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Quick! Name a small cap that owns movie theaters in choice locations and trades close to book value. Here's a hint: it's the descendant of a railroad made famous in Monopoly.

Not the Pennsylvania Railroad, the B&O Railroad, or the Short Line, the company I'm talking about is Reading International (NASDAQ:RDI). Based in Los Angeles, Reading operates the Angelika Film Center chain of art house cinemas, the Consolidated Theatres in Hawaii, Reading cinemas in Australia and New Zealand, and a collection of small theatres in Manhattan.

To focus on Reading's cinemas is to miss the big picture, though. As management makes clear in the annual reports, Reading is really a real estate play. Yes, its cinemas occupy choice locations, some of which are owned but many others of which are leased, such as all the Hawaii locations. But more importantly, they generate consistent cash flow to fund real estate purchases elsewhere, including land in Coachella, Calif. bought via a foreclosure sale.

In August, Barron's highlighted the untapped value of Reading's Manhattan holdings. This was after Capstone Equities, a New York real estate private equity firm and Reading shareholder, offered to buy Reading's Union Square Theatre and Cinemas 1, 2, 3 for $100 million.

Reading has marked its Union Square Theatre for redevelopment. This property is across the street from the original W Hotel. Reading owes about $7.5 million on it, with a $6.4 million balloon payment due in 2015.

Reading is committed to selling Cinemas 1, 2, 3, located on 3rd Avenue across from the flagship Bloomingdale's department store. Combined with surrounding lots, this property could support a $200 million development. As such, management has requested a reinvestment option of up to 25% of the purchase price in connection with any sale. Prospective buyers have offered between $40 and 45 million for this property, but they haven't taken kindly to the reinvestment option.

What Barron's didn't mention in depth is Reading's 50-acre parcel in Burwood East, Victoria, Australia. Located to the east of Melbourne, Australia's second city and one of the world's five most expensive, Burwood East is an upper-middle-class suburb. According to Realestate.com.au, the median house price there is A$664,000 and an average of 83 people look at each house for sale.

Reading envisions a mixed-use community on its land, with commercial space fronting Burwood Highway and houses in the back. The property has been cleared save for one house, which appears to be condemned and/or contaminated.

Even if the Aussie dollar retreats some more, Reading should come out ahead with this property. The delay in selling it resulted from management's original plan to sell the parcel as a whole, on advice from Macquarie, limiting the number of qualified buyers. The company is currently marketing the property as three parcels: the first residential, the second residential and commercial, and the third retail and entertainment.

Nevertheless, Reading's substantial exposure to Australia and New Zealand, with 56% of its assets denominated in Australian dollars and 17% in New Zealand dollars, could be reason for caution. The company generates just over half of its revenues in those two countries, and is vulnerable to a slowdown in consumer spending.

More troublesome is that shareholders don't have a say in how Reading is run. Voting power lies in the untraded B shares controlled by CEO James Cotter. In a public letter to Reading's board, sent in May, Capstone Equities asserted that Cotter has conflicts of interest that keep him from allowing Reading to reach its potential. Capstone states that Cotter's other companies do business with Reading in a manner that shifts all the risk onto Reading while benefiting Cotter. Furthermore, his daughter's job at the Union Square Theatre is presented as a possible obstacle to redevelopment of the property, which would eliminate her position.

As significant as these ongoing issues may sound, in 2009, billionaire Mark Cuban did buy into Reading, albeit when the stock traded around $4. He remains the largest direct shareholder, but he appears to have divested some of his shares.

Now that the stock has dropped roughly 15% from its 52-week high of $6.62, the time seems right to initiate a position in RDI or to add to an existing one. The tremendous upside potential in Reading's real estate remains to be realized. If even a fraction of it is, the stock should see gains and at least reach its true book value.

Source: Buy Small-Cap Reading International For Its Prime Real Estate