In the past week, I have been adding to my position in Reading (RDI, Financial), so I thought I'd put down my thoughts on the company. For those of you who haven't seen it yet, I highly recommend the just one stock article that provides an excellent discussion on the company. RDI is a real estate / cinema company that, I believe, operates a very interesting strategic business model. Developing real estate takes upfront cash, and they use their cinema business to fund that investment. In addition, they can use their cinemas to anchor the real estate investments, which makes their real estate more valuable and easier to lease to potential tenants. 
When I evaluate the company, I break it up into three divisions: cinemas, operating real estate, undeveloped real estate. Once you take a look into all of those segments, its pretty hard to think the company is anywhere near properly valued at today's prices.
Cinema
Currently, they own 52 cinemas operating 421 screens (includes a cinema that opened Oct. 2010 but was not in their most recent 10-Q); in addition, they have unconsolidated joint ventures operating another 4 cinemas (32 screens) and managing 2 more cinemas (9 screens). I'm going to put up their numbers from the cinema segment for the past five years, but note that on Feb. 22, 2008 the company acquired 15 cinemas consisting of 181 screens in California and Hawaii for $71 million, so this significantly affects their results.
Results have certainly improved in the past few years, but they've actually improved to an industry average (Regal, for example, did about $430k per screen and over $75k in ebitda per screen in both 2009 and 2008, and Cinemark does about 83.6k of ebitda per screen (Regal numbers from their 10-K, Cinemark numbers from slide 8). So there is some room for continued improvement). Assuming they can keep at this level (again, basically industry average), the segment should generate at least $34mm of EBITDA per year. Every publicly traded rival trades for at least 6x EBITDA (RGC 7.36x, CKEC 6.05x, CNK 7.11x). Given that, the Cinema segment is worth at least $205 million (6x multiple), and could be worth as much as $240 million (7x multiple).
Note: they've just installed 3-D projectors in over half of their theaters, which could drive decent revenue and ebitda growth in the upcoming year.
Operating Real Estate
This segment consists of 1.2 million square feet of commercial real estate held at a book value of just under $180m. Take a look at their past five years of results below.
Much of their land is leased to their cinema segment, so I wouldn't be surprised if they were under charging them for rent. Also, a good bit of undeveloped land is including in those numbers(discussed later), so expenses could be overstated. Either way, they've consistently earned EBITDA over $12m in the past 3 years, and are on pace to earn at least that much this year. Place a 10% cap rate on that (aka a ten times multiple), and this division is worth at least $120m; put at 12% cap rate and its worth $100 million. So we know have a range of values between at least $100m and $180m. If you look at slide seven of their annual presentation, the publicly traded real estate comps they list trade between 10 and 16.5x ebitda, with the average (12.9x) giving a valuation of $155m, falling pretty much in the middle of our valuation.
Corporate Overhead
I'm not going to spend too much time here. Corporate overhead averages between $12-16m per year. I would guess two things 1) most of this is related to the undeveloped real estate and 2) if the two businesses were to be sold off, almost all of this would likely be eliminated by the the buyers of the division. Treat the expense how you will, I'm going to treat corporate overhead as -$50m in value. Maybe this is being a bit too aggressive, on the corporate overhead side, but there is $13 million in book value of long term leases that they view more as real estate investments that I am ignoring, so that value + the conservatism of the numbers presented above should make everything up.
A Quick Discussion of Valuation
So, before we we look at that undeveloped land, let's talk about the company's valuation. The company currently trades for a market cap of $110m and an enterprise value of $350m. However, after the close of Q3, they exercised a clause that allowed them to drop the value of the note they owed by $15million ($12m principal, $3m in accrued interest). Once this is accounted for, the real EV is $335m (they do have ~$25m in cash, but I'm not including this in the EV as they are working capital negative and have some long term liabilities in the "other" section that are somewhat debt like. If, however, you did include that cash in your valuation, the EV would slip down to $310m).
So we now have a company trading for an EV $335m- so far we've given the cinema value between $205-240 and the operating land value between $100-180, so for those two businesses we have value a minimum valuation of $305m and a top range of $420 million. With corporate overhead worth -$50m, that gives us a value somewhere between $255m and $370m. So their current valuation ($335m) is basically directly in the middle of the that valuation. And we haven't even talked about their undeveloped real estate.
Undeveloped Real Estate
Undeveloped real estate consists mainly of 8 projects with a book value of $79m at 12-31-09. However, book value is likely significantly understated, given most of the property was acquired years ago and has enjoyed substantial appreciation and up-zoning.
For example, the Burwood property is on the books for $46.7m (~$50m at Sept. 30, 2010 due to currency appreciation). This is perhaps the most interesting property and a near term catalyst for value realization (you can read some background on the property here and here). Last summer, the company announced they would sell the property. Given the property has enjoyed substantial up-zoning and the improvements in the area around the property since the company purchase it in 1996, I would be surprised if the property didn't sell for at least $60m and perhaps much higher. The sale should be completed soon and will result in the company receiving over half their market cap in cash. The cash should be used to fund new projects, pay down debt, or repurchase shares.
So what is this division worth? Book value is $79 million, but given the substantial appreciation, I think the real estate is worth substantially more. How much more? I'll be honest, I'm not sure. But the wonderful thing is that I don't have to know exactly what its worth- the market is assigning no value to this very valuable real estate. I listed above that my range of values for the cinema and operating real estate were $255m to $370m, so if we treat the undeveloped real estate as worth book value ($80m), then the range of values is between $335m to 450m.
Summary
So, in sum, I feel like every assumption I've made has been very conservative- we've assigned no value to ebitda growth from continued improvement in the cinema division (most likely from increased revenue from 3-D screens) and used very conservative multiples in valuing that segment, we've assigned discounts to the operating real estate, and we didn't account for the undeveloped real estate potentially being worth more than book value (basically assured, and likely worth substantially more) . Using all of those pretty conservative assumptions, we've arrived at a range of values from $335m $450m, with debt consisting of ~$215m of that, the equity value is somewhere between $120m and $235m. With 22.8m shares outstanding (class A and B combined, the only difference between the two is class B has voting rights- difference will be discussed more below), this places share value between $5.26 and $10.31 a share (given its leverage, each $10m decrease or increase in asset value corresponds to about 44 cents in per share value).
Risks
One thing I feel like I haven't done well enough on both this blog and in my personal investments is think about the risks and downside involved with them, so I'm going to start discussing them more. I see several risks in this name.
1) Substantially indebted- Reading has a substantial amount of debt ($215m of debt and $300m of total liabilities after the debt forgiveness versus $104m of shareholders equity). Much of this debt is short term as well ($96.9m is an Australian Credit Facility that expires at the end of June). Their debt to EBITDA ratio was 6x in 2009, has never dropped below 5x in the past 5 years, and ballooned up to 12.2x in 2008. That's a lot of debt, and it's obviously a concern. Counterpoint- the reason I'm not too concerned with this is that much of their real estate is unencumbered. In the event they can't roll over the credit line or need more liquidity, they shouldn't have a problem either 1) selling assets to pay down debt or 2) using them to secure additional borrowings
2) Movie theaters- A lot of people are worried about the future of movie theaters. Between digital distribution, Netflix, etc. a lot of investors have questioned the future of movie theaters. Counterpoint- people have questioned the future of movie theaters for years (I believe VHS was the original "theater killer"), but the earnings history of the theater business in general has been remarkably consistent. As RDI mentions in their 10-K, going to the movies is a social event that can't be replicated in the home / by yourself and is unlikely to go away. As a matter of fact, with continued roll out of 3-D (which they can charge a premium for), I would guess the earnings trajectory of the movie theaters will be increasing, not decreasing.
3) Family control / share structure- The company has a classic class A / class B share structure, with the class A shares (the more liquid ones that are traded under the RDI symbol) having basically no voting rights and the class B shares having all voting rights. Other than that, the shares are basically the same. The CEO, James Cotter, owns 70% of the B shares, so he in effect controls the company. He is also a minority partner in some of the LLC's the company is invested in. Counterpoint: Cotter also owns a substantial stake in the A shares, and he's had a strong history of value creation.
4) Foreign Currency Risk- ~50% of their assets are in foreign countries / currencies (10% New Zealand, 37% Australia @ 12-31-09), so an investor is exposed to foreign currency risk. Counterpoint: Australia and New Zealand are both pretty politically stable (no Egypt risk here), and the company matches the currency of their assets to their liabilities.
Catalysts
Sale of Burwood property- Depending on how the sale is structured (whether the company retains any interest in the property in the form of minority interest or keeps some land to develop a cinema), this sale should result in at least $50m in cash (almost half the market cap) and a $10m gain on sale.
Re-addition to Russell 2000 - The company was eliminated from the Russell 2000 in June, but they could make the cut off this year. Readdition would force indexes to buy, which would both drive up the stock price and add liquidity to the stock. While I'd never buy a stock on this sort of technical thing, it should result in a short term boost and could lead to my next catalyst.
Analyst coverage- The company currently has no analyst coverage. This is a complicated name (the undeveloped real estate, for example, clearly has a good bit of value but contributes nothing to revenue and is likely ebitda negative, and the real estate and cinema business likely deserve different multiples) that is difficult for investors who aren't experienced / professional to value. It's pretty difficult to imagine an analyst looking at this name and not realizing its significantly undervalued, but crazier things have happened. And the analyst coverage is related to my final catalyst...
Going to more conferences / more IR work - Management is very quiet and keeps everything close the vest. For example, the sale of the Burwood property was announced over the summer, and I haven't seen any public communication about it since then. However, mgmt is very open about this problem, and come this fall they plan on attending several investor / analyst conferences. This should give them a chance to get their story out and gain analyst coverage. Again, I don't really care about these technical factors, but getting more attention / analyst coverage will help with getting knowledgable investors who can understand the complexities in the name.
Disclosure - I am long RDI, and would look to add shares on any weakness. Originally posted here
When I evaluate the company, I break it up into three divisions: cinemas, operating real estate, undeveloped real estate. Once you take a look into all of those segments, its pretty hard to think the company is anywhere near properly valued at today's prices.Cinema
Currently, they own 52 cinemas operating 421 screens (includes a cinema that opened Oct. 2010 but was not in their most recent 10-Q); in addition, they have unconsolidated joint ventures operating another 4 cinemas (32 screens) and managing 2 more cinemas (9 screens). I'm going to put up their numbers from the cinema segment for the past five years, but note that on Feb. 22, 2008 the company acquired 15 cinemas consisting of 181 screens in California and Hawaii for $71 million, so this significantly affects their results.
Results have certainly improved in the past few years, but they've actually improved to an industry average (Regal, for example, did about $430k per screen and over $75k in ebitda per screen in both 2009 and 2008, and Cinemark does about 83.6k of ebitda per screen (Regal numbers from their 10-K, Cinemark numbers from slide 8). So there is some room for continued improvement). Assuming they can keep at this level (again, basically industry average), the segment should generate at least $34mm of EBITDA per year. Every publicly traded rival trades for at least 6x EBITDA (RGC 7.36x, CKEC 6.05x, CNK 7.11x). Given that, the Cinema segment is worth at least $205 million (6x multiple), and could be worth as much as $240 million (7x multiple).
Note: they've just installed 3-D projectors in over half of their theaters, which could drive decent revenue and ebitda growth in the upcoming year.
Operating Real Estate
This segment consists of 1.2 million square feet of commercial real estate held at a book value of just under $180m. Take a look at their past five years of results below.
Much of their land is leased to their cinema segment, so I wouldn't be surprised if they were under charging them for rent. Also, a good bit of undeveloped land is including in those numbers(discussed later), so expenses could be overstated. Either way, they've consistently earned EBITDA over $12m in the past 3 years, and are on pace to earn at least that much this year. Place a 10% cap rate on that (aka a ten times multiple), and this division is worth at least $120m; put at 12% cap rate and its worth $100 million. So we know have a range of values between at least $100m and $180m. If you look at slide seven of their annual presentation, the publicly traded real estate comps they list trade between 10 and 16.5x ebitda, with the average (12.9x) giving a valuation of $155m, falling pretty much in the middle of our valuation.
Corporate Overhead
I'm not going to spend too much time here. Corporate overhead averages between $12-16m per year. I would guess two things 1) most of this is related to the undeveloped real estate and 2) if the two businesses were to be sold off, almost all of this would likely be eliminated by the the buyers of the division. Treat the expense how you will, I'm going to treat corporate overhead as -$50m in value. Maybe this is being a bit too aggressive, on the corporate overhead side, but there is $13 million in book value of long term leases that they view more as real estate investments that I am ignoring, so that value + the conservatism of the numbers presented above should make everything up.
A Quick Discussion of Valuation
So, before we we look at that undeveloped land, let's talk about the company's valuation. The company currently trades for a market cap of $110m and an enterprise value of $350m. However, after the close of Q3, they exercised a clause that allowed them to drop the value of the note they owed by $15million ($12m principal, $3m in accrued interest). Once this is accounted for, the real EV is $335m (they do have ~$25m in cash, but I'm not including this in the EV as they are working capital negative and have some long term liabilities in the "other" section that are somewhat debt like. If, however, you did include that cash in your valuation, the EV would slip down to $310m).
So we now have a company trading for an EV $335m- so far we've given the cinema value between $205-240 and the operating land value between $100-180, so for those two businesses we have value a minimum valuation of $305m and a top range of $420 million. With corporate overhead worth -$50m, that gives us a value somewhere between $255m and $370m. So their current valuation ($335m) is basically directly in the middle of the that valuation. And we haven't even talked about their undeveloped real estate.
Undeveloped Real Estate
Undeveloped real estate consists mainly of 8 projects with a book value of $79m at 12-31-09. However, book value is likely significantly understated, given most of the property was acquired years ago and has enjoyed substantial appreciation and up-zoning.
For example, the Burwood property is on the books for $46.7m (~$50m at Sept. 30, 2010 due to currency appreciation). This is perhaps the most interesting property and a near term catalyst for value realization (you can read some background on the property here and here). Last summer, the company announced they would sell the property. Given the property has enjoyed substantial up-zoning and the improvements in the area around the property since the company purchase it in 1996, I would be surprised if the property didn't sell for at least $60m and perhaps much higher. The sale should be completed soon and will result in the company receiving over half their market cap in cash. The cash should be used to fund new projects, pay down debt, or repurchase shares.
So what is this division worth? Book value is $79 million, but given the substantial appreciation, I think the real estate is worth substantially more. How much more? I'll be honest, I'm not sure. But the wonderful thing is that I don't have to know exactly what its worth- the market is assigning no value to this very valuable real estate. I listed above that my range of values for the cinema and operating real estate were $255m to $370m, so if we treat the undeveloped real estate as worth book value ($80m), then the range of values is between $335m to 450m.
Summary
So, in sum, I feel like every assumption I've made has been very conservative- we've assigned no value to ebitda growth from continued improvement in the cinema division (most likely from increased revenue from 3-D screens) and used very conservative multiples in valuing that segment, we've assigned discounts to the operating real estate, and we didn't account for the undeveloped real estate potentially being worth more than book value (basically assured, and likely worth substantially more) . Using all of those pretty conservative assumptions, we've arrived at a range of values from $335m $450m, with debt consisting of ~$215m of that, the equity value is somewhere between $120m and $235m. With 22.8m shares outstanding (class A and B combined, the only difference between the two is class B has voting rights- difference will be discussed more below), this places share value between $5.26 and $10.31 a share (given its leverage, each $10m decrease or increase in asset value corresponds to about 44 cents in per share value).
Risks
One thing I feel like I haven't done well enough on both this blog and in my personal investments is think about the risks and downside involved with them, so I'm going to start discussing them more. I see several risks in this name.
1) Substantially indebted- Reading has a substantial amount of debt ($215m of debt and $300m of total liabilities after the debt forgiveness versus $104m of shareholders equity). Much of this debt is short term as well ($96.9m is an Australian Credit Facility that expires at the end of June). Their debt to EBITDA ratio was 6x in 2009, has never dropped below 5x in the past 5 years, and ballooned up to 12.2x in 2008. That's a lot of debt, and it's obviously a concern. Counterpoint- the reason I'm not too concerned with this is that much of their real estate is unencumbered. In the event they can't roll over the credit line or need more liquidity, they shouldn't have a problem either 1) selling assets to pay down debt or 2) using them to secure additional borrowings
2) Movie theaters- A lot of people are worried about the future of movie theaters. Between digital distribution, Netflix, etc. a lot of investors have questioned the future of movie theaters. Counterpoint- people have questioned the future of movie theaters for years (I believe VHS was the original "theater killer"), but the earnings history of the theater business in general has been remarkably consistent. As RDI mentions in their 10-K, going to the movies is a social event that can't be replicated in the home / by yourself and is unlikely to go away. As a matter of fact, with continued roll out of 3-D (which they can charge a premium for), I would guess the earnings trajectory of the movie theaters will be increasing, not decreasing.
3) Family control / share structure- The company has a classic class A / class B share structure, with the class A shares (the more liquid ones that are traded under the RDI symbol) having basically no voting rights and the class B shares having all voting rights. Other than that, the shares are basically the same. The CEO, James Cotter, owns 70% of the B shares, so he in effect controls the company. He is also a minority partner in some of the LLC's the company is invested in. Counterpoint: Cotter also owns a substantial stake in the A shares, and he's had a strong history of value creation.
4) Foreign Currency Risk- ~50% of their assets are in foreign countries / currencies (10% New Zealand, 37% Australia @ 12-31-09), so an investor is exposed to foreign currency risk. Counterpoint: Australia and New Zealand are both pretty politically stable (no Egypt risk here), and the company matches the currency of their assets to their liabilities.
Catalysts
Sale of Burwood property- Depending on how the sale is structured (whether the company retains any interest in the property in the form of minority interest or keeps some land to develop a cinema), this sale should result in at least $50m in cash (almost half the market cap) and a $10m gain on sale.
Re-addition to Russell 2000 - The company was eliminated from the Russell 2000 in June, but they could make the cut off this year. Readdition would force indexes to buy, which would both drive up the stock price and add liquidity to the stock. While I'd never buy a stock on this sort of technical thing, it should result in a short term boost and could lead to my next catalyst.
Analyst coverage- The company currently has no analyst coverage. This is a complicated name (the undeveloped real estate, for example, clearly has a good bit of value but contributes nothing to revenue and is likely ebitda negative, and the real estate and cinema business likely deserve different multiples) that is difficult for investors who aren't experienced / professional to value. It's pretty difficult to imagine an analyst looking at this name and not realizing its significantly undervalued, but crazier things have happened. And the analyst coverage is related to my final catalyst...
Going to more conferences / more IR work - Management is very quiet and keeps everything close the vest. For example, the sale of the Burwood property was announced over the summer, and I haven't seen any public communication about it since then. However, mgmt is very open about this problem, and come this fall they plan on attending several investor / analyst conferences. This should give them a chance to get their story out and gain analyst coverage. Again, I don't really care about these technical factors, but getting more attention / analyst coverage will help with getting knowledgable investors who can understand the complexities in the name.
Disclosure - I am long RDI, and would look to add shares on any weakness. Originally posted here
