Determining when to sell a stock can be a challenging task. Among the several factors to consider are personal financial considerations, like funding a down payment for a home or paying tuition for a child entering college. Other factors can include company-specific considerations, like an expensive valuation due to a rising stock price or deteriorating operating performance.
In fact, the final two reasons aforementioned are going to be the focus of this article. AMC Entertainment Group's (AMC -1.33%) stock has rocketed higher while its operating performance remains troubling.
Movie theater attendance has been declining for 20 years. Image source: Getty Images.
Poor business prospects
AMC stock is up nearly 2,000% in 2021. That's a remarkable rise in valuation that would require a substantial improvement in operating performance to justify such an increase. That hasn't been the case for AMC. Admittedly, business is rebounding for AMC as economies reopen and folks will see movies in theaters again.
However, revenue remains below levels from before the pandemic. Government-mandated business closures hurt AMC in fiscal 2020 when revenue cratered to $1.2 billion from $5.5 billion the year prior. Through no fault of its own, the company's business was disallowed from serving customers. With the rise of streaming services and studios' increasing willingness to skip exclusive theatrical film releases, there is a possibility that AMC never recovers to pre-pandemic operating performance.
Therein lies another problem. It's not like AMC was doing great before the outbreak. The company lost money on the bottom line in four out of the nine years before 2020. Management's focus during the pandemic was on making sure it had enough cash to withstand the business closure -- a task they handled expertly. But there wasn't much structural improvement in the business that suggests it will perform better when the pandemic ends.
Over the last 20 years, a continuously declining number of people have been going to movie theaters to watch films. That's a long time for the industry to think of innovations that could reverse the trend, but it hasn't. The two major changes have had little impact: upgrading the seats and offering restaurant-style dining at your seat. Certainly, there are many intelligent people with a large vested interest in making this work. If they haven't figured out a way in all this time, maybe there is no way to reverse the trend.
Watching movies at home is more convenient and affordable, and the difference in the quality of experience is shrinking quickly.
Investor takeaway
Could the stock still rise despite poor operating performance? Absolutely. This year should be evidence of that fact. Companies like AMC and GameStop have soared despite poor business prospects. Moreover, inflated values can remain for an extended time. After all, what folks are willing to pay for a stock is up to their discretion.
However, it's safer to buy a stock of a business with prospects that reasonably justify its price. That way, your hope of making a profit will not solely rely on convincing others to join in buying and holding.
Furthermore, many AMC shareholders who got in early are sitting on huge paper profits these days. Locking in those large gains makes a lot of sense, given the downside risks mentioned above.
For those reasons, if you own AMC stock, now is a great time to sell.
