IMAX Plunge Presents a Buy Opportunity

Well, I couldn't resist. I might be grasping for a falling knife, which doesn't often work out that well for me, but I think the reaction to Imax's news this evening was wildly overdone, and I ended up buying a few more shares as the price tumbled by about 35% due to bad corporate restructuring news.

When I saw that Imax had not come to an agreement to be acquired or form a partnership with one of the four bidders who were interested, I certainly expected the shares to lose ground. But in my opinion, the possible deals were so nebulous and the performance of Imax films in the first quarter so weak that there really wasn't much of an acquisition premium built into the shares.

After all, the shares were well above $9, and they were doing pretty well on raised guidance for FY 2005, when they announced they were exploring "strategic alternatives" back in early March. Certainly, everyone who invested in this company since then has been focused on the possible takeover, and on a buyout premium that would drive the price to the neighborhood of $12 to $14.

And if the price had hit $14 before this announcement, the 30%+ decline would make a lot more sense to me.

But it didn't -- the premium never really got priced in, so I guess you can say the market was, very rightly, cautious that a deal would happen at that price ... or at all.

So how does Imax look without being an immediate takeover target (and it still may be in due course -- they are still exploring their options)?

Well, to begin with, they did beat the earnings estimates for this quarter, and they beat on the revenue number as well. So this reaction to the announcement is clearly just a reaction to the buyout news, the company's operations seem to be fine as far as I can tell.

Analysts are estimating an average of 42 cents in earnings this year and 62 cents next year -- and given the good backlog of installations, the constant announcements of new theater deals, especially overseas, and the great slate of films for next year (Spiderman 3 and the next Harry Potter), I have no reason to question that estimate. Superman Returns has been big for them so far this summer, and Imax is certainly starting to get more of a push for these simultaneously released blockbusters as studios see the gravy Imax showings can pour onto their box office results.

So I put in a limit order at $6.20 after hours, fully believing that this price, more than ten percent below the low hit in January, wouldn't deliver the shares to me. But I thought it was worth a shot.

And now, surprise, I'm the proud owner of a few more Imax shares. I've said before that this is not my favorite company in the portfolio, and that I would have given up my shares at $13 without a fight. That's still true.

But buying shares of this company, which I believe is growing well and has further growth prospects, at a forward PE of 10, is too good to pass up.

It might be that I'm just being stubborn.

This is certainly a small gamble, and I haven't put a ton of money into it. It's possible that the company will truly suffer in the short term without a deep-pocketed partner or a buyout -- but in my opinion, the risk is that they won't grow as fast as their market will bear if financing is weak, not that they will actually have operational difficulties in continuing to grow at the moderate pace they've kept up so far.

Wall Street is having a hard time believing that Imax is for real, and no one was willing to step up to the plate and pay enough cash for the company to make management recommend a buyout -- so it could be that the company really isn't worth as much as I think it is. But it could also be that the arbitrage rats fleeing the sinking ship are just being short-sighted ... only time will tell.

IMAX 1-yr chart:

Comments

[LT Sandvik:]

I think the other thing you are missing is that they are reworking the business model and now talking about going digital (something they blew off in the past) - they don't have enough cash to go at this in a big way (20MM in cash and 40MM in credit facilites) and the ROI will take a couple of years - possibly an opportunity for P.E. to step in and spend some cash - but stock is still a little cloudy.

2006 Aug 10 09:18 AM

[Zack Miller:]

LT has a good point. IMAX has not done a good job articulating their long-term strategy and how/when digitization plays into it. Combined with an SEC inquiry, it's definitely being punished for it. Good opportunity for PE to pony some money up and perhaps play into the "JV" structure the company has been talking about. It's possible that there is a deal -- just lower.

When everyone thinks the stock goes to 0, more times than not it doesn't.

2006 Aug 10 10:04 AM

[Travis Johnson:]

All quite true -- and good reasons why Imax has been so volatile and hasn't been priced significantly higher. I tend to agree that there is still likely to be some sort of partnership or deal, albeit lower, but I certainly don't think the shares are well priced down here below $6.

Imax has plenty of warts, and I clearly was too optimistic in thinking that a 35% drop was as absurdly low as it would go ... but it also has solid earnings and good prospects for continuing installations and a great film slate, and I don't think the SEC inquiry is significant -- it might cause restatements and the movement of earnings from one quarter to another, but it appears that it's just a timing issue in recognizing revenue, so I don't really care. Imax is worth at least a market multiple, I think, and if they can make a partnership to help them ramp up the growth to meet demand, they might do much better than that.

That said, my short term record has been abysmal of late. I could be wildly wrong.

2006 Aug 10 10:22 AM

[Zack Miller:]

Travis,
Any idea why the stock is getting hit so hard today?

2006 Aug 23 10:42 AM

[Travis Johnson:]

I assume it's just more panicking over the lawsuits that are continually being filed, and the fact that they've changed CFO's probably adds flame to the fire. I decided to sell the part of my Imax holdings that were in a margin account since I can't justify borrowing money to hold these, but I still hold the shares that I bought at 6.20 after the bad news was released -- I could be wrong, but I think the accounting questions are largely unimportant and that the company's actual performance more than justifies a price of at least $9-10.

Again, I could be wrong -- I don't see any chicanery in their accounting dispute, and I think the class action lawsuits are the typical garbage that follows any bad news, but I'm neither an accountant nor a lawyer.

2006 Aug 23 12:08 PM