This Company's Ambition Could Mean Big Returns

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

Lions Gate Entertainment (NYSE: LGF) is one of my favorite movie production and distribution companies. I know that makes me sound like an absolute movie nerd, but there you have it. In fact, I was a huge fan of Lions Gate before it really started making headlines with Hunger Games and its acquisition of the Twilight studio. When I say Lions Gate focuses on entertainment, I mean it gives the masses what the masses like. The movies may not be the purest form of art, but they are a fun time.

Lions Gate was part of seven years of Halloween tradition, as I went to see the Saw movies as they came out. Sadly the series has ended, but I headed into theaters to watch Silent Hill: Revelation for my Halloween scare-fest this year, which Lions Gate is distributing internationally. It was okay at best. Being entertained has been my experience with Lions Gate for a long time, even if they are just signed on as distributer not the production company. However, now it is moving away from only appealing to fringe watchers like me, and making a bigger name for itself with popular television shows and movies.

A few months back, we had The Hunger Games. Lions Gate is doing very well with Twilight after they acquired Summit Entertainment. At the same time they are distributing movies like the new Silent Hill, true to its roots as a part owner of FearNet. Lions Gate distributed American Psycho, which will forever ingratiate the company to me. It is time to look at Lions Gate as a real investment, because I believe the recent steps have been great.

Aside from movies, Lions Gate is behind Boss, Mad Men, and Nurse Jackie. It also made Weeds, which recently ended after 8 seasons. Lions Gate has a vast range, and that is a good sign in the fickle entertainment industry.

Before I go over fundamentals, it may be smart to go over the unforgiving world that is media production. These companies do not have the ability to make meek attempts to test out something new. If you want to make a Hunger Games, you commit to the budget. That is why movies are usually made by many groups. Hunger Games had a budget of $78M, but that money is committed. All of it is spent prior to openings on production, and perhaps marketing. If it fails and makes almost no money, then that investment is gone. Rarely will a movie make $0, but it is possible to cause substantial losses, such as Walt Disney’s (NYSE: DIS) experience with John Carter. Therefore, the fundamentals of Lions Gate look week, but only because they have committed to making a sequel to the popular Hunger Games movie. Remember the rule of sequels is they are generally bigger and more expensive. It is also making an Ender's Game movie, which is probably going to be pretty expensive as well.

Disney is going to be fine, because it owns the Marvel Cinematic Universe. There are probably a dozen movies in the works, and all of them will make plenty of money. The Avengers 2 is already a blockbuster, although I recommend they bring back Joss Whedon. Despite John Carter, Disney will be fine. I am sure there are many movies that have not been announced yet, but even the ones announced such as Iron Man 3 give reasons to be optimistic. I am not even up to speed on the pure Disney side of the film business, but I recently saw Brave and enjoyed it.

Lions Gate is not Disney. It is not overloaded with cash, but it did just announce a new credit facility. Movies are expensive and completely upfront expense-wise. Having the ability to tap into debt is critical. This is not a consistent business. When one movie becomes a massive hit the company might be flush with cash, while a dry spell of having no releases can start sucking it dry. Lions Gate has a diversified business. The television side is doing extremely well. I have been recommended Mad Men by too many people to count.

The last earnings call noted that most of the benefit from Hunger Games was coming later in the year. That should help shore up the troubling cash position. I know the debt to equity ratio is scary, and no one hates debt more than I do. However, due to the nature of the business and where the big jump in debt came from, I am willing to forgive it. The acquisition of Summit Entertainment will be good for the company. The earnings call discusses stuff in more detail, such as what the original Red with Bruce Willis made at the box office.

Lions Gate has made so many investments recently, but everything I see has so much potential. The success of the second Hunger Games movie, and in fact the entire series, is almost a guarantee. I am positive on Ender's Game. All the while it continues to be a distributor of movies that I simply love. It owns bits of Epix, which just made a deal with Amazon, and FearNet. It has such a broad range, and its risks seem to be well considered and poised to pay off big. Do not let the current fundamentals scare you off, because movies are high risk and high reward. However, since Lions Gate has strong franchises I expect those investments to pay off extremely well.

Conclusion

Do not invest in Lions Gate on anything you read here, but more seriously do not invest in it unless you have your eye on the long-term. Lions Gate is an ongoing business. The profits from one project will be put into others. The debt history shows that it maintains a high level of debt. The reason is that movies and TV shows are expensive. Expect the business to grow organically, but in lurches. A flop will bring it low, and a blockbuster will bring it high. However, be aware that the amount of money The Hunger Games made is enough to make at least 3 Hunger Games. As long as budgets remain reasonable a few flops might bring the share price down, but the company will survive to make the next movie. Lions Gate seems started on becoming a major production studio, and considering it is already pretty big that is saying something.


TheArchivist has no positions in the stocks mentioned above. The Motley Fool owns shares of Walt Disney. Motley Fool newsletter services recommend Walt Disney. 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!

blog comments powered by Disqus