Description

I believe the pending merger of Cedar Fair LP (FUN) and Six Flags Entertainment Corp (SIX) is a compelling investment opportunity. I believe both FUN and SIX are currently under-earning and the merger will give the opportunity for FUN’s seasoned management team to turn around SIX’s underperforming parks while pursuing cost efficiencies at the FUN parks. In addition, the combined company should attract a more institutional investors given its larger size and FUN’s transition from a Limited Partnership to a C-Corp structure. From its current price of $44/share, I believe FUN can double over the next 3 years.

Both FUN and SIX are owners and operators of regional theme parks. Regional theme parks are solid businesses as they have steady demand (a relatively low-cost form of live entertainment) and no new supply (barriers to entry from high cost of land/construction and “NIMBYism”). Since the two companies have limited geographic overlap, the merger will dampen business volatility caused by weather. As evidence of reduced risk post-merger, ratings agencies have signaled debt ratings upgrades post the merger close.

SIX has a volatile history. After pursuing a debt-fueled consolidation of the industry, operational issues and an over-leveraged balance sheet led to a bankruptcy in 2009. After emerging from bankruptcy in 2010, SIX aggressively grew EBITDA margins from 33% in 2010 to 41% in 2018 while limiting CapEx / revenues to 9-10% during this period. In retrospect, I believe SIX’s 41% margins with <10% capex/sales were achieved through underinvestment in the parks and thus were unsustainable. SIX’s management has been in flux since its bankruptcy with 6 CEO changes since 2010. The most recent CEO took over in November 2021 and pursued a “premiumization” strategy based on the idea that SIX’s parks had become crowded with low-value guests and people would pay more to attend less crowded parks. I believe this strategy backfired as prior management teams had under-invested in pursuit of higher margins. SIX sought to mimic the success Disney had in raising prices at its parks, but unlike SIX, Disney has heavily invested in delivering an improved guest experience. After dramatically raising prices without significantly improving the product, SIX’s revenue/visit increased +22% in 2022 but attendance fell -26%. In 2023, SIX partially reversed their pricing mistake with revenue/visit falling -5% and attendance growth of +9% but 2023 EBITDA was still 10% below 2019 (pre-Covid) levels. SIX has also acknowledged its historical underinvestment and through its guidance of 14-15% CapEx / revenues in 2024 and 2025.

In contrast, FUN has had much steadier historical EBITDA margins (ranging from 35-38% 2010-2018) while investing heavily into its parks (CapEx / revenues of 14% 2014-2018). I believe FUN’s more stable operations are largely the result of having a more consistent management team who is focused on guest satisfaction. FUN has had 3 CEOs since 2003 and the current CEO took the helm in 2018, having started at FUN 25 years ago as a manager of a single theme park. As a result of FUN’s steadier management team, FUN’s 2023 EBITDA was 5% above 2019 levels. Despite eclipsing 2019 EBITDA levels, I believe FUN was under-earning in 2023 as operating costs had ballooned post-Covid and FUN’s management is now addressing this by focusing on managing costs. FUN’s cost efficiency opportunity can be seen by comparing FUN to PRKS. Comparing 2023 vs 2019, both FUN and PRKS had attendance down -5%, revenue/visitor was +28% at FUN vs +29% at PRKS and thus revenue was +22% at FUN vs +23% at PRKS. However, 2023 vs 2019 costs are +8% at PRKS and +31% at FUN leading to 2023 vs 2019 EBITDA +5% at FUN vs +56% at PRKS. I don’t believe FUN’s management team will be as aggressive as PRKS at cutting costs as they are more cognizant of preserving the guest experience. But based on Q1 ’24 results (125k increase in guest count with flat operating costs), I believe FUN is showing progress in achieving cost efficiencies.

After the merger is completed, the FUN management team will run the combined company and I believe operating results will be more consistent going forward. Adding FUN and SIX’s historical results together shows a steadier combined picture, as SIX’s years of over-earning are offset by FUN’s years of heavy investment. Going forward, FUN’s focus on higher margins will mitigate the period of heavy investment that SIX is entering. Over the next few years, I believe SIX’s poor operating performance can be fixed by mirroring FUN’s more consistent approach to pricing and offering a better guest experience.

The merger will result in SIX shares being exchanged for FUN shares at a 0.58 ratio. At a current price of $44/share for FUN, the pro forma company trades at ~8.5x 2024e EBITDA (without any synergies). Note that from 2010-2019 FUN and SIX had average TEV/EBITDA multiples of 9x and 12x, respectively. Despite more consistent operating results, I believe FUN has historically traded at a lower valuation than SIX for two reasons. First, FUN’s publicly traded LP structure precludes many institutional shareholders from owning FUN. Second, from 2011-2018, SIX was driving margins higher and FUN appeared to be underperforming (but in retrospect, SIX’s margin expansion was unsustainable). As part of the merger, FUN is converting from an LP to a C-Corp. I believe that the C-Corp conversion and a larger company (one $4.4bn market cap company instead of two $2.2bn market cap companies) will likely attract more institutional investors which may increase the valuation multiple going forward.

I believe the combined company can grow EBITDA from $1.1bn in 2024 to $1.4bn in 2027 assuming $100m of synergies (50% of the $200m target). This assumes modest 3-5% top-line growth: 1-2% attendance growth plus 2-3% revenue/visit growth. Note that attendance levels are far from peak as 2023 attendance levels vs 2019 were -5% lower at FUN and -32% lower at SIX (driven by the ill-advised pricing strategy). Also note that estimated 2027 revenue of $3.8bn and EBITDA of $1.4bn are well below the 2027 projections in the merger proxy ($4.1bn revenue and $1.6bn EBITDA). Assuming ~$200m/year of debt paydown, no share repurchases, and a 9.5x EBITDA valuation multiple, FUN shares could be worth ~$90/share in 3 years, which is a ~30% IRR (assuming the 2% current dividend is maintained).

Key risks:

• Small (maybe 10%) risk that the merger gets blocked by regulators.
  • DOJ second request was certified on April 19 and FUN/SIX have reiterated the expectation of closing the merger in 1H 2024.
  • I believe if FUN is forced to divest one or more parks to close the transaction, the valuation multiple for disposed parks could be significantly higher than FUN’s current trading multiple of ~8.3x EBITDA.
• Combined company will have net debt / EBITDA of ~4x (but should deleverage by 0.2-0.3x turns per year)
• Theme parks are exposed to a downturn in consumer spending (despite being a relatively low-cost live entertainment option).
• Pandemics – revenues fell 80% in 2020 as parks were shut down.
• Weather and natural disasters can disrupt park operations.

Catalyst

Closing of merger later in Q2 '23

Broader investor base in combined company due to C-corp conversion

Execution of cost efficiencies at FUN parks

Turnaround of underperforming SIX parks