AMC: Massive Downside Possible If Proposals Succeed

Late last week, theater giant AMC Entertainment (NYSE:AMC) finally announced details of its highly anticipated plan to enter the next stage in its stock history. Management filed a proxy document to announce a March 14th special meeting of shareholders, in an effort to combine AMC shares with its AMC Preferred (APE) units. While this move may help the company’s long term financial future, it likely will come at a significant cost to shareholders of the AMC ticker in the next few months if the two main proposals go through.

As a reminder, each APE is a depositary share and represents an interest in one one-hundredth (1/100th) of a share of Series A Convertible Participating Preferred Stock. As of February 8, 2023, there were 9,298,497 shares of Series A Preferred Stock outstanding, of which all 9,298,497 shares were represented by 929,849,612 APEs. The number of APEs originally started at a little more than half a billion after the special dividend was paid out last year, but the number has risen sharply due to capital raising activities since.

Since the special dividend was announced, it seemed likely that another set of events would take place down the line. On one hand, management could have just kept selling APE units into the market to raise much needed capital and then done something months or years into the future. However, the company has decided to try to get back to one trading share class. On Friday, three stockholder proposals were announced with shareholders to vote on, as detailed below:

1. Proposal No. 1: To approve an amendment to our Third Amended and Restated Certificate of Incorporation (our “Certificate of Incorporation”) to increase the total number of authorized shares of Common Stock from 524,173,073 shares of Common Stock to 550,000,000 shares of Common Stock (the “Share Increase Proposal”);
2. Proposal No. 2: To approve an amendment to our Certificate of Incorporation to effectuate a reverse stock split at a ratio of one share of Common Stock for every ten shares of Common Stock, which together with the Share Increase Proposal, shall permit the full conversion of all outstanding shares of Series A Preferred Stock into shares of Common Stock (the “Reverse Split Proposal” and collectively with the Authorized Share Increase Proposal, the “Charter Amendment Proposals”); and
3. Proposal No. 3: To approve one or more adjournments of the Special Meeting, if necessary, to permit further solicitation of proxies if there are not sufficient votes at the time of the Special Meeting to approve and adopt the Charter Amendment Proposals (the “Adjournment Proposal”).

In order for the overall process to be executed, proposals one and two have to both go through. If they do, then the following items will happen in sequence. First, the roughly 517 million shares of common stock would be reduced to around 52 million due to the reverse split, while AMC shares would in theory go from $5.51 to $55.10 if you use Friday’s closing price. Then, the roughly 930 million APEs as of the record date, would convert into roughly 93 million shares of shares of common stock, resulting in a combined total of about 145 million AMC shares outstanding. Don’t forget that to avoid bankruptcy throughout the pandemic, management has already diluted investors multiple times over.

Usually when a stock sees a reverse split, it is because the company is in some sort of financial trouble and shares trade for a low numerical price and need to get that price above an exchange’s limit. A lot of times, shares fall after the reverse split as the price naturally heads lower again with the company doing poorly. In theory here if we were using Friday as an example, the AMC shares here might start trading at say $50 after the reverse split instead of $55. But the larger issue here is that AMC shareholders would only own around 35% or so of the combination, resulting in significant dilution. The APE holders would have a lot more ownership, and if these holders are now holding onto large arbitrage gains once the transaction goes through, they might start selling in large amounts, hurting AMC’s stock price.

If you assume that all of this goes through, the long term process isn’t exactly over for AMC shareholders. As the table below shows, the company’s financial picture has been worsening by the quarter recently, ending Q3 in a net debt position of more than $5.3 billion. With interest rates rising recently, it will be either hard or very expensive for AMC to get more debt, meaning equity sales will likely be needed to improve the balance sheet. That would mean even more dilution, which gets even larger for every little bit that AMC shares decline from here. Dollar values below are in millions.

When the APE units started trading last year, they initially started off above $10 but quickly started falling on dilution fears. They hit a low of $0.65 but rallied back above $2 in Friday’s after-hours after the proxy was filed. The market is looking for an arbitrage opportunity here, because if the proposals go through, in theory, every 10 APE units now that finished Friday at a total value of $23.20 would convert to an AMC share at $53.70. AMC shares lost 2.5% in the after-hours session as you might expect.

If the potential arbitrage gap narrows moving forward, that likely means that AMC shares would decline, perhaps rather significantly. Street analysts don’t like the stock to begin with, as the average price target right now is just $2.39, implying more than 56% of downside from last week’s finish. That average valuation figure has dropped about 77% in the last year. If shares don’t rebound soon, it likely means that the 50-day moving average (the purple line) seen in the chart below will head even lower. That declining key technical trend line would then provide even more resistance for AMC shares.

With AMC announcing a shareholder meeting last week to potentially combine the APE units with AMC common shares, investors in the common stock of AMC could see significant downside if the proposals pass. The APE units would be converted to common stock along with a reverse split for AMC, and then management would likely start selling AMC shares again to raise much needed capital. For now, this remains a business with a massive debt pile that isn’t producing cash, and we’ll get an update next week on how bad the situation was at the end of 2022.