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Is Imax Heading Toward Viability?

Posted: Dec 18, 2007 10:11 AM by Ryan Barnes

Tickers in this Article: IMAX

I felt both frustration and a little joy when Imax (Nasdaq:IMAX) shares jumped nearly 60% on December 7 upon the news of a deal with theater operator AMC Entertainment to convert 100 traditional theaters into Imax digital projection screens.

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Given that the total installed base of Imax theaters was around 300 the day before (worldwide), the deal represents a big expansion and a valuable vote of confidence. More importantly, it may finally remove Imax stock from the ranks of "will this survive" and into a viable, sustainable company. This could pave the way for credit upgrades and either a sale of the company, or consistent revenue and margin growth.

Imax Has Seen Very Long Days
I used to own stock in the mega-theater company several years ago, and I suffered through what many who owned this company have felt: the restless waiting around for some signs of life, eventually closing out the position and leaving a loser - all the while wondering how such a good idea was so unprofitable. In the back of my mind, I figured Imax would eventually figure out a way to make its service and products marketable, purely on the spectacle and uniqueness that is the Imax viewing experience.

Concerns about the high debt-to-cap ratio (which has hovered well above 50% for the past five years) and stalling revenues eventually scared me away from the stock.

That ended up being a fortuitous choice, as the stock slid from the mid-$20s (during the late '90s) all the way to the low single digits. A sliding broad market got the negative momentum going, but Imax did its own dirty work to drive down shares, embroiling shareholders in accounting shenanigans that had the company on the brink of bankruptcy. Imax even publicly announced it was putting itself up for sale, only to have to drop the effort due to a lack of adequate bids.

Going Digital and Growing Screens
The year 2007 saw the company finally catch up on its financial restatements, which centered on revenue recognition practices for in-process theater installations, and extend some existing joint ventures with theater operators like Regal Cinemas to convert theaters to all-digital projection systems.

The transition to digital theaters in 2008 - while more costly in the short-term - should improve the long-run economics of playing feature films by saving on film costs and allowing for a "hard line" to the distribution companies to add special features, previews and extended movie cuts. All of this should help to make an Imax release something every major studio considers when laying out its budgets, which in turn should inspire theater operators to want an Imax screen or two in their local multiplex. (For added insight, check out The Hidden Value Of Intangibles.)

The Installed Base Will Drive Recurring Revenue
They say "content is king" in the media world, and this fact should help to drive recurring revenue in upcoming quarters. The success of recent Imax releases like "Spider-Man 3", "300" (both of which earned over $24 million in Imax revenue), "Harry Potter and the Order of the Phoenix" and "Beowulf" is proof of the company's ability to get major film release revenue.

The margins on this business are a heck of a lot better than building out theaters, but committing to growing the total installed base also serves a critical role. More theaters leads to more ticket sales, which leads to more movies that are converted for Imax release. The AMC deal involves some cash assistance, which Imax desperately needs right now. Imax still carry a high debt load, and until revenue growth becomes consistent, Imax's access to capital is very limited. This, along with the credit crunch we've seen this year, is a big reason why the company hasn't already been gobbled up by a private equity or corporate player.

Parting Thoughts
Strong results for new movie releases, a very healthy order backlog and a commitment to be all-digital have me intrigued on the stock's prospects. Earnings estimates are going to be volatile for a while, so this small-cap stock is not for the faint of heart. But I like the stock both as an intellectual property play (Imax remains a well-known brand) and a leveraged bet on digital technology and media.

To begin your own investigation, see Small Cap Research Can Have Big Impact.

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By Ryan Barnes

Ryan Barnes has over 10 years experience in portfolio management and investment research, covering equities, fixed income and derivative products. Barnes has worked with Merrill Lynch, Charles Schwab, Morgan Stanley and many others as an institutional trader, and maintained AIMR compliant performance for a diverse set of high-net-worth investors.

Barnes is currently working as a writer and financial modeling consultant specializing in capital appreciation and hedging strategies, and is the editor of EpiphanyInvesting, a website devoted to finding long-term success in the stock market.

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