Description

Elevator pitch

Thailand’s largest cinema operator, shut down during the COVID-19 pandemic but now re-opening in June/July as Thailand’s COVID-19 daily infection rates remain at almost zero. Thailand’s cinema industry is a growth market, with cinema screen penetration only 28% of that in South Korea’s and 13% of that in the United States. Trading at 12x 2019 net income and sub-10x 2023e net income, we believe the shares have +64% upside once cinema attendance shows signs of normalizing.

The business

Major Cineplex is a cinema operator with 815 screens in Thailand and neighbouring countries. Movie-related revenues make up about 83% of revenues, with the remainder coming from bowling, karaoke, ice skating, food & beverage and movie content production.

The company currently has a box office market share of about 70% across its cinema brands Major Cineplex, EGV Cinemas, Paragon Cineplex, Esplanade Cineplex and a few others. Its major competitor SF Cinema has a market share closer to 29%. Major is the only cinema operator that offers IMAX cinema in Thailand, with 8 IMAX screens built so far.

The operations are highly digitized, with most of cinema tickets now being purchased via Major Cineplex’s app or third-party apps such as LINE or Facebook.

Major has a JV with Korea’s CJ Entertainment, originally part of the Samsung Group. The JV produces 10 local language movies per year, shown exclusively in Major’s cinemas.

Why the stock is undervalued

The overall Thai box office has been worth around THB 10 billion per year, growing 10-15% annually.

The number of screens has been growing steadily in the high single digits with ROEs stable in the 15-16% range. They see potential outside of Bangkok (50% of current revenue) and in neighbouring countries such as Cambodia and Laos. Even within Thailand, there is potential for further growth via a higher screen count. Thailand’s cinema penetration is about 58,000 people per 1x screen vs 16,000 in South Korea and 7500 in the United States. It is reasonable to expect the number of screens to keep growing in the high single digits for at least another decade.

The long-term strategy is to build cinemas in shopping malls, lifestyle malls and as well as larger-scale stand-alone cinemas. Cambodia and Laos remain large growth opportunities for the group, given how these countries’ cinema markets remain underdeveloped. While Major Cineplex does not have any presence in Myanmar so far, management does not rule out expanding into the country at some point.

Another driver is higher ticket prices. A movie ticket in Thailand costs about US$5 (176 baht). Historically ticket prices have risen with inflation, making cinema operators a good inflation hedge. While Thai inflation has recently been low, recent COVID-19 related deficit spending represent more than 10% of GDP and is likely to increase overall consumer spending in the period immediately following the pandemic.

Other than higher ticket prices, concession revenue only makes up 19% of overall movie revenues compared to 40%+ for many cinemas in the United States. While the lower concession revenue to some extent reflects differences in consumption habits, we still believe that this part of the business has pricing power and offers a certain degree of untapped potential.

Founder and CEO Vicha Poolvaraluk appears to be forward-looking, ambitious and friendly to minority shareholders. Compared to his peers in Singapore, he is still young at just 56 years old. He comes off as curious and ambitious, wanting to create a world-class entertainment empire with a solid customer experience. The company’s corporate governance seems solid. Article that outlines Poolvaraluk’s career since starting the company in the late 1990s: https://www.bangkokpost.com/business/542587/winner-takes-all

Even prior to COVID-19, there has been concerns about the long-term outlook for cinema attendance. VHS tapes, DVDs, flat-screen TVs, online streaming have all been seen as potential threats for the industry. North American cinema attendance has been dropping since the early 2000s, but the poor attendance numbers may have as much to do with rising prices as they have to do with Netflix. However, that is not the case for Europe and not the case for many Asian markets such as Thailand and mainland China. Global box office revenues have been rising steadily over the past decade, despite Netflix. Asian box office revenues doubled in roughly a decade.

The product is not the movie itself. The product is the experience – the way cinema offers a night out with new movies that have yet to be released on iTunes or online streaming services.

We believe that Netflix is not a direct substitute for cinema, for four separate reasons:

• Going to the cinema is an inexpensive option for a “night out”, and should be compared to similar options such as nightclubs, fine dining, shopping malls, etc.
• The theatrical window remains 90 days+, giving cinemas access to the newest and hottest movies before DVDs, online rental platforms and online streaming platforms such as Netflix can get access to them.
• The cinema experience is far better than watching on a small screen in your living room. Spending the thousands of dollars to match the experience of a cinema makes for a very long pay-back period compared to $5 ticket prices.
• Netflix’s real strength lies in TV shows rather than movies. TV shows are likely to be strategically more important to Netflix, given how they can keep subscribers on the platform in the hope of seeing future seasons of their favourite shows.

Looking at Major Cineplex’s historical track record, there has been almost no evidence of any hit from Netflix since the launch in 2017. Investments in Cambodia and Laos as well as weaker Hollywood released in 2017-2019 also did not affect the company materially, as margins have remained at prior averages.

The near-term issue revolves around COVID-19. On 17 March, the Thai Cabinet issued preventive measures to fight the spread of COVID-19, shutting down schools, universities, pubs, sports arenas and entertainment venues across Bangkok. Soon thereafter, Major Cineplex decided to shut down all its cinemas across the country. Cinema traffic fell 60-70% in March and fell 44% during 1Q20. The management team says that second quarter 2020 earnings will be the worst.

While Major Cineplex is not necessarily cheaper on near-term multiples, it practically zero debt and is run by an experienced owner-operator. On 2019 revenue, EV/Sales of 2.1x ranks in the middle of the Asian peer group.

While the company has two bonds outstanding with a total principal amount of THB 1.5 billion as well as THB 2.3 billion in bank overdrafts, it also has THB 800 million in cash and a portfolio of listed equities worth close to THB 5 billion. 2019 EBIT interest coverage was 18x. Both of the bonds now trade at below 2% yields, suggesting limited risk of default.

At the moment, the monthly cash burn is about THB 160 million per month. Thanks to the rent concessions offered by landlords from July as well as the resumption in business activity, management is guiding for free cash flow break-even in July. By the end of the second quarter of 2020, the company will end up with THB 3.8 billion in net debt (~THB 1.2 billion in net cash if you include securities on the balance sheet). Another ~THB 10 million in interest payments is manageable in relation to the THB 1.5 billion in yearly EBIT the company is likely to see once cinema attendance recovers.

The back-of-the-envelope valuation is as follows. 2022 revenues to reach roughly THB 12.5 billion with 3% screen growth this year and closer to 5% thereafter, 1% yearly ticket price inflation and a full recovery in attendance. Operating margins hitting 14%, in line with guidance. Assuming EV/EBIT multiple of 17x, which we think is well justified given the potential for catch-up growth in Thailand’s screen/capita penetration rate, as well as growth opportunities in concessions and across Cambodia / Laos. Historically, the stock has traded closer to 20x EV/EBIT. With future net debt of THB 3.8 billion (assuming Major’s dividend being intact at THB 1.2 billion per year) we get to an intrinsic value per share of THB 29.1, implying roughly +64% upside from the current share price of THB 17.7. The target price is equivalent to a 17x P/E ratio in 2022, which we believe is fair for a high-quality growth stock in the type of low interest rate environment that Thailand currently enjoys.

How the stock is likely to reprice

Thai malls already re-opened on 17 May 2020. Major’s stock price reacted positively as mall foot traffic proved higher than expected. Cinemas in Bangkok are to re-open in the second or third stage in June. Thailand is aiming for a full end to the lock-down on 1 July 2020. Some movie theatres have already opened, and full re-opening will depend on the resumption of Hollywood movies launches.

In the initial stage, Major’s cinema capacity will be limited to 25% to maintain social distancing precautions. Management believes that 90% of available seats will be booked. But initially no drinking or eating in the movie theatre. Masks must be worn at all times.

Alleviating the pain on cinema operators, landlords have also offered rent concessions from third quarter 2020 onwards, causing Major Cineplex to guide for an earnings bottom in the third quarter and a gradual recovery thereafter.

The major positive catalyst ahead will be the global release of Christopher Nolan’s Tenet, with a mid-July release date. Nolan’s past movies Dunkirk and Interstellar both made over a half billion $ in global box office revenues.

We’re seeing early signs that people globally are willing to go back to normal lives, including taking airplanes, visiting casinos, going to restaurants, going back to the office etc. Provided that proper safety protocols are put in place. With Major Cineplex ramping up attendance slowly from 25% to 100% - making sure that infection rates stay low throughout this process – we believe that customer fears will gradually subside. A survey from NCM indicated that the vast majority of people plan to go to the movies the same amount as before after they re-open. And once cinemas prove to be safe, customers’ willingness to go to the movies is likely to recover even further.

In prior pandemics – 2003 SARS, the 1918 Spanish flu, the 1968 Hong Kong flu – box office revenues were negatively impacted but recovered within months. There is no evidence that either of these pandemics led to a permanent shift in customer behaviour.

While the return to normal can take anything from 6 months to 2 years+, with a +64% upside an investment is likely to lead to a satisfactory IRR in either case.

Catalyst

Thailand’s end of lock-down on 1 July 2020.

Hollywood release schedule resuming in mid-July 2020.

Second quarter earnings being out of the way on 7 August 2020.