IMAX Not as Big as It Seems

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I went to see a movie in IMAX (Nasdaq: IMAX  ) , except it wasn't really in IMAX. I'd been duped. My theater and IMAX apparently agreed that by stretching the size of the screen to fill the whole wall and using an IMAX projector then, voila, I was watching the movie in IMAX. This is apparently not uncommon.

That's when it hit me: Size does matter, and something might be rotten in the projection booth.

IMAX is a fad ... a fad, I say!
I define a fad company as something that is not a sustainable business. Heelys is only going to sell so many wheeled shoes. Build-A-Bear can only sell so many stuffies, cute as they are.

Unless the company innovates, IMAX does not seem to me to be a sustainable business. IMAX makes most of its money by leasing its systems to theaters, with maintenance and revenue-share contracts for remastering and distributing Hollywood releases in its format.  Once they run out of theaters to do this with, they are toast.

"Wait," you say. "Can't do novo IMAX theatres be built?" I say, no way. For that to happen, they must do the following:

  1. Encourage exhibitors to include an IMAX theater in any new complex construction. This is unlikely, as IMAX would have to get a significant number of new theaters developed to have a revenue impact. Unfortunately, exhibition is a mature industry, and the current U.S. trend is that theaters are closing.
  2. Expand a complex to make a custom IMAX theater, which is costly and unlikely.
  3. Consolidate two or more theaters to create an IMAX theater (ditto), or
  4. Make a fake IMAX theater, like I went to (Bad! See below).

Thus, there are only so many existing theaters that can convert into IMAX theaters. The company has 447 systems in its network and says it expects a worldwide footprint of only 1,250 screens. So what happens when the world is saturated with IMAX screens? No more equipment sales. That could be a huge problem, because about 22% of IMAX's H1 revenue of $128 million comes from equipment sales, and that 22% comprises 67% of the company's H1 net income.

You might argue that once all those screens get installed, IMAX's revenues will soar from ongoing revenue-share deals from remastering and distributing films in its format.

Not likely, in my opinion, because IMAX is just a fad. To compensate for content that audiences are losing interest in, studios and exhibitors have raised prices and relied on fads such as 3-D and IMAX to offset the past decade's trend of flat-to-lower admissions. We've seen this before. Exhibitors tried VistaVision, CinemaScope, Todd-AO, Sensurround, Percepto, Smell-O-Vision, and even 3-D. They all came and went. Today's 3-D and IMAX are just the modern versions of these unsustainable gimmicks.

And in case you're wondering if box office revenue has been goosed by the IMAX gimmick, fellow Fool Rick Munarriz says it himself, "Hollywood probably wouldn't have had a record year in box office receipts in 2009 if it wasn't for IMAX". When this fad runs its course, which it will, Hollywood will find another fad. That's when IMAX leases will stop being renewed, and there goes another 24% of revenue and 75% of net income, and all the cash flow that goes with

Other concerns
I don't like companies that rely on a totally random set of events for revenue. Since IMAX makes money from shared box office revenue, it is beholden to Hollywood to produce great content that is also suitable for IMAX. I don't have to tell you that Hollywood's content stinks. The MPAA reports that gross admissions are flat to down over the past 10 years. This secular trend is going to worsen. Home theater systems are becoming more amazing, 3-D TV is on the way, and companies like Netflix (Nasdaq: NFLX  ) are providing viable alternatives to going to a theater.

But the real kicker was my fake IMAX experience. I discovered that these screens are only 25% the size of "true" IMAX screens. That these installations exist at all, and are not true IMAX, is a deception played upon the moviegoing public and investors. The company is diluting its own product in an effort to grow. Bad news to this investor.

So rewind back to that 1,250-screen footprint. How many of these will be true IMAX or the diluted product that harms the company's brand?

Finally, investors have been fooled by IMAX before. Back in 2000-2001, everyone believed that IMAX was going to -- well, I still don't know what everyone believed -- but when reality hit, the stock went from $25 to $1.

This is the end
There are two takeaways here. None of this means IMAX stock can't go higher. The beauty of fad stocks is that if you catch them on the upswing, you can do very well. However, sooner or later the music will stop, and you'll want to be short.

When is it time to short IMAX? I'd keep an eye on the backlog, which the company reports every quarter. Once that backlog starts to decline for a couple of quarters, then I'd pull the short trigger.

Otherwise, do yourself a favor. If you must invest in the movies, then do it with either a diversified media company like Walt Disney (NYSE: DIS  ) or a company with a proven track record like DreamWorks Animation (NYSE: DWA  ) .

Movies are timeless. Movie screens and projection systems ... not so much.

Matthew Brown rarely sees a film in true IMAX and holds shares in Walt Disney. Walt Disney is a Motley Fool Inside Value pick. IMAX is a Motley Fool Rule Breakers recommendation. Walt Disney, DreamWorks Animation SKG, and Netflix are Motley Fool Stock Advisor picks. Try any of our Foolish newsletter services free for 30 days. True to its name, The Motley Fool is made up of a motley assortment of writers and analysts, each with a unique perspective; sometimes we agree, sometimes we disagree, but we all believe in the power of learning from each other through our Foolish community. The Motley Fool has a disclosure policy.

Read/Post Comments (11) | Recommend This Article (11)

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  • Report this Comment On September 17, 2010, at 12:22 AM, kevin4fr29 wrote:

    Sorry, IMAX is not a fad... it has just finally found a business model that can bring it into the mainstream (Walmart was a similar story!) For decades, IMAX was just a niche Giant Screen immersive experience but the screens were too big and costly to build to put everywhere we wanted them.... So the smaller IMAX screen (still beiiger than the norm and with awesome sound) has allowed them to bring their brand of a more immersive cinematic experience to more and more people.... this is just the beginning for IMAX... their exclusive development agreement with "Laser Light Engines", and their soon to be unveiled "Portable Theatres" could be the technical innovations that kick their growth momentum into a whole new gear... and then there is their global expansion, their 3D TV venture with Sony and Discovery Communications etc... No... The IMAX brand hasn't been diluted, it has only been made more accessible... and you can still go see the big IMAX screens if you want... I went to see Hubble and Under the Sea at their OmniMax theatre at the Science Center and loved it... I'm behind IMAX all the way because if it wasn't for them pushing the mainstream movie theatre envelope recently we'd all still be stuck watching the smaller multiplex screens with 35mm films and mediocre sound. IMAX has consistently set the bar higher and we've all benefitted from it... I think shorting IMAX would be a big mistake... especially if Disney, Sony, AMC, Warner Brothers, or even Bono wanted to take another shot at buying them!

  • Report this Comment On September 17, 2010, at 8:19 AM, pondee619 wrote:

    "However, sooner or later the music will stop, and you'll want to be short." "When is it time to short IMAX?" "then I'd pull the short trigger."

    Did we mention that the fool is starting a service based on shorting?

  • Report this Comment On September 17, 2010, at 2:16 PM, cliffcch wrote:

    I don't think IMAX will be doomed any time soon. I think they just found the right way to penetrate into the industry. Althought according to Mr. Brown "22% of IMAX's H1 revenue of $128 million comes from equipment sales, and that 22% comprises 67% of the company's H1 net income", the bigger portion of the pie indeed comes from movie revenues and maintenance services. And revenues generated from movie sells and aftersale supports wil be the long-term money making ingredients. You may not be seeing them taking the charge at this moment because

    IMAX is at the expansion phase. But I foresee these to grow with prospect as the new installations are settled and more movies are going for the IMAX format. I can also see movie companies to take advantage of remastering their classic films like "Titanic", "Pearl Habour" to IMAX format to produce low-cost but profitable movies soon.

  • Report this Comment On September 17, 2010, at 4:08 PM, Widerman wrote:

    Although the smaller screens are a misstep that has slightly tarnished the brand, IMAX is simply the best theatrical film experience to date, offering the highest quality video, audio and 3-D ever installed in theaters. The customers and the studios seem to have noticed. Hopefully, being the best is not a passing fad.

  • Report this Comment On September 17, 2010, at 4:12 PM, ContraryDude wrote:

    Yep - and people said that the Macintosh was just a fad and that Apple would never survive...

  • Report this Comment On September 17, 2010, at 4:41 PM, Borbality wrote:

    guess i better short everything! that always works.

  • Report this Comment On September 17, 2010, at 5:50 PM, mainstjournal wrote:

    Imax is now more than just a movie theater company. It's a brand. Jan 2010:

    "Discovery, Imax and Sony confirmed on Tuesday that they are forming a joint venture for a 3-D television channel."

    The issue of revenue cannot be ignored either, the perception right now is that IMAX is making the movie business profitable again. When the number of theaters grows, the profit will scale. In a year it might be like 'I don't want to go to a non-IMAX theater' as a common sentiment.

    So with this stock at this level, you're paying for growth.

  • Report this Comment On September 20, 2010, at 12:45 AM, metal82a wrote:

    I think he forgot to mention the great growth opp in Europe and especially Asia.

  • Report this Comment On September 21, 2010, at 1:59 PM, cliffcch wrote:

    Exactly, growth in Europe and Asia is huge! Look at the recent gain of IMAX (up more than 7% in the last two days) after it inked one of the largest deals in Asia!

  • Report this Comment On September 21, 2010, at 5:46 PM, BoomerBull wrote:

    "When this fad runs its course, which it will, Hollywood will find another fad."

    "I foresee these to grow"

    "This is just the beginning for IMAX"

    I wish I had such a clear crystal ball! Until I find one I'll just ask, "What have you done for me lately?" and use that as a gauge for short-term decisions.

  • Report this Comment On October 15, 2010, at 3:37 AM, XMFConnor wrote:

    I could not disagree more.

    They are the "IMAX EXPERIENCE." While I agree that smaller theaters are not a good idea, I think most people associate IMAX with a great experience-- so much so that many are willing to pay a premium for it.

    You seem to suggest they will build all of their theaters and run out of ways to grow. First, they are very early into their growth phase, especially considering their international success-- so that issue is years and years away. Secondly, it's all about shared revenue now. With more and more blockbuster hits--- Avatar, Inception, etc. IMAX is poised to benefit.

    This article would be more relevant in my opinion to IMAX years ago (before the rev-share business model).

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