What is Holding IMAX Down?

Michael is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

It has now been over 3 years since the winter blockbuster Avatar began its record-smashing journey in the box office to become the first film to break $2 billion in sales worldwide.  In that same time frame, IMAX (NYSE: IMAX) has soared over 73% in share price.  It could be said that Avatar began a chain reaction for future movies to implement IMAX and 3D technologies.  With the success of the recent Batman trilogy, Mission Impossible 4, Skyfall, the new Hobbit trilogy, and other blockbusters past, present, and future, IMAX as a stock seems like it should be a lot higher than the 18% increase year-to-date.                                        

IMAX

In just over a year, IMAX has added over 100 theaters globally, from 583 IMAX theaters as of Sept. 30, 2011, to nearly 700 today.  The company generally doesn’t own IMAX theaters, but licenses the use of its trademarks to exhibitors, along with the sale, lease, or contribution of its equipment.  The majority of IMAX revenue in terms of theaters (436 theater systems) comes from joint revenue sharing agreements.  Under these agreements, IMAX not only profits from a portion of the box office sales, but also from concession revenues and sometimes upfront costs the exhibitor pays to use IMAX branding.

In the past decade, net income peaked in the December 2010 quarter at over $54 million.  However, the average net income per quarter is just $5.3 million for the $1.4 billion market cap company, even though net profit margins are now over double from last year, going from 7.33% to nearly 19%.  2013 looks to be promising for IMAX, with titles like Star Trek: Into Darkness, Man of Steel, The Hunger Games: Catching Fire, and The Hobbit: The Desolation of Smaug

However, it is hard to say that everything is in IMAX’s favor heading into 2013 and the future.  Despite IMAX trying to differentiate itself from regular content by releasing potential blockbusters earlier (Skyfall was released one day earlier in IMAX and 2013’s Oblivion is set to release one week earlier), there are some issues holding IMAX down.  The obvious problem is that IMAX for the most part depends on movie studios to release decent movies that are worth paying the premium to watch in IMAX on a regular basis throughout the year, every year. 

Less obvious theories include average TV screen sizes, restaurant options, lack of real IMAX (both theaters and film shot), 3D pains, and upcoming competition.  In a decade, the median maximum TV size in homes across the country has gone from 34” to nearly 50” today.  This gives a potential movie-goer another reason to wait for the movie to come out on DVD or Blu-Ray.  There are far more dining options to choose from outside of the theater, as skyrocketing prices for basic items like popcorn or nachos have people meeting up before movies to eat or planning a place to eat afterwards.  This takes away part of the revenue IMAX would otherwise receive in the form of concessions. 

A less mainstream problem is the fact that although there are nearly 700 IMAX theaters worldwide, there are nowhere near that many true IMAX locations.  True IMAX is run with 70 mm projection, has screens of at least 72 ft x 52.8 ft, and is commonplace for museums and other big venues.  Of the 344 IMAX locations in the United States, less than 70 are true IMAX quality locations.  The rest are 35 mm or digital print running under the IMAX brand.  Furthermore, major directors recently have only started to use true IMAX film for portions of their IMAX movies, with examples that include the 30 minutes used in The Dark Knight and Mission Impossible 4.  These two reasons give the customer less incentive to pay a premium price to see movies supposedly in IMAX, when the majority of the time, it isn’t even IMAX in the traditional sense.

IMAX Total Return Price data by YCharts

RealD

Year-to-date, RealD (NYSE: RLD), a leading global licensor of 3D technologies, has gone up 15.81% in share price.  However, since going public in mid-2010, the share price has fallen over 47%.  Far worse off than IMAX, RealD relies even more on the movie studios, since the six major motion picture studios accounted for approximately 82% of domestic box office revenue, and more importantly, all 10 of the top 10 grossing 3D motion pictures in 2011.  Unlike IMAX, though, RealD has a growing consumer electronics business that adds a future opportunity for new revenue streams.

As of the end of September of 2012, there were approximately 21,500 RealD-enabled screens worldwide, a 15% increase from last year.  These additional screens and the blockbusters in theaters thus far still could not prevent the decrease in net revenues on a quarterly basis.  There were 3 fewer movies this past quarter that generated a million or more in revenue for RealD (10 in the 3rd quarter of 2011 versus 7 in the 3rd quarter of 2012).  This was primarily the result of a decrease in the volume of RealD eyewear sold globally.  RealD says this is mainly because of the growing trend of consumers to reuse RealD eyewear for multiple viewings.  More alarming is that RealD hints at the possibility that even with more RealD-enabled screens and more motion pictures using 3D technology, net revenues may increase at a slower rate or decline in the future.  The future may be here already for RealD, as their profit margins swung from 15% for the 3rd quarter in 2011 to -15% for the 3rd quarter in 2012.

RLD Total Return Price data by YCharts

Regal Entertainment Group

RealD lists IMAX as one of their competitors in the 3D business.  In my opinion, Regal Entertainment Group (NYSE: RGC) can be a threat to both company’s bottom lines in the future.  I briefly talked about why Cinemark Holdings is a solid pick in theaters in my article called A Christmas Story.

Regal is an alternative pick if you want sheer size in numbers of theaters.  They operate the largest theater circuit in the United States, with 6621 screens in 524 theaters as of Sept. 27, 2012.  Profit margins are slim, but they have doubled year-over-year from 1.5% to 3.5%.  Nevertheless, Regal has been in a decline the past decade losing 36% of share price value (not including dividend reinvestments) and net income has dropped by over half the past 3 years.  The 6% dividend it currently has doesn’t look like it can last with a 117% dividend payout ratio. 

What I like about Regal is what is going on behind the scenes.  They are expanding their IMAX footprint but they are also expanding themselves.  During the fiscal 2012 period, Regal added to their proprietary large screen format known as “Regal Premium Experience” (RPX) to 14 auditoriums.  They now have 31 RPX screens as of Sept. 27, 2012.  Based on the success of these screens that were launched in April of 2010 that are 60 feet high, Regal may take some market share away from IMAX in the coming years and hold it down further.  Secondly, Regal is improving their concession options to address the widespread issue of movie goers eating before or after a movie instead of during.

RGC Total Return Price data by YCharts

The Future

IMAX is a great experience and will be for some time.  However, the uniqueness of IMAX is somewhat fading as other companies are developing their own technologies to improve the movie experience.  RealD competes with IMAX 3D, among other vendors, and the fact that there is a significant portion of movie watchers that can’t tolerate watching movies in 3D is a burden.  Because IMAX doesn’t own the theaters, they have to rely on leasing and joint revenue sharing.  How long can that last if big entities in the movie theater business like Regal start producing their own version of big screen auditoriums like RGX?  This also goes back to the fact that a large majority of IMAX branded theaters aren’t true 72 ft screens.  There are already 31 RPX screens which are just 12 feet lower than true IMAX.  In the end, all 3 companies are heavily seasonal and depend on the movie studios to produce films worth watching at all, let alone in IMAX, 3D, RGX, or even in the conventional sense.


mikecart1 has no positions in the stocks mentioned above. The Motley Fool owns shares of Imax. Motley Fool newsletter services recommend Imax. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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