Large crowds, long lines, and high-touch surfaces make an amusement park the perfect incubator for a contagious disease like COVID-19. Nevertheless, Six Flags Entertainment (NYSE:SIX) is reopening its parks to members and season pass holders this month -- with extensive new safety measures, including reduced capacity and hygiene protocols, designed to stymie the spread of the pandemic. 

Six Flags' reopening comes just in time for the lucrative summer season and could help make up for losses earlier in the year. But the company faces several key challenges going forward. The potential resurgence of COVID-19 and the economic recession could make shares underperform the wider market during this crucial season. 

A stop sign hangs in front of an amusement park ride.

Image source: Getty Images.

Six Flags faces a double-pronged challenge

While the coronavirus pandemic is slowing in major cities like New York, the virus has shown a resurgence in some areas that eased lockdown restrictions and reopened their economies sooner. Several states, including California, Georgia, and Florida, have seen a spike in cases since Memorial Day, and this is a worrying trend for Six Flags as it seeks to entice customers back to its amusement parks.

But coronavirus isn't the only challenge Six Flags faces -- there is also the issue of recession and a sky-high unemployment rate. According to a June 8 statement from the National Bureau of Economic Research, the U.S. is officially in a recession. And the May unemployment rate stands at 13.3%. 

This is bad news for Six Flags because it is a consumer discretionary company that depends on customers making nonessential luxury purchases.

No one knows how long this economic downturn will last, but recessions are typically characterized as two or more consecutive quarters of negative GDP growth. If this recession started late in the first quarter, it could last for most of the the second and third quarters, which would be terrible news for Six Flags because the company generates 74% of its revenue in this part of the year. 

Season passes are a small fraction of revenue

Six Flags is partially shielded from recession because around 10% of its park admission revenue is front-loaded in the form of season passes, which are good for 12 months.

The company recorded season passes as long-term contracts valued at $5.76 million in the first quarter compared with total park admission revenue of $59.8 million in the period. But while customers who purchased season passes will be motivated to attend the parks despite the recession, they may be less likely to purchase Six Flags' heavily marked-up food and drinks on the premises.

Refreshments at Six Flags are notoriously expensive, with refillable drink bottles costing as much as $17.99 each. The company generated $29.8 million in sales from park food and merchandise in the first quarter, which is around 29% of total revenue for the period. This leaves the business hugely discretionary and vulnerable to recession because consumers tend to avoid luxury purchases during economic downturns. 

Takeaway 

Six Flags is finally reopening its parks to members and season pass holders. And while this looks like great news, the company will still face massive challenges from a possible resurgence of COVID-19 and the economic recession.

Six Flags' consumer discretionary business model depends heavily on season pass holders purchasing expensive refreshments in its amusement parks. And while a good number of pass holders will be glad to return to the parks, their food and beverage expenditures may be lower than expected, leading to poor performance for the company in the critical second and third quarters.