The release of Thor: Love and Thunder this month drove AMC Entertainment’s strongest weekend in the past two years, while Cinemark said June was its highest grossing month since the pandemic thanks to Top Gun: Maverick, Jurassic World Dominion, Lightyear and Elvis.

Demand for these blockbusters has been a shot in the arm for movie theaters, which like many shuttered leisure industries took on huge amounts of expensive debt to get through the pandemic.

It also comes at a difficult moment for streaming companies, some of which (most obviously Netflix) are losing subscribers, grappling with issues around content quality, and planning fundamental business-model changes.

There’s still a way to go before movie theater attendance recovers to pre-pandemic levels: data from Box Office Pro suggests year-to-date sales are still 30% behind 2019. But the recent summer blockbusters are fueling confidence that they can compete with streaming services.

They also offer a golden opportunity for high yield theater companies to repair their balance sheets and bring down leverage.

“You can never fully count out the theater industry,” said Brent Olson, portfolio manager and credit analyst at Janus Henderson. “Just seeing the big increases from 2021, an almost 250% jump, highlights that this industry has its place.”

Heavy loads, great expectations

Cinemark (rated B3/B/B+) has $2.5bn of total debt, up from around $1.8bn before the pandemic. With $668.6m of cash on its balance sheet, that puts net leverage at 10x, based on $197m of LTM adjusted EBITDA as of March 3.

Meanwhile, AMC (rated Caa2/CCC+) has $5.3bn of total debt and $1.2bn of cash. Calculating leverage is fairly pointless — the company has not generated positive EBITDA since March 2020. It last reported negative adjusted EBITDA of $58.7m in the 12 months up to 1Q22.

Likewise, Cineworld (rated Caa2/CCC/CCC) had net debt (excluding leases) of $4.837bn as of the end of 2021 but adjusted EBITDAal of just $54.4m, so calculating leverage is largely academic.

But the next round of earnings for these three credits may improve the picture. Analysts will be watching them closely for updated forecasts, and for indications of how to quantify the financial impact of recent releases.

“In 2022 we could actually see domestic box office at 70% of pre-pandemic levels,” said Olson at Janus Henderson. ”If we achieve that, I think there is upside to 2022 cash flow estimates and it would set up a nice picture heading into 2023.”

AMC and Cinemark are expected to release second quarter earnings in early August, while Cineworld reports interim results for the first half of 2022 on September 22.

Rating agencies have already taken note of the strong box office numbers: S&P put a positive outlook on Cinemark’s credit ratings on June 29, with analysts saying higher ticket sales and price hikes should help bring the company’s leverage down to around 5x in 2022.

But with the US economy heading into a potential downturn, these improved sales are fuelling a growing sense of urgency among investors — that cinema chains should take full advantage of what is expected to be a strong quarter to work on reducing debt.

Keep ‘em sweet

This week, AMC demonstrated the kind of move that lenders are hoping to see more of.

Ahead of its forthcoming earnings report, the company said it had bought back $72.5m of its 10% second lien subordinated secured notes due 2026 on the open market in the second quarter at a 31% discount to face value.

“Any management team or owners of a movie theater business should be using every dime of cashflow to delever,” said a CLO manager. “That’s going to give them the greatest amount of protection in the event that any recession is severe and people have to really start managing their discretionary income very carefully.”

If the example of UK cinema chain Vue is anything to go by, there’s no time to waste.

Despite a recent rebound in performance thanks to strong movie releases, the company (rated Caa2/CCC+) is embarking on a $1bn recapitalization involving a £465m debt-for-equity swap, according to Sky News.

In the US, cinema chains with low credit ratings are seen as equally vulnerable.

Cineworld (headquartered in the UK, but with a significant US presence) is on Fitch Ratings’ “Top Market Concern” list. The company has $4.837bn of net debt (excluding leases) across Euro and US dollar term loans, private placements, convertible bonds and revolver borrowing.

National CineMedia, a cinema advertising company (with $944m of debt outstanding across bonds and loans) is on the same Fitch list.

Meanwhile, debt issued by AMC is on Fitch’s “Tier 2” list of loans and bonds of concern. It remains a potential default candidate for 2023, said Eric Rosenthal, a senior director at Fitch, in an email exchange with 9fin.

This highlights how the pandemic has made movie theater companies — already subject to unpredictable fluctuations in earnings — even less suited to carrying large amounts of debt, sources noted.

“At the end of the day, these are not businesses that we think can support significant amounts of leverage, because of the volatility in earnings and cashflows,” said the CLO manager.

Refinancing options

Like cruise companies, many of which still face looming maturities, movie theater operators are still carrying expensive debt they issued during the pandemic.

In its June report on Cinemark, S&P said the company could potentially deleverage by taking out its “onerous” $250m senior secured notes due 2025, which pay a coupon of 8.75%.

But these days, it’s not quite that simple. As we explored in our recent report on report on refinancing, the sell-off in credit markets has decisively ended the cheap refi trade that became so popular last year.

For example, Cinemark’s secured bonds are now trading in the 7%-8% range. On that basis, the potential interest savings from refinancing its 8.75% notes at today’s rates would likely be marginal at best.

By comparison, AMC’s foray into the primary market in February looks well-timed. The company raised $950m of senior secured notes due 2025 at a 7.5% coupon — those bonds are now trading at around 85 cents on the dollar, to yield more than 10%.

All things considered, it seems unlikely we will see any opportunistic refinancing activity, unless there is a dramatic rally in credit markets. But thanks to the cinema sector’s relatively light maturity schedule through 2024, these borrowers have some time.

Some of these credits also have large cash reserves. AMC, for example, had $1.2bn of cash at the end of the first quarter (equivalent to around 23% of total debt).

That is partly thanks to its retail investor following: CEO Adam Aron this week thanked “passionate and supportive” shareholders for helping build a “war chest” for AMC to buy back second lien debt.

Shareholder support also enabled the company to reduce first lien debt last year, when AMC’s soaring share price pushed some of its convertible notes into the money.

Likewise, Cinemark is sitting on $668.6m of cash as of the end of March (26% of total debt). Cineworld is in a tougher spot with just $354m of cash at the end of last year (7% of total debt) and $457m drawn under its $573m revolver.

That said, market sources said the buyside would likely be open to secured debt offerings from AMC and Cinemark if they did need the cash.

With that in mind, we had 9fin’s legal analysts look at what kind of debt raises might be possible under AMC and Cinemark’s existing debt covenants. Scroll to the bottom of this article to see their debt capacity analysis.

Here’s the TLDR: AMC could raise $400m of first lien debt and $200m of second lien debt, while Cinemark has almost $2bn in first lien secured debt capacity, which could rise if EBITDA recovers to pre-pandemic levels.

Recession regression

If cinema chains become more confident about the outlook for ticket sales through 2023, some of them could use their high cash balances to pay down debt.

“If I’m right about improving attendance trends, and the better pricing trend survives an economic slowdown, I think AMC will be free cashflow neutral in 2023,” said an analyst familiar with the sector.

“When you couple that in with their large cash balance, that provides them a lot of flexibility and optionality in terms of improving the balance sheet, maturity runway, and just surviving. They could start to pick up debt through tender offers, open market purchases and exchanges.”

But the potential for a recession could change the mindset of cinema CFOs, who might want to retain a cash cushion to weather the downturn, or any other earnings headwinds.

Cinema spending should hold up fairly well during recessionary periods, as it’s a relatively inexpensive leisure activity, noted Tom Joyce, head of capital markets strategy at MUFG.

“Those lower ticket items, just intuitively, I would think, are going to be more robust,” he said. “Some of them probably actually do quite well during recessions. I think they should be more worried about the seasonality of Covid.”

However, recent changes in the industry and consumer behavior have not been fully tested in a downturn yet, even if there’s hope that the traditional relationship between movie studios and theaters has survived the pandemic.

“The theater model is not substantially structurally impaired,” said the credit analyst. “Studios still want to send their blockbuster films to the theaters, and they’re going to give them a substantial window to sell tickets. Consumers, studios, and theaters are all somewhat aligned on that point.”

There are some encouraging signs. Cinemas have successfully made up for lower attendance and rising input costs by ramping up the cost of tickets, food and beverages; they’ve also reported that customers are splurging on better seats, premium screenings and concessions.

AMC’s consolidated revenue per patron was $20.11 in the first quarter, some 33.7% higher than the first quarter of 2019. Food and drink sales rose 40% over the same period.

Similar trends are playing out across the leisure industry, with Disney also reporting an increase in spending on food and drinks at its theme parks in the last quarter.

That’s giving companies some level of comfort that they can return to pre-pandemic levels of revenue and EBITDA. Even if attendance figures are still lacking, people showing up to the movies seem happier to shell out for the full experience.

But as the industry heads into an economic downturn the challenges it faces are fairly unique: “average ticket prices are at an all-time high, and consumers have never had more options for how to consume video content in the home,” wrote S&P analysts.

AMC already seems to have an eye on this problem — it recently relaunched its $5 Discount Tuesdays promotion. As a counterpunch, Netflix has also made moves to offer cheaper subscriptions, by partnering with Microsoft to develop an ad-supported option.

This suggests that the longer-term battle these companies face — competition from streaming services — is far from over.

“In an environment where there are so many alternatives, and a reduction in discretionary spending, I think many consumers might feel they get more bang for their buck signing up for Netflix for less than the cost of two movie theater tickets,” said the CLO manager.

AMC, Cinemark and Cineworld did not respond to requests for comment.

AMC Entertainment — debt capacity

Per the 9fin Cap Table, AMC Entertainment’s Net First Lien (1L) Debt sits at 2.9x, Net 1L + Second Lien (2L) debt sits at 4.9x, and Net Debt sits at 5.4x, in each case when using FY19 Adjusted EBITDA (i.e., pre-Covid-19) and the March 31, 2022 debt figures. However, as readers are likely well aware, they are currently running a negative EBITDA (although it is creeping upwards!). Therefore, for purposes of our covenant calculations, we have ignored EBITDA grower baskets, the FCCR and their leverage ratio baskets.

It is important to remember, though, that if EBITDA were to go positive in a significant way, the company might gain capacity — for example, using the FY19 Adjusted EBITDA figure of $771.4m, many of their debt ratios were lower than the covenant ratio (meaning they would have had capacity). We also note that AMC Entertainment does not appear to have any ability to add-back Covid-19 related losses or revenue enhancements.

On this basis, we estimate that AMC Entertainment could incur $400m 1L debt ($250m from the Credit Facilities basket, plus $150m from the Permitted Liens General Basket (utilizing any debt basket, see relevant baskets here), and an additional $200m 2L debt (see relevant baskets here). Note that they also have capacity to incur unsecured debt on top of this.

Lastly, it would also be possible for them to incur some structurally senior debt (i.e., at non-guarantors), subject to the non-guarantor debt cap of $200m / 15% of Consolidated EBITDA (see relevant baskets here). Alternatively, the Liens covenant permits them to incur liens on non-collateral assets as well, so the above mentioned $150m Permitted Liens General Basket could be used on non-collateral assets.

Cinemark — debt capacity

Per the 9fin Cap Table, Cinemark has a LTM-March 2022 Adjusted EBITDA of $197.2m resulting in 1.6x 1L Net Leverage and 10.0x total Net Leverage, courtesy of the $668.6m cash sitting on its balance sheet. As with AMC Entertainment, Cinemark cannot add-back any Covid-19 related losses or revenue enhancements for covenant purposes.

Using these figures, we estimate that Cinemark could incur up to $1,075m 1L debt ($1bn from the Credit Facilities basket plus $75m from the Permitted Liens General Basket (utilizing any debt basket, i.e., the $600m General Debt Basket). Additionally, the company could incur an additional $922m of first lien debt using the Construction Indebtedness ($300m), Finance Lease Obligations ($422m - based on our estimates of 15% of their Consolidated Net Tangible Assets) and Digital Projector Financing ($200m) baskets if the debt was incurred inline with the purpose of those baskets.

Alternatively, the Liens covenant doesn’t distinguish Permitted Collateral Liens and Permitted Liens (as is customary in European deals) thereby allowing the company to incur any of the 1L debt mentioned above, plus Construction Indebtedness ($300m), Finance Lease Obligations ($422m) and Digital Projector Financing ($200m), on non-collateral assets.

Furthermore, there is no cap on structurally senior debt (i.e., at non-guarantors), so they could incur any of the above mentioned debt as structurally senior debt.

One final note, as mentioned, they have $1bn of capacity available under their Credit Facilities basket, however, this is based on the fixed portion - it also contains a leverage-based test of SSNL < 2.75x - which isn’t helpful at the moment as EBITDA is quite modest. If Cinemark were to reach its pre-Covid 19 FY19 Adjusted EBITDA of $745m, it could incur up to $1.83bn of first lien debt (as this level of EBITDA would give it 2.35x headroom under the SSNL ratio) using its current cash on balance sheet ($668.6m) and total debt ($2,543.9m) figures.