North American movie admissions fell from 1.50 billion in 2004 to 1.34 billion in 2013, based on data released by the Motion Picture Association of America (MPAA.) This shouldn't come as a surprise, as the domestic movie market is mature and consumers are increasingly seeking alternative forms of entertainment. As movie theaters draw lesser footfall, their bargaining power with landlords also diminishes, leaving them exposed to rent hikes.
However, not all movie theater groups are equally affected by these dynamics. Among them is Reading International (NASDAQ:RDI), the 12th largest theater chain in the U.S., which stands out for its overseas exposure and differentiated real estate strategy. Reading International also shares characteristics of other movie theater groups such as Cinemark Holdings (NYSE:CNK) and The Marcus Corporation (NYSE:MCS).
While the U.S./Canada box office grew by a mere 3% from $10.6 billion in 2009 to $10.9 billion in 2013, box office receipts in Asia Pacific and Latin America increased by 55% and 78% respectively over the same period. This bears testimony to the growth potential of the movie industry overseas. Reading International is the third largest motion picture exhibitor in New Zealand and the fourth largest player in Australia. It generated 39% and 10% of its 2013 revenues from Australia and New Zealand, respectively. In particular, Australia was the ninth largest international box office market in 2013, according to IHS.
Reading International has managed to grow its box office revenues by an impressive CAGR, or compounded annual growth rate, of 11% for the past 12 years from 2002 to 2014 (estimated.) In comparison, domestic box office receipts only increased by a 3.2% CAGR over the same period. Reading International outperformed the local movie industry because it has picked the right spots overseas. It operates 20 theaters in Australia, where box office sales have expanded by a CAGR of 7.2% from $0.4 billion in 2002 to $1.0 billion in 2014.
The story is similar in Canada, where local box office receipts have increased at a 8.7% CAGR from 2002 to 2014. In fact, due to its footprint of seven theater chains and 40 screens in Canada, Reading International has grown twice as fast as the industry with a CAGR of 15%.
Another movie theater group which has pursued the strategy of geographical diversification is Cinemark Holdings. It runs 486 theatres with 5,595 screens in 14 countries. Cinemark has a strong presence in Latin America, where it has been operating in six of these countries for more than a decade. It also recently opened its first theater in Bolivia this year. Cinemark is particularly dominant in Brazil, Argentina, and Chile, where it holds about one-third of market share in each of these countries.
From 2008 to 2013, Cinemark has matched the Latin American box office receipts' 13.4% CAGR by growing its box office revenues by a CAGR of 14.8% over the same period. In 2013, Latin America was the best performing region with respect to box office revenues growth, with a growth rate of 7.1% vis-à-vis 0.9% for U.S./Canada.
Despite the strong historical growth, Latin America still hold tremendous potential for Cinemark, as the market is still underserved. The admissions per capita ratio for Latin American countries ranged from 0.7 to 2.2, compared with 2.7 and 4.0 for U.K. and U.S. Cinemark has guided for at least 100 new screens (international) in 2014.
Source: Reading International
Real estate strategy
Similar to retail, the movie theater business is all about location. In the good old days where movies were still the only form of entertainment for most people, theater groups had greater bargaining power over landlords because of their ability to act as anchor tenants and draw footfalls. This isn't the case anymore.
In the case of The Marcus Corporation, the country's fifth largest theater chain, it own 85% of its theaters, compared with its listed peers which typically own under a quarter of their theaters. There are a few advantages associated with Marcus' high level of real estate ownership.
Firstly, Marcus loses less of its prized locations, if lease renewal negotiations fall through. Secondly, it has the luxury of effecting cinema build-out without either seeking landlord approval or worry about lease stability. Thirdly, operating movie theaters is a high fixed-cost business and Marcus' business model is less risky than that of its peers. Its lower proportion of fixed rental costs results in a correspondingly lower operating leverage.
Similarly, Reading International capitalizes on the synergies between its cinema exhibition and real estate businesses to deal with the issue of rising rental costs. It owns the real estate for substantially all of its theaters through its real estate arm, which is leased to its cinema exhibition business division.
Its cinema exhibition business benefits from the lease duration stability associated with a "friendly" tenant, allowing it to invest for the future with a long term mind-set. Reading International is more willingly to commit to huge investments in its theaters with respect to equipment and cinema build-out, because it is assured of staying in the same location for the long run. Moreover, Reading International has greater control over the profile of its neighboring ancillary tenants, which have the potential of drawing in movie-goers.
Foolish final thoughts
Reading International performed well in the first quarter of 2014, increasing its quarterly EBITDA by 8.6% to $7.5 million. Going forward, it should do better than the rest of its domestic-focused peers because of its exposure to growing foreign movie markets such as Australia & New Zealand. In addition, its real estate division armed with the track record of building entertainment themed retail centres should provide Reading International with a strong pipeline of new theater expansion opportunities.