.

Lastly, concessions were solid as well up 7.2% over the prior year, with attendance being down 10% from 2021 due to a weaker movie slate. Part of this was due to no restrictions in the period, but also increased VIP theatre sales with higher priced offerings. Margins here are exceptional at 77.2% as you would expect when a huge portion is fountain drinks and popcorn. The improved movie outlook for 2023 should greatly help this area with increased volumes.

Valuation

CGX trades at a very reasonable valuation compared to pre-pandemic at its current price of $8.20, as fear about debt and growth are looming. However, improvements are across the business with management proving themselves solid operators. As you can see above, Debt has been relatively consistent over the past year, a good sign as other theatre operators have amassed large piles of debt that are causing significant losses. Cineplex managed profitability the last 3 quarters, with an 8% operating margin in Q4. Prior to the pandemic overall operating margin was between 2 and 5% which should be achievable in 2023. With the stock trading at an EV/EBITDA of just 4.05x the stock trades extremely cheap compared to its historical valuation. For example, prior to Covid-19 the stock traded at 6 to 12x this metric. The positive being the EV should stay stable as debt shouldn't increase from here and EBITDA should rebound in 2023. A reasonable valuation for end of 2023 would be 6 to 8 times which should result in up to a double in the share price towards $16 as EBITDA performance improves. I rate CGX a buy here, with the caveat you need to believe in the resurgence of theatre going and have a good tolerance for risk.

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