IMAX Corp. (IMAX) has blossomed as an entertainment technology company with a global presence. IMAX specializes in digital and film-based motion picture technologies and its unique business model involves eight separate operating units.
Revenues are derived from: sale/lease/provisions of theater systems; film production; distribution; post-production services; joint revenue sharing arrangements; maintenance and operations.
While the company benefits from diversity in its revenue and cash-flow base, there are numerous macro and accounting risks investors need to consider. Macro risk issues include competition from evolving in-home motion picture content (streaming video) and delivery, potential dearth of box office "hits," etc.
Accounting risks include changes in "Critical Accounting Policies," revenue recognition/classification of sales and sales-type leases, asset impairment, etc.
The company believes its primary competitive strengths include the value of the IMAX brand name, design, function, reliability and consumer loyalty. Our research focuses primarily on the financial aspects and we hope to shed some light on this fast growing company.
Revenue growth over the past seven quarters has averaged 11.7%. EPS in the similar time averaged 231%.
Cash-Flow: Our dual cash flow model indicates that balance sheet "cash-flows" are historically the primary component of earnings. However, operating cash-flows (as determined by our model) have been improving steadily with the recent Q4 ratio displaying the strongest reading of all periods reviewed.
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Rising overhead cost issues in Q4 (particularly S/G/A), were offset by significant improvements in capital productivity, notably with inventory, receivables and payables.
Accruals: A noticeable contrast to the improving cash-flow story is an alarming spike in the accrual ratios during Q3 and Q4.
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Management lists signed contracts for theater systems which revenue has not been recognized as sales "backlog" prior to the time of revenue recognition. Yet, the backlog includes signed contracts for sales and leases that are expected to be recognized as revenue in the future.
Thus, changes or modifications to terms and/or delivery of system obligations could potentially have an adverse impact on IMAX's future cash flows and revenues.
Japan: The recent and tragic earthquake in Japan could also potentially impact IMAX in the near-term.
At year-end 2010, IMAX's Network Theater Base in Japan accounted for 3.47% of total network base and approx. 1.9% of current backlog (systems under joint revenue sharing agreements).
Revenues from Japan are approx. 4.7% of total sales and about 4.3% of IMAX total P,P & E. It is difficult to estimate with any accuracy what value is assigned to deferred revenue, contingencies, financed receivables, etc. related to IMAX's Japan operations. Other uncertainties include:
- The effect of net Japanese yen cash in-flows converted into U.S. dollars on the spot market.
- The effect of curtailed expectations related to the company's expanded joint revenue sharing agreements with existing customers.
Summary: Despite investor focus on in-home streaming video content and distribution, IMAX appears well-positioned to capitalize on consumer demand for bold get-in-your-face movie experiences. That said, the sustainability of its changing business model is highly dependent on leveraging its technology with both studios and theater operators.
With regard to the parabolic recent accrual ratios, it may very well be a reflection of growth for IMAX. However, for growth to translate into healthy earnings quality, investors will want to see less balance sheet "maneuvering" and more "true" operating cash-flows supporting the earnings statement.
IMAX is an interesting company but keep an eye on where the cash is coming from. You can view our report on IMAX here.
Based on analysis of the 7 qtrs. through 12-31-10.
Earnings Quality: A-
Est. Fair Value: $34.55
Rating: Undervalued
Current Price-to-FV: -18.54%
Although our analysis indicates IMAX shares may be significantly undervalued, they are volatile with a beta almost twice that of the S&P 500. Any pull back to the mid $26 area might make a good entry point for partial positions. A pull back to $25.50 for full positions.
Disclosure: I am long IMAX.
