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AMC Entertainment's No-Win Scenario

By Sean Williams - Apr 11, 2021 at 5:36AM

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In a few weeks, AMC shareholders will vote on an issue that has no positive outcome.

A new year has brought a new type of volatility to Wall Street. Whereas the coronavirus pandemic whipsawed equities last year, retail investors are one of the primary causes of equity vacillations in 2021.

Beginning in mid-January, retail investors on Reddit's WallStreetBets (WSB) chatroom began allying with each other to buy shares and call options in stocks with very high levels of short interest. The goal for these mostly young and novice investors has been to effect a short squeeze. Since institutional investors and hedge funds hold a majority of the short-sold positions in the stocks targeted by the WSB community, this has been construed as a battle between retail investors and the so-called "big money."

While there have been dozens of stocks that benefited, at least temporarily, from the WSB community's efforts, video game and accessories retailer GameStop and movie theater chain AMC Entertainment (AMC -5.54%) have been the go-to for retail investors. Between the two, AMC is arguably the most polarizing.

A couple eating popcorn while watching a film in a crowded theater.

Image source: Getty Images.

Retail investors' case for AMC

There are no shortage of reasons the WSB army of investors believes AMC will head higher. Chief among them is the idea that it'll undergo yet another squeeze, which could be even larger than the one that sent shares from $2 to $20 in a matter of days earlier this year. As of mid-March, data from Morningstar showed that 49.3 million shares of AMC were held short. That's up about 1.2 million shares from mid-February. The hope here is that one or more good news events could cause pessimists to head for the exit, pushing AMC's share price higher. Of course, with AMC's short ratio plummeting in recent months, a sustained short squeeze looks extremely unlikely.

Retail investors are also big backers of the reopening trade. The U.S. is leading the way among developed countries when it comes to coronavirus vaccinations. The quicker adults are vaccinated, the more likely it is that life can return to its pre-pandemic normal. In the case of AMC, this could mean lessening or removing its theater capacity restrictions. Remember, it's not just about the movies that consumers are going to see. It's about getting more people to the high-margin concessions stands.

Enthusiasts have rallied behind AMC's capital-raising efforts, as well. According to CEO Adam Aron, the company raised $2.8 billion via share offerings and debt capital since the pandemic began. In the company's fourth-quarter earnings report, the company noted that it had more than $1 billion in cash available.

A blank paper certificate for shares of a publicly traded company.

Image source: Getty Images.

AMC is weeks away from a no-win scenario

On the other hand, I've made it no secret that I'm extremely skeptical of AMC's ability to turn its business around, or perhaps even survive over the long run. The way I see it, AMC Entertainment is just weeks away from a no-win scenario.

Back in March, the company filed a proxy statement with the Securities and Exchange Commission stating its desire to put a number of items to vote by its shareholders on May 4. Among them is the ability for AMC to issue up to 500 million shares of Class A stock. If approved, this would effectively double the existing authorization and allow up to 1.024 billion shares to be outstanding. 

To be clear, AMC isn't necessarily going to issue any shares. According to Aron in an interview with CNBC: 

Dilution is something we care about but I would also tell you we are formally asking for approval from our shareholders to authorize another 500 million shares that the company could issue if it wishes. There are a lot of benefits to our shareholders of having board-authorized shares out in the market. We will be sensitive to dilution issues. At the same time, though, there's an opportunity to bolster our cash reserves. There's an opportunity to buy back debt at a discount. There might be an opportunity to defray some of our deferred theater rents; settling with stock instead of cash; maybe there's some merger and acquisition opportunity where we could buy other companies inexpensively using our stock as currency, there are a lot of good reasons for shareholders to give us the authority to have more shares.

A hand reaching for a neat stack of one hundred dollar bills in a mouse trap.

Image source: Getty Images.

While I can appreciate Aron's cheerleading, it's misguided at best. To think that AMC would consider using its stock as currency to make acquisitions when there's $11 billion in convertible and non-convertible debt on its balance sheet, as of mid-February, according to S&P Global Market Intelligence, is foolish (with a small 'f'). 

What's happening on May 4 is a no-win situation for Aron, AMC, and the company's shareholders. If shareholders approve the measure, AMC probably guarantees its survival for a long time to come. However, being given a free pass to double the outstanding share count will put ceiling on the company's share price -- i.e., rallies will be met by AMC selling stock into strength -- and likely crush the hopes of retail investors.

Meanwhile, if shareholders vote against the measure, AMC is going to have a very hard time coming up with the capital needed to survive. Having more than $1 billion in cash staves off the company's immediate bankruptcy concerns, but it doesn't do anything to lessen the company's ongoing losses at reduced capacity in its theaters. Plus, with $7.2 billion in debt needing to be repaid in 2026 ($6.04 billion of which is traditional and can't be converted to equity), AMC has virtually zero hope of lasting another five years without being able to issue hundreds of millions of additional shares.

No matter what happens with the May 4 vote, there is no good outcome. Approving the share offering would seem the lesser of the two evils, because it would least give AMC a shot at long-term survival. But with the company's revenue not expected to hit pre-pandemic levels until at least 2024, a return back to a low single-digit share price seems probable given the dilution that would be necessary to ensure its survival.

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