The Cineworld (LSE: CINE) share price crashed yesterday. This came after the FTSE 250 firm announced a “temporary suspension of cinema operations in the US and UK.” The shares were down as much as 60% to 15.46p at one point, but rallied to end the day at 25.2p (down 36%).
Today, they’ve recovered further ground. Now trading at 26.5p, is it the last chance to buy before a full recovery? Or the last chance to sell before a further collapse?
The pre-pandemic Cineworld share price
Before the Covid-19 outbreak, the Cineworld share price had been declining for some time.
I have to confess I had doubts about the company’s $3.4bn mega-acquisition of US group Regal Entertainment in 2018. And writing just over a year ago, I said I was inclined to continue avoiding the stock for several reasons.
First, years of declining cinema attendance in the US. Second, Cineworld’s underwhelming performance in the country to date. And third, its high net debt of $3.3bn and gearing of 3.3 times EBITDA.
In subsequent articles, I only found further reasons to steer clear of the company. These included:
- It had become the most heavily shorted stock on the London market (December)
- A scathing report on Cineworld’s ‘creative’ accounting and governance by Bucephalus Research Partnership (February)
- Revelation that due to a margin call, an entity connected to key directors had been obliged to sell Cineworld shares pledged against a loan (March)
- Net debt of $7.7bn on the year-end balance sheet, and current assets of $0.45bn versus current liabilities of $1.49bn (April)
Despite the above and other issues, is the Cineworld share price now so low there could be value in buying the stock for a recovery?
Deadly Triad
A combination of high debt and poor trading has led to the downfall of many a company. In an article last year on how investors can avoid the next Thomas Cook-style wipeout, I discussed what I called a Deadly Triad of factors I look for. Here’s how Cineworld currently measures up against them.
A high level of short positions in a stock: Hedge funds are generally bang on the money in identifying companies where debt is becoming unmanageable. Cineworld is London’s most heavily shorted stock.
A company’s debt trading at a significant discount: When the debt market is pricing lenders to suffer a big haircut on bank loans or bonds (which rank above equity), the equity is likely to end up worthless or near-worthless. The Financial Times yesterday reported that Cineworld’s term loans, which began the year trading at face value, “are now changing hands at about 60 cents on the dollar, according to one loan investor.”
Directors move from talking of value for shareholders to value for stakeholders: You can take this to mean things have got so bad that shareholders are no longer the main focus of the directors’ fiduciary obligations. So far, Cineworld isn’t at this stage.
Where next for the Cineworld share price?
Cineworld isn’t far off the Deadly Triad. In my view, the company’s debt and trading outlook are so grim I can only see — at best — a massive debt-for-equity restructuring, leaving current shareholders with negligible value.
In this scenario, I’d expect the current shares to be worth just a few pence. As such, if I owned the stock, I’d sell.