Let’s Not Sugar Coat It: The Cineworld Bankruptcy is Bad New

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Later today—depending when this actually gets published!—Netflix will kick off “entertainment” earnings season with their Q3 results. 

It feels a pinch anticlimactic, doesn’t it? They announced the details to their ad-supported tier last week, which got a lot of press, and unlike their earnings call in July, we’re not waiting to see if Netflix could right the ship. And they kind of already did, since the stock has been up since July. Meanwhile, the real action will focus on their Q4 estimates. Can Netflix finish the year strong? That’s why this report is sort of “wait and see”.

If there’s major news from Netflix’ earnings report, I’ll write about it later. Instead, today, I’m going to look at the biggest story of the last couple of months that I haven’t written about yet.

Most Important Story of the Week – Cineworld Files for Bankruptcy

Let’s start with a hot take on the announced bankruptcy of Cineworld:

Bankruptcy is bad.

That’s it. That’s what you have me here for, right?

Well actually—to be the “well actually” guy—bankruptcy isn’t bad! In fact, some economists argue that America’s liberal bankruptcy laws actually allow for experimentation in business, in contrast to old world Europe. Instead of being saddled with debt for decades, the ability to wipe the slate clean allows entrepreneurs thrive, the argument goes. (The NPR Planet Money podcast in their “summer school” series was terrific and makes this exact argument.)

In personal finance, Senator Elizabeth Warren has fought for bankruptcy reform for years, trying to make it easier for poor and middle class folks to file for bankruptcy. (For example, one can’t wipe off student loan debt.) Personal bankruptcy gives folks who get into impossible situations an out. (It could also improve class inequality, but let’s save politics for other newsletters.)

In business, not all bankruptcies are the same. Some bankruptcies are “sell everything down to the studs in the walls and stop doing business” while others are “we need to get rid of this debt”. This is the latter, as Cineworld continues to operate and release films in its theaters.

“Bankruptcy” as a concept isn’t all bad. But is it a good sign that a given company filed for bankruptcy? No!

The Obvious Bad Sign About Bankruptcy: The Theatrical Business Hasn’t Rebounded

At its core, a firm files for bankruptcy when its debts and obligations exceed its revenue and cash flows. And that primarily happens when a company or industry is shrinking, not growing. Growth is, in most cases, the life blood of capitalism; investors buy equity and lenders give loans when they expect growth and to be paid back with a return.

So when Cineworld—owner of Regal Cinemas in the U.S. and a few other theater chains—filed for bankruptcy, it’s a sign that it (and its industry) aren’t growing any more.

That’s basically theaters. Theaters haven’t been a growth industry since the 1990s. Covid-19 crushed growth, and it doesn’t look like it’s coming roaring back. 

If domestic box office had returned to 20-25% higher than the current numbers, likely this bankruptcy doesn’t happen. But keeping in mind the theatrical industry earned $11.2 billion in just 2019, only returning to $7 to $8 billion in box office this year is bad:

A way to describe this is that Cineworld, AMC and others bet on future growth by taking out loans. Sure, the pandemic disrupted theaters, but even setting that aside, AMC, Cineworld’s and others bet on growth was too optimistic at the time. Bankruptcy is how theater chains can get back to normal.

The Slightly Positive Sign: Bankruptcy Can Mean a Fresh Start

But let’s not forget both sides of the bankruptcy equation. On one hand you have cash flows/revenues, which haven’t rebounded. But if a firm has a solid balance sheet with lots of cash, they can survive temporary downturns, or restructure for shrinking industries. 

Cineworld and AMC did/do not have clean balance sheets.

They have the opposite: to fuel consolidation they acquired unsustainable debt loads. These quotes from a recent THR article are just perfectly illustrative:

“Eric Handler says. “History has shown us it is unwise for theater operators to over-leverage their balance sheets. In a mature industry, it leaves companies in a precarious position in the event of a shock…”

…’Cinema operators are distributors with weak profit margins and high fixed costs,” says Moody’s analyst Fiona Knox. “Typically, businesses with such characteristics are not able to sustain high debt levels.”

As such, Cineworld needed to declare bankruptcy to ease off its unsustainable debt loads. With bankruptcy, Cineworld can offload some debt and restructure its underperforming businesses:

It is no wonder, then, that Cineworld has mentioned that it would “pursue a real estate optimization strategy in the U.S.” to renegotiate its lease terms. The company could also give up some cinemas, allowing rivals to potentially swoop in. “Given this will give Regal/Cineworld an opportunity to break some leases that may be unprofitable, or borderline, well ahead of any normal timeframe, you could see some closures take place,”

If the bankruptcy goes “right”, Cineworld emerges better off than before. In fact, its rivals (or even movie studios?) may leap at the chance to acquire its abandoned theaters! See, bankruptcy can be useful! It’s always painful, but that pain allows for future growth.

Still…What Comes Next For Theaters?

Well, if I knew that I’d tell you. Honestly, the theatrical business gets whiplashed between good news and bad news every month. 

In bad news, theaters still have an inventory problem. August had too few tentpoles or even “regular poles”. In good news, Q4 has a lot of big tent poles coming out. Well, three big tent poles. (And a Disney animated title.) And then it might be light after that! 2023 should have a lot of big titles, but will it be enough? Can theater chains wait that long?

Moreover, we’re still trying to figure out if this is a “demand” issue—meaning customers coming into theaters—or a “supply” issue—as in theaters don’t have enough films. And the number of films released in theaters really is down. Until all the studios get back to normal, of  course demand won’t return.

Theater chains need to accept a world of low to no growth. If things break right, and customers keep evolving, maybe theatrical revenue return to 2019 levels. It already rebounded this summer, just not as high as theater chains with high debt needed. But do we see growth after that I doubt it.

But we won’t know for a while. Though, I would caution against theaters are “dead” narratives. Low to no growth is not “death”, which means going to zero. As the summer showed, big films can thrive. The question is between “$0” and say $10 billion per year in revenue, where do we end up? And I still don’t know.

Almost Most Important Story of the Week – All the Netflix News!!!

As we get ready for Netflix’s earnings report later today, there were a few headlines that caught my eye.

– First, as The Netflix Film Project noted, Netflix is quietly having a lot of success with acquired films in India. Their big hit—RRR—isn’t actually a Netflix-produced title, but one they acquired. They made similar big deals with Sony last year in the U.S. So while their public statements are all about original titles as a driver of success, clearly Netflix thinks that theatrically-released, Pay 1 films are a good value for their platform.

– Second, the Wall Street Journal has basically started a regular feature on Netflix cost cutting. Here’s a big overview on everything, and here’s an article on reducing payments for comedy specials.

– Third, Netflix is shaking up their international business, and it seems like they’re doubling down on foreign-produced content.

– Fourth, we got the details on Netflix’s new advertising plan. But you’ve probably read all about those already. In addition, Netflix poached a few executives from Snap to lead this new biz. In all, until we see Netflix Ads in action, I’ll withhold judgement.

But one caught it more than the others and deserves its own headline.

Netflix Principal Accounting Officer Leaves After 3 Months

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The Entertainment Strategy Guy

The Entertainment Strategy Guy

Former strategy and business development guy at a major streaming company. But I like writing more than sending email, so I launched this website to share what I know.


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