Last week was a bad one for Cineworld (LSE: CINE) shares due to press speculation around a US Chapter 11 bankruptcy filing. That sent its shares down sharply. And on Monday the world’s second-largest cinema chain said a voluntary US filing was a possibility.
With almost $9bn of debt on the balance sheet, the chain has struggled to recover since the pandemic. The shares plummeted over 80% on the original speculation around Chapter 11 as shareholders rushed to pull their money out. So, as Cineworld shares crash, here’s what I plan to do (spoiler, I’m not buying!)
The backstory
The most pressing problems started for Cineworld with the onset of the pandemic. As the world was forced into lockdown, Cineworld was forced to halt its business. It closed the doors of all of its 751 locations across the globe. Evidently, this meant that cash flows dried up and losses began to climb.
As the situation worsened, the firm was forced to take on numerous debts, which today stand at almost $9bn in total value. This is an extremely worrying figure, especially in today’s ever-higher-interest-rates environment. Couple this with the fact that the firm’s market cap has now shrunk to just £56m, and it becomes even clearer how bleak the situation is.
In a recent update, the group also announced that recent admission levels had failed to meet predictions. A key driver behind this has been the increase of at-home streaming services like Netflix and Disney Plus. It has also struggled with a shortage of big-budget films, which seems to have deterred viewers.
These factors have combined, forcing the company into bankruptcy. Cineworld announced on Wednesday that it was in talks to try and secure a potential balance sheet restructuring. But it highlighted the risk of a “very significant dilution” of shareholder interests. The cinema chain has hired lawyers from Kirkland & Ellis LLP and consultants from AlixPartners to advise on its bankruptcy process, according to reports.
What I’m doing now
So, am I looking to get my hands on the shares at dirt-cheap levels? Absolutely not! The massive debt and bankruptcy situation is a clear red flag to me. In addition to this, around 146m Cineworld shares (which represents 16% of the float) are held in short positions, which signifies the shares could fall further. Short selling involves betting on a company stock going down and is usually undertaken by expert traders.
I’ll be keeping tabs on the group’s restructuring. And although I’m not holding out much hope, there’s always the possibility of a turnaround. However, given the magnitude of the situation, this seems unlikely. At present, I think there are much safer speculative stocks to buy out there.
Lessons learned
I think that this situation has reminded me of a key lesson in investing: always closely monitor the fundamentals of companies. Although the group plans to undertake a restructuring, there are too many red flags for me to consider buying the stock. I’ll be keeping eye on the company from the sidelines to see how the situation plays out.