Note: A long report on RDI was posted by zbeex in 2014. There is an active message board for that idea as well. I think another full report is useful as there have been many recent developments.

Summary: Reading International (RDI) is a $500 mil. EV movie theater and real estate company. Reading uses its stable cinema business to fund development of properties that were acquired in years past at low prices. The company is in the process of developing and monetizing some of this underutilized, but valuable, real estate. More important, perhaps, is that an ongoing legal battle could lead to a sale of the firm. My 12-month price target on the stock is $29.00, an increase of 80% from the current stock price.

Introduction: Reading owns and operates movie theaters in the U.S., Australia, and New Zealand. It also owns multiple tracts of land and has active renovation projects in all three countries. The company is underappreciated by shareholders due to a history of poor governance and legal disputes. It is also a rather odd company with real estate in some random places. Still, I think that it is a worthwhile investment because the EV of this RDI does not reflect the value of its properties. Listed book values are far below market values. It is likely that this company could be sold right now at a significant premium to the current price.

History

Reading International has one of the most interesting and convoluted histories of any company in the United States. It is the surviving entity of the Reading Railroad that one finds on the Monopoly board game. That Pennsylvania-based railroad traced its history to 1833. It was one of the world’s first conglomerates as it controlled railroad, coal mining, and shipping assets in the late-1800s. Reading may have been the largest company in the world in 1870s. It was so large, in fact, that the federal government eventually broke it up under antitrust laws. The remaining railroad business thrived for decades until the industry fell into decline in the post-WW II era. Reading Railroad was one of several railroads that filed for bankruptcy in the early-1970s. The company divested its railroad business and focused on developing its remaining real estate assets. In the 1990s, Reading became part of a business managed by California investor James Cotter.

            James Cotter (Sr.) was a lawyer, real estate developer, and movie theater operator. He spent many years in the employ of a family that operated drive-in movie theaters in southern California. Cotter took control of a public company called Craig Corporation in 1995. He used the company to invest in Reading and other firms. Reading had, by the 1990s, moved away from its Pennsylvania roots and become a developer of real estate for movie and live theaters in different parts of the U.S. and overseas. It entered Australia in 1995 and New Zealand in 1997. In 2001, Cotter and associates merged Craig and Reading with each other and a public company called Citadel. Citadel, which had once owned a California S&L, had done business with Reading. Cotter, with his significant movie theater experience, was named Chairman and CEO of the newly-named Reading International, Inc. Cotter only owned about 30% of the new company, but he created a class of voting stock and took control.

Bad Blood: The Cotter Family Feud

            Reading International is a family-controlled business and has long been managed like one. There are two classes of stock, A and B. The Class A stock trades under the symbol “RDI” and has no voting rights. The very thinly-traded voting Class B stock trades under the symbol “RDIB”. There are 21.4 mil. Class A shares outstanding and 1.7 mil. Class B shares. Years ago, James Cotter Sr. created a living trust to hold his controlling shares in Reading. Cotter’s children, James Jr., Ellen, and Margaret, were given various roles at Reading. The children of James Jr. and Margaret (the grandchildren of James Sr.) are the beneficiaries of the family trust. For many years, James Sr. and his three children dominated Reading’s board and ran it like a private company. They engaged in numerous self-dealing transactions and largely ignored outside shareholders. Reading’s stock price spent more than a decade in single-digit territory. In 2014, James Sr. became seriously ill with prostate cancer. His illness and subsequent death led to all sorts of issues for the company.

The death of James Cotter Sr. led to a legal battle among his children. Cotter’s original trust named Margaret as the trustee upon his death. In July, 2014, James Sr. amended the trust and added James Jr. as a co-trustee. Meanwhile, around the same time, it was discovered that James Sr. had inexplicably failed to transfer all his shares to the trust. He resigned from Reading in August, 2014, and named James Jr. as CEO and Ellen as Chairman. The elder James Cotter died a few weeks later. His children began suing each other almost immediately. Ellen and Margaret claimed in court filings that James Jr. had manipulated their ill father into amending the trust agreement. They wanted to remove him as co-trustee. James Jr. countered with claims in filings that his sisters misused company funds. In July, 2015, the Cotter sisters and the rest of Reading’s board fired James Jr. as CEO. This was a blow to outside shareholders as he had shown interest in managing Reading as a real public company. In court filings, James Jr. demanded compensation and to be reinstated as CEO. Shareholders filed a derivative lawsuit against the company alleging misuse of company assets and other bad practices. That suit was later dropped. In December, 2015, Ellen Cotter basically named herself CEO after a dubious search process. Her grip on the company is, however, rather tenuous.

Management and control of Reading International remains unresolved. Most of the late James Cotter’s Class A and B Reading shares are held by the family trust. A significant minority of them, however, were not transferred to the trust and became part of his estate. The legal fight over control of the trust has been contested in Superior Court in California, while the estate is being handled in a separate proceeding in Nevada. It is expected that the shares in the estate will eventually be added to the grandchildren’s trust as James Cotter Sr. intended. The estate and the trust hold a combined 66.9% of the Class B shares. For three years, the Cotter siblings have been fighting over how the trust, the estate, and even unexercised stock options should be handled. On September 5, 2017, Reading issued a press release on a tentative ruling in the California case. From the release:

The Tentative Ruling declares that the 2014 Amendment to the Cotter Living Trust signed by Mr. Cotter, Sr., is invalid. Accordingly, upon the Tentative Ruling becoming final, Ellen Cotter and Margaret Cotter will continue as the sole Co-Trustees of the Cotter Living Trust, as it existed prior to the 2014 Amendment, and Margaret Cotter will likewise continue as the sole trustee of the Voting Trust created under the Cotter Living Trust to hold the Reading voting common stock held by the Cotter Living Trust, again as it existed prior to the 2014 Amendment.

http://readingrdi.investorhq.businesswire.com/press-release/corporate/reading-international-provides-update-california-superior-court-tentative

            On the surface, this looks like a victory for Ellen and Margaret as James Jr. may be removed as co-trustee. The sisters, though, may soon lose control of Reading anyway.

            The recent court ruling could lead to a change of control of Reading. A key statement is somewhat buried in the fifth paragraph of the September 5^th press release: “The Tentative Ruling also provides, again subject to becoming final, for the appointment of a temporary trustee ad litem ‘with the narrow and specific authority to obtain offers to purchase the Reading stock in the voting trust…’” The court, in other words, intends to appoint an independent trustee to solicit offers for the shares held by trust and the estate. The court has been unimpressed by the integrity of the Cotter sisters and determined that they have not been acting in the best interests of the grandkids or the company. This is, basically, what James Jr. has been arguing for three years. If a fair auction is held for the Class B shares, then it is entirely possible that a non-Cotter shareholder will take control of Reading and eliminate most of the board, including Ellen and Margaret. Reading, as you might expect, does not discuss this possibility in public statements and SEC filings. The Cotter sisters want to stop any auction and have stated their intention to buy the Class B shares themselves. James Jr., though, wants a real auction because he is a shareholder and his children are among the beneficiaries of the trust. He has every reason to get maximum value for the shares and leave Reading behind.

            The recent court ruling could lead to a sale of Reading. I believe that the stock is significantly undervalued and that Reading has been poorly managed. I think that there would be bidders for the Class B shares if an auction is held. Paul Heth’s Patton Vision group (discussed in the next section) is well-capitalized and would likely place a bid. Billionaire Mark Cuban might also have interest. He is one of the owners of the Landmark chain of theaters and currently owns 12.4% of Reading’s Class B shares. An auction should demonstrate that Reading’s shares are undervalued. If the Class B shares are sold to a non-Cotter group, the new controlling shareholders could manage Reading themselves, decide to make a bid for the rest of the company, or put the company up for sale. I think that any of these outcomes would be positive for public shareholders.

Paul Heth…Our Future CEO?

A cinema entrepreneur named Paul Heth has shown interest in acquiring Reading. Heth’s interesting business career was discussed in a 2013 Bloomberg story (link below). In 1992, the California native moved to post-Soviet Moscow with little more than $600 and a few movie reels in his luggage. His film exhibition career began with a single screen in a conference room at a Moscow Radisson Hotel. Later, he opened a theater that became highest-grossing theater in Russia. In 2001, he talked his way into a partnership with Shari Redstone (Viacom, National Amusements) to build chain of six multiplexes under the name KinoStar. Heth also helped Redstone build and manage a luxury cinema in Los Angeles called The Bridge (now owned by Cinemark). Separately, Heth joined with Sony Pictures in 2005 and started a company to produce movies in Russia. Redstone and Heth sold the KinoStar theaters in 2011. Media reports suggest that KinoStar was sold for roughly $170 - $200 mil., or a whopping $2.3 - $2.7 mil. per screen. Heth, though, was not ready to exit the Russian cinema business. In 2012, he joined up with big money Russian financial backers to buy the 3^rd-largest theater chain in Russia, Karo Film. Heth was named CEO of the firm and announced a $150 mil. expansion of the chain. Karo Film opened the largest movie theater in Russia (22 screens) in 2014. In August, 2017, reports surfaced that publicly-traded South Korean theater operator CJ CGV was in early discussions to acquire all or part of Karo Film. One report suggested, however, that neither Heth nor the other owners were looking to sell.

Paul Heth’s investment firm, Patton Vision, offered to buy Reading at prices that exceed the current market price. In May, 2016, Reading received a $17.00 / share buyout offer from a consortium that included Patton Vision, TPG Capital of Fort Worth, TX, and the Santo Domingo Group of Colombia. TPG is one of the largest private equity firms in the world with more than $70 bil. AUM. Santo Domingo Group is the conglomerate owned by Colombia’s richest family. It is a large shareholder of AB InBev (BUD) and owns a 280-screen theater chain called Cine Colombia. The Patton Vision consortium offer was summarily rejected by Reading’s board and not disclosed to shareholders. It was revealed to the public by James Cotter Jr. in a July, 2016, court filing. Even then, CEO Ellen Cotter made no effort to negotiate with Heth’s group. So, later in 2016, Heth appealed directly to shareholders.

Reading rejected a second Patton Vision offer for the company. In December, 2016, the Heth group raised its bid of $18.50 / share and sent an open letter to Ellen Cotter. In the letter, Heth complained that Cotter had refused to meet with him. He also suggested that Cotter and the other board members had not fulfilled their fiduciary obligations to minority shareholders. Heth suggested that the $18.50 / share offer was generous. He said that it valued Reading at 14.8x EV / EBITDA, a premium over the approximately 9x EV / EBITDA that AMC offered in its acquisitions of Carmike Cinemas and Odeon Cinemas. Reading rejected the offer without specific comment. In a note, B. Riley analyst Eric Wold wrote, “We understand RDI’s management / board has given two reasons for previously not engaging with the consortium: 1) their belief that the original offer of $17.00 was far too low and undervalued RDI’s real estate assets and 2) this was (and still is) a nonbinding indication of interest and not an actual formal offer.” In March, 2017, Cotter sent an open letter to Heth which stated that, “Upon completing its review, the Board determined that our Company and our stockholders, would be best served by continued independence of the Company…our Board does not have any present interest in engaging in discussions regarding a possible sale of our Company.”

Heth may have an opportunity to take control of Reading without cooperation from Reading’s board. The board, to be fair, was right to reject the $18.50 / share offer as it was clearly too low. Its refusal to negotiate, however, has sent a message that Reading is not for sale and hurt the stock price. Now, though, none of it may matter. Heth has not made any public statements about Reading since February. He may have a good reason to stay quiet. I suspect (but do not know) that he is waiting for the court-appointed trustee to offer the Class B shares to the highest bidder. If that happens, then Heth’s big money group will certainly be able to outbid Ellen and Margaret. Moreover, he can make a credible case that he can manage an international movie theater and property development business better than they can.

https://www.bloomberg.com/news/articles/2013-04-22/hollywood-man-in-moscow-battles-billionaires-in-box-office-boon

https://www.thestreet.com/story/13975025/1/heth-continues-run-at-reading-international.html

https://www.prnewswire.com/news-releases/patton-vision-issues-letter-to-reading-international-300380943.html

Movie Theater Business

            Reading owns and operates movie theaters in the U.S., Australia, and New Zealand. It operates 58 theaters (27 in the U.S., 20 in Australia, and 11 in New Zealand) with a total of 469 screens. Most of these theaters are leased. By box office, Reading is the 10^th-largest movie theater chain in the U.S., the 4^th-largest chain in Australia, and the 3^rd-largest chain in New Zealand. Its key U.S. markets include Hawaii, California, and New York City. There has been significant consolidation in the U.S. cinema business in recent years as smaller chains (like Reading) have been acquired by larger operators.

Reading’s cinema segment is a strong cash flow business. The cinema business accounted for 92% of its 2016 revenues. Ticket sales generate approximately 64% of its cinema revenues, with additional revenues generated by food and beverage (29%) and advertising (7%) sales. Operating margins are approximately 80% on concessions and approximately 50% on ticket sales. Reading produced $18.9 mil. in operating income on its cinema business in the 1^st half of 2017. This was a year-over-year increase of 12% despite a mediocre film slate. Reading’s cinemas have notably outperformed many of its competitors this year.

Reading is upgrading its theaters to meet demand. In March, 2017, it adopted a three-year plan for its business. The plan includes upgrades to existing theaters and the development of new theaters. Reading, like many of its cinema competitors, is adding food and beverage options, premium seating, and large-format screens. It holds liquor licenses at 25 theaters and has applied for more. The company plans $40 - 43 mil. in capex for its U.S. cinemas, $16 - $18 mil. in capex for its Australian cinemas, and $6 - $8 mil. in capex for its New Zealand cinemas. Reading opened a new theater in Hawaii in 2016 and plans to open at least five theaters in Australia and New Zealand by 2020.

Reading’s Real Estate Assets

            Reading owns significant real estate assets in the U.S., Australia, and New Zealand. Shareholders have long complained that Reading does not get full value from its real estate. Some of its prime real estate has been used for live theater or cinema space or remained undeveloped. The good news is that Reading has shown greater willingness to monetize its real estate since the death of James Cotter Sr. The company has sold some properties and is planning to redevelop or sell others. Reading owns everything from large shopping centers in Australia to live theaters in Manhattan to parcels of land in Philadelphia left over from the Reading Railroad. A full list of Reading’s properties can be found in its 10-Ks and other filings. Here is an overview of some of its key properties:

• ·         Cinemas 1, 2 & 3: This three-screen, 21,000-square foot movie theater is located at 1003 3^rd Ave. on the Upper East Side of Manhattan. Reading owns 75% of the property. The company carries it on its balance sheet at a net BV at $24.4 million. It has been reported that Reading has received offers to sell this property at much higher prices. It is located across the street from Bloomingdale’s and around the corner from the world headquarters of Bloomberg. Investors have pushed Reading to do something with this valuable property for years. In June, 2017, the company announced that it had signed an agreement with a developer to work on a mixed-used plan for the property.

• ·         44 Union Square: I will discuss this property in detail in a later section.

• ·         3 Off-Broadway live theaters: Two of these are in Manhattan and the third is on N. Halstead St. in Chicago. Reading lists a total net BV of approximately $6.4 mil. for these properties. It is likely that they would have much greater value if redeveloped or sold.

• ·         Coachella, CA: Reading owns 50% of 202 undeveloped acres in this fast-growing city in Riverside Co., CA. It was purchased for $6 mil. in 2012. It is zoned for single-family homes and mixed use development and is part of an approved master planned community. Coachella is best known for its annual music festival. Reading carries this property on its books for $4 million.

• ·         Reading Railroad Viaduct: Reading’s long-abandoned properties in Philadelphia are being developed into an elevated urban park called Rail Park. It is modeled after the successful High Line Park in NYC. Reading’s viaduct is 4,400 feet long and averages 70 feet in width. The company also owns adjacent parcels that total 63,000 square feet. The first phase of Rail Park is expected to open in early-2018. Reading has said practically nothing about its plans for its Philadelphia properties. It does not include any value from them on its balance sheet. The company has been negotiating with the city to eliminate liabilities (tax liens, environmental clean-up) associated with the properties.

• ·         Culver City, CA: Reading purchased a 24,000-square foot building in this L.A. suburb in 2016 for $11.2 million. The company utilizes 50% of the building for its corporate headquarters and intends to lease the rest. This building is presently cash flow negative.

• ·         Newmarket Village in Newmarket, Queensland, Australia: This 113,000-square foot shopping center is in an affluent suburb of Brisbane. It is 99% leased and anchored by a Coles Supermarket. It generates approximately $3.8 mil. in annual operating income. Reading is adding an 8-screen Reading cinema, 10,000-square feet of new retail and food tenant space, and 142 new parking spaces to the property. It has budgeted $28.3 mil. for the project. Reading carries Newmarket at a net book value of $27.7 million.

• ·         RedYard in Auburn, New South Wales, Australia: This 117,000-square foot shopping center is in a suburb of Sydney. It is close to Sydney Olympic Park. The complex is anchored by a 57,000-square foot Reading cinema. The rest of the center is leased to third party tenants. It generates approximately $1.6 mil. in annual operating income. Reading spent approximately $15 mil. on upgrades and new retail at this property in 2016. Reading carries the property at a net BV of $18.9 million.

• ·         Cannon Park in Townsville, Queensland, Australia: This 133,000-square foot center is anchored by 28,000-square foot Reading Cinema. Reading bought the property for AU$33.6 mil. in December, 2015. The center includes a bowling center and eleven restaurants. It generates approximately $2 mil. in annual operating income. Reading is doing some minor cosmetic work to improve the property. It carries Cannon Park on its balance sheet at a value of $23.4 million.

• ·         Courtenay Central, Wellington, New Zealand: This 103,000-square foot urban property includes a Reading Cinema and nearly two dozen retail and restaurant tenants. This property was damaged in the 7.8 magnitude earthquake that struck near Wellington on November 14, 2016. The Courtenay parking garage was demolished and the center was closed for about four months. The property was being redeveloped at the time of the quake. Ironically, the redevelopment plans included seismic upgrades to the parking garage. The good news is that Reading received $25 mil. in insurance payouts for the garage and the business disruptions. The company still plans to redevelop this site to feature a new Countdown supermarket. Reading carries this property at a net BV of $21.9 million.

• ·         Manukau, NZ: Reading owns 70.4 acres of undeveloped land adjacent to the Auckland Airport. In August, 2016, Reading and other local landowners achieved industrial zoning for the area. Most (60 acres) of Reading’s land had been previously zoned for agriculture. The value of the land was likely greatly increased by the re-zoning. Auckland Airport is expanding and there is a shortage of industrial land in the area. Reading carries this land at a net BV of $12.1 million. This property is likely to be sold for a multiple of this value.

• ·         Other random properties: Reading owns several other properties in Australia and New Zealand. Most of these are retail centers anchored by a Reading Cinema. The largest of these is in a Perth suburb called Belmont. This 60,000-square foot development is carried at a net BV of $5.7 million.

44 Union Square

            Reading’s building across the street from Union Square Park in NYC is undergoing a massive renovation. It was purchased by Reading for $7.7 mil. in February, 2001. The landmarked building was once the home of Tammany Hall, the notorious political machine. For years, Reading operated an off-Broadway theater in the building and faced criticism that it was not maximizing its value. The building is next door to a W Hotel and is surrounded by retail and restaurants. Reading closed the theater in January, 2016, and announced plans to redevelop the property into office space and retail. The company faced some criticism for its plans due to the historic nature of the building. It eventually won the approvals and proceeded. In January, 2017, it announced that it received $57.5 mil. in construction loans to finance the renovation. The total development budget is expected to be close to $70 million.

            Reading has great plans for the Union Square property. It has set up a website at 44unionsquare.com with information on the project. The 70,000-square foot building will contain six floors plus an underground level. The lower level and the bottom three floors will be used for retail. The top three floors will be leased as office space. The building will include approximately 42,000 square feet for retail and 28,000 square feet for office space. Its roof is a cool glass dome. The building is expected to open in Q2 2018. At 12/31/16, Reading carried the building on its balance sheet at a paltry book value of $18.2 million. My guess is that Reading will collect $8 - $10 mil. in rent from Union Square in 2019. I understand that the company has received at least recent one offer for this building.

Property Sales

            Reading has sold some underutilized properties to the benefit of shareholders. The company has long been criticized for holding land onto undeveloped land and other real estate that was producing little or no income. In 2013, it announced a sale of 3.3 acres of land that it owned in a suburb of Melbourne, Australia, called Moonee Ponds. The value of this land had increased due to population growth in the area. Reading sold the land for $17.5 million, nearly double its stated book value. The deal closed in 2015. In 2014, Reading announced the sale of a 50.6-acre parcel of land that it owned in Melbourne suburb called Burwood. This property was sold for $48.2 million. Most of the cash in the Burwood deal will be received in December. Reading has also sold some smaller, non-core properties in the past few years. It is likely that the company will announce further land and real estate sales. For the most part, however, Reading’s management chooses to develop its real estate rather than sell it.   

Capstone Offer (2012-13)

            A real estate investor called Capstone Equities pushed Reading to monetize its real estate. In May of 2012, Capstone offered $100 mil. to buy Cinemas 1, 2 & 3 and 44 Union Square. This offer valued the two properties at more than 3x their stated book values at the time. Capstone intended to close the theaters at these properties and redevelop them. Reading had previously said that its NYC properties would be sold, but it rejected the Capstone offer anyway. One issue was that then-CEO James Cotter Sr. wanted a 25% stake in any redevelopment projects. It is likely that Capstone did not want Reading as a co-investor. One year after its acquisition offer, in June of 2013, Capstone issued an open letter to Reading’s board. In the letter, Capstone complained that Reading refused to engage in any negotiations. It also complained about Reading’s share structure, weak board, and its use of cash. Capstone was unhappy that Reading was putting money into its movie theaters rather than investing in its real estate and buying back stock. Capstone claimed that Reading’s real estate was worth $10 / share in 2013. Its real estate is likely worth significantly more than that in 2017.  

Street View   

            Eric Wold of B. Riley is the only sell-side analyst who covers RDI. B. Riley picked up coverage in September, 2016, with a “Buy” rating and a price target of $26.00. In its initiation report, B. Riley mentioned, “…Significant shareholder value that management is projected to create in the coming years through various development projects and property monetization efforts…” B. Riley also stated that, “...RDI has been overlooked and seems extremely underappreciated and undervalued.” In a March, 2017, report, B. Riley stated that, “With RDI shares trading, in our opinion, at a level that only provides value for the existing Cinema and Real Estate operations, we see limited downside at current levels…” B. Riley raised its price target to $26.50 in a May, 2017, report. B. Riley forecasts EPS of $1.20 on $287 mil. in revenues for 2017. It forecasts EPS of $0.65 on $323 mil. in revenues for 2018.

Hoyts Deal

A recent deal placed a high value on cinemas in Australia. In 2015, a unit of China’s Dalian Wanda Group purchased Hoyts Group for $367.5 mil. in cash, plus assumed debt. The total size of the acquisition was not disclosed, but was reported to be approximately $800 million. Hoyts is the #2 theater operator in Australia and operated approximately 410 screens at 44 cinemas in Australia and New Zealand at the time of the deal. Wanda may have paid around $1.8 - $2.0 mil. per screen for Hoyts. Reading currently operates 224 screens in Australia and New Zealand. So, if we use the Hoyts valuation, we get a value of more than $400 mil. for Reading’s cinema business in Australia and New Zealand alone. The current EV of the entire company is approximately $500 million. It is, of course, possible that Wanda overpaid for Hoyts. It has recently denied reports that it might sell Hoyts to reduce debt.

AMC Deals in the U.S.

AMC has recently acquired two U.S. theater chains. It acquired Carmike in 2016. Carmike was the 4^th-largest movie theater chain at the time. AMC paid $1.2 bil. for Carmike, a price that valued the company at just over $400K per screen. Many Carmike investors complained that this price was too low. For comparison, publicly-traded Cinemark is currently valued at approximately $900K / screen. The relatively low Carmike price reflected the fact that most of its theaters were in small towns and rural areas. In a separate deal, AMC paid approximately $525K / screen to acquire Starplex in 2015. Starplex, like Carmike, owned theaters in small towns and rural areas. In contrast, Reading’s U.S. theaters are mostly located in wealthier urban areas. Reading’s theaters should be worth more to an acquirer than those of Carmike or Starplex. Still, using the Starplex valuation, Reading’s U.S. theater business would be worth $130 mil. by itself.    

Competition / Marcus          

            Reading has many move theater competitors. Reading only has about 1% market share in the U.S., but its market share in Australia is approximately 7%. AMC, Regal, and Cinemark are the three biggest movie theater chains in the U.S. by a wide margin. They all have multibillion dollar EVs and heavy debt. The most comparable public company to RDI may be the fourth-largest U.S. chain, Marcus Corporation (Symbol: MCS). MCS operates 895 screens in the Upper Midwest. MCS, like RDI, also has a side business related to real estate as it operates hotels. Marcus’ movie theater operations generate approximately twice as much revenue as its hotel business. MCS trades at a P / E of about 16x and a EV / EBITDA of about 8x. MCS’ EV of $1 bil. is approximately double that of RDI.

Earnings Model

            It is difficult to forecast Reading’s financials as the company does not provide any guidance. The cinema business is somewhat predictable, but is highly dependent on a few major films. The 2017 summer / fall movie season has been poor. This is one of the reasons why this stock has not gone anywhere this year. There are several big movies coming out in 2018 and in November and December of this year. Reading’s real estate business will get a big boost when 44 Union Square is complete. The expectation is that the building will open to tenants in Q2 2018, but it will not generate cash flow until 2019. Other major projects, such as Cinemas 1, 2 & 3 and Courtenay Central, will probably not be completed until 2019 or later. Reading recognized a gain of $9.4 mil. related to the Burwood sale in Q2 ’17. It also recognized a gain from its insurance claim related to the Wellington earthquake.

Balance Sheet

            Reading’s balance sheet understates its assets. The company ended Q2 with only $13.1 mil. in cash, but it will soon receive another $28.1 mil. in cash from the Burwood property sale. The company expects to receive this payment in December. Most of Reading’s assets consist of its real estate. At 6/30/17, the company reported $219.5 mil. in net operating property and $62.2 mil. in net investment and development property. These reported values are likely well below the market values of Reading’s properties. Reading reported $130.6 mil. in total debt at 6/30/17. The company has several loans with maturity dates ranging from 2018 to 2027. Most of the loans are denominated in U.S. dollars, but it does have a $25.2 mil. loan in Australia. Reading’s loans have interest rates in the 3% – 5% range. Borrowing will increase as Reading finances its redevelopment projects. I estimate capex of approximately $75 mil. in 2017 and $50 mil. in 2018.

Valuation

            I believe that RDI is significantly undervalued. There are 23.4 mil. shares outstanding, so the current market cap is about $370 mil. and the current EV is about $500 million. RDI is not cheap by some operating metrics as it trailing P / E is about 24x and its trailing EV / EBITDA is about 13x. The stock trades at about 1.6x EV / 2017 Sales. I do not think, though, that the operating numbers are too relevant due to the value of Reading’s properties. I estimate that the cinema business will generate $69 mil. in gross profit in 2018. A conservative 5x multiple on this number places a value of $345 mil. ($14.80 / share) on the business.

There is a lot of value in Reading’s properties. It is not an easy task to value them as they are in various stages of development. I believe that 44 Union Square and Cinemas 1,2 & 3 have a combined net (of debt) value of $200 mil. or more. This is guesswork as the rents on Union Square are unknown and the Cinemas 1, 2 & 3 plan has not been revealed. It has been rumored that Reading has received offers around $100 mil. for each property. These two properties are carried on RDI’s balance sheet at just $42.6 million. I place a value of $8.50 / share on these two properties. Reading’s property near the Auckland Airport is listed at a net BV of only $12 mil., but may now be worth five times as much due to the re-zoning and growth in the area. Other Reading properties are also likely undervalued on its balance sheet.

My 12-month price target for RDI is $29.00 / share. This is based on: a value of $400 mil. for the movie theater business + a net value of $200 mil. for the two NYC properties + $100 mil. value for undeveloped properties + $175 mil. value for operating properties (10x gross profit) - $100 mil. expenses - $100 mil. debt = $675 mil. / 23.3 mil. shares = $28.97 / share. This valuation implies a EV / EBITDA of approximately 13x. While this number may appear high, it is important to remember that the full impact of the redevelopment strategy will not be felt until 2019 or later.

Stock Buyback

            Reading has a significant stock buyback plan in place. It is notable that the company has repurchased stock at prices close to the current market price. In 2016, the company completed a $10 mil. stock buyback plan. It repurchased 181,739 shares at an average price of $15.64 / share in 2016. The company authorized a new $25 mil. stock buyback on 3/2/17. As of 6/30/17, it had repurchased $3.4 mil. worth of stock under this plan at an average price of $16.02 / share.

Some Risks

·         The outcome of the Cotter family fight is uncertain. The litigation is both a distraction and a major expense.

·         Reading’s corporate governance is weak. There is little that minority shareholders can do about this problem. The good news is that company has generally shown improvement in investor relations and management since James Sr. died.

·         Reading’s management does not have great experience with development projects. All three of the Cotter children are former lawyers. While Ellen Cotter has worked for Reading for nearly twenty years, she has only served as CEO for two years. The company is working on several major projects at the same time. These projects are critical to the company’s success and valuation.

·         The future of the movie business is uncertain. Reading, like all cinema companies, needs consistently popular films from the studios. The 2017 box office has been weak. It is expected that the 2018 film slate will be better, but nobody knows for sure. There is a lot of concern that digital streaming and premium pay-per-view options may make movie theaters less relevant. Also, Reading and many of its competitors are upgrading their theaters at significant cost.

·         There is substantial competition in the movie theater business. Three companies, Regal, AMC, and Cinemark, have large market share in the U.S. Reading is a relatively small chain in the U.S. Its competitors have more capital for theater upgrades. In some cases, the larger chains can get territorial exclusivity on major movies. 

·         Reading is exposed to real estate prices. The company owns significant real estate which has likely increased in value in recent years. Its development plans are based on continuing strength in New York City and other key real estate markets.

·         Reading has currency risk. The company reports financials in U.S. dollars, but has significant revenues and expenses in both Australia and New Zealand dollars. Weaknesses in these currencies have had negative effects on Reading’s results at times.

Conclusion

            Reading International (RDI) is an underfollowed company with an unusual business model. A change of control is possible and that could be a big benefit to shareholders. Reading generates good cash flow from its cinemas that it can use to fund its property development business. The company is in the process of maximizing the value of its strong real estate portfolio. The two NYC property development deals are transformative for the company. It is true that there is uncertainty concerning the Cotter family mess and the ultimate success of some of its property deals. I believe, though, that the stock is very cheap at the current price. It should go higher if the cinema business has a better year in 2018 and the property development and disposition plans proceed as expected.

Legal Disclaimer: This research report expresses my research opinions, which I have based upon certain facts, all of which are based upon publicly available information. Any investment involves substantial risks, including complete loss of capital. Any forecasts or estimates are for illustrative purpose only and should not be taken as limitations of the maximum possible loss or gain. Any information contained in this report may include forward-looking statements, expectations, and projections. You should assume these types of statements, expectations, and projections may turn out to be incorrect. This is not investment advice nor should it be construed as such. You should do your own research and due diligence before making any investment decision with respect to securities covered herein. The author has a position in this stock and may trade this stock.