Movie theater chain AMC Entertainment Holdings (AMC 6.82%) faced bankruptcy during the pandemic before retail investors rescued it, making it the face of the meme stock craze that's made headlines over the past couple of years.
AMC has so far survived the hit it took from the ongoing pandemic, but it still has some financial issues that could soon force the company to issue additional shares to raise more money. Here is why investors should think twice before buying shares in this company and before trusting management to spend the funds raised properly.
Funds to keep operations going are running low
AMC's biggest problem is that it's not a healthy business temporarily hurt by COVID-19. It was a struggling company before the pandemic and its struggles were only exacerbated as the pandemic continued. Pandemic-related restrictions have eased for the most part and you can see in the chart below that AMC's quarterly revenue is approaching pre-pandemic levels:
Unfortunately, AMC is still losing a lot of money; management noted that operating losses, the money spent on day-to-day operations, were $76.6 million in the second quarter. However, that figure doesn't include capital expenditures: investments into the business, such as renovating or maintaining theaters and the like.
Subtracting capital expenditures gives you free cash flow, the company's total amount of cash generated or burned. In the second quarter of this year, free cash flow was negative $134.8 million.
Management noted that it has about $1.2 billion in liquidity, but its actual cash balance is $965 million. The rest is available via credit lines, which isn't ideal because AMC already has $5.5 billion in long-term debt and no cash profits to pay it down. It could need more money within a year if it keeps burning cash at this rate.
AMC may ask investors to foot the bill
The only realistic option is for AMC to ask investors for money by selling new shares of stock. But shareholders should respond by asking what they are getting for their money.
The stock isn't nearly as cheap as you might think, despite shares falling far from their highs during the 2021 meme stock frenzy.
First, management has already issued many millions of shares, dramatically increasing the share count. This means each existing share represents a smaller piece of the business, a concept referred to as dilution.
Second, the company's inflated share count and debt have pushed it to an enterprise value beyond its pre-pandemic level. That means AMC already carries a higher market value than before COVID-19. What happens if the market suddenly decides that AMC isn't worth as much as it was before? Yes, shareholders could become bag holders should the stock price reflect that.
Advice from the Oracle himself
Warren Buffett once said, "Price is what you pay, value is what you get." AMC has benefited from investors who have focused on price but haven't stopped to think about what the company is worth.
Nobody knows what will happen, but AMC's questionable financials could eventually catch up with the stock. Meme stocks like AMC are highly speculative and should be a small part of a highly diversified portfolio, if they are even present at all. A house built on a weak foundation will eventually crumble.