This post is part of a three part series detailing how Wall Street shenanigans and social media activism helped AMC, the world’s largest cinema chain, survive the economic upheaval caused by the COVID pandemic. Part 2 can be found here and Part 3 can be found here.

When AMC Entertainment Holdings, Inc. held their second quarter earnings call for 2021 last Monday it revealed not only a lot about the financial health of the company itself, but also the current state of the exhibition industry, if not its future. Yet one would never know this if they relied on the reporting of the results found in mainstream and even broader trade publications. Instead, they might think the most important items had to do with Bitcoin and an agreement the theatre chain reached with Warner Bros. for a 45-day exclusive theatrical window starting in 2022.

The cryptocurrency announcement follows a trend of AMC leaning into its status as a poster child for “meme stocks,” a practice the company has wisely employed to its benefit since the beginning of the year. As for the release window deal with Warner Bros., it’s hard to see why this was the lead story out of the earnings call, given the similar agreement Warner Bros. had reached with Cineworld back in March.

To dig into these issues and find out how AMC survived a roller coaster of a year, Celluloid Junkie is publishing a three-part series beginning with this post. (After all, Netflix isn’t the only media company that can create a limited series.)

A Quarterly Loss That Feels Like A Gain
First, let’s get one thing out of the way; AMC is still currently losing money. In fact, the second quarter of 2021 marks the sixth consecutive financial quarter in which the company was in the red. Yet it also marked the first quarter since 2019 in which AMC beat the estimates of Wall Street analysts and it did so while narrowing its losses and increasing revenue with only a slight uptick in operating expenses. To be sure, the facts and figures behind the earnings can be a little dry, whereas the drama behind what led up to these numbers, which we detail afterwards, is far more colorful.

AMC only lost USD $344 million or 71 cents a share in Q2 beating analysts predictions of a 94 cents per share loss. That is an improvement all around for AMC from its USD $1.42 per-share net loss in the first quarter and way better than the USD $561.2 million the company lost in the second quarter of 2020.

Even the exhibitor’s revenue of USD $444.7 million was better than the USD $382 million anyone was expecting. That’s a 2250% year-over-year increase over the second quarter of 2020, though that’s kind of misleading since movie theatres were closed to comply with COVID-19 restrictions during that period. It’s also worth noting that the per share loss would have been bigger as well if not for the dilution that occurred when AMC issued more shares as its stock price hit unexpected highs in the first half of 2021.

That said, AMC is burning cash rather than generating it, to the tune of USD $252 million during the last quarter. Despite the loss, the company finished the second quarter with USD $2 billion in cash and equivalents on hand (after raising capital over the three-month period), though it is balancing a whopping USD $5.5 billion in debt.

This is why Adam Aron, the company’s CEO, assured investors that “there are no victory laps being taken.” He also pointed out that AMC’s debt only begins maturing in 2023, with a majority of the debt coming due in 2026. The thinking is this would be enough time for the exhibitor to strengthen its balance sheet by deleveraging or refinancing under better terms. No doubt, they will start by paying off some of the USD $420 million in deferred rent that is owed to landlords from having been closed for most of 2020.

Aron is cautiously optimistic about AMC’s current position, stating, “We’re not out of the woods yet. We do still live in a COVID-infected world. But fortunately, we can see a light at the end of this tunnel.”

One reason for his confidence is all of the positive trends the company has been tracking. Ticket admission revenue has grown this year reaching 13% of what was earned in Q1 of the non-pandemic 2019 to 29% during Q2 of the same year. Up until 9 August the third quarter was averaging 45% of 2019 levels. Of course, it hasn’t hurt that AMC raised its ticket prices at its North American theatres by about 15% and at its international cinemas by an average of 6%. Capacity utilization however is also following the same patterns, reaching 61% in Q2 compared against 2019 and 63% in Q3. That’s up from 41% in Q1.

Maybe one of the most important figures for any cinema operator is revenue per patron. Here too AMC was happy to report a rise from USD $5.58 in 2019 to USD $7.91 during the second quarter. Any cinema locations that weren’t contributing to enhancing AMC’s bottom line because they were underperforming, losing money or barely breaking even have been abandoned by the exhibitor. The company has shuttered 74 such sites in the United States over the last 18 months.

However, AMC is not completely shrinking, as Aron was quick to remind investors. The company picked up multiplexes at The Grove and Americana at Brand after Pacific Theatres ceased operating them. During the earnings call Aron said they are in late-stage negotiations for an additional eight locations amounting to 10 new sites; three in Los Angeles, two in Chicago and one in Atlanta. Eight of the 10 locations are former Pacific or Arclight Cinemas facilities.

Explaining AMC’s High Finance Death Spiral
It is no small miracle for AMC to find itself in a position where it can report second quarter earnings for 2021 of any kind, even if they amount to losses. By now every prognosticator, whether a financial analyst or industry insider, had written the company’s obituary many times over, figuring it would have filed for bankruptcy by the middle of the year. The pandemic had seemingly backed Aron into a financial corner there was no getting out of and his efforts might be better spent selecting a font for the resume he’d need when applying for his next CEO gig. This played to the assumption that after bankruptcy restructuring the AMC board wouldn’t keep Aron around. But we all know what happens when one makes assumptions.

Aron himself admitted in May during AMC’s first quarter earnings call that the company was “within months or weeks of running out of cash five different times between April of 2020 and January of 21.” That the theatre chain was able to not only fend off bankruptcy but bank nearly two billion dollars in cash and start playing offense by picking up new leases is only due to a series of unique events that can only be referred to as unprecedented since no company has ever gone through them previously and is unlikely to ever do so again.

The story of AMC from November of 2020 through to its present day is one of high finance tomfoolery, Wall Street chicanery and social media activism leading to unexpected rescuers. At every step Aron and AMC embraced the latest development even when there was a risk the move was intended to purposely cripple them. So far, the company has won by beating the most onerous odds and exploiting fortuitous opportunities. To understand how requires a bit of explanation to the stock market high jinks that played out.

At the beginning of December 2020, AMC’s stock price was hovering around the USD $4.00 mark after a year in which COVID decimated its share price. The company, already heavily in debt due to multi-billion dollar acquisitions before the pandemic, was burning through an average of USD $125 million each month. With most of its theatres closed and studios sending blockbusters to their own streaming services, AMC would run out of cash in a month or two.

Along comes Mudrick Capital Management, a hedge fund with USD $3.8 billion worth of assets under management (AUM) run by Jason Mudrick. The firm is considered a contrarian investor that puts money into distressed assets. In an April 2020 profile of the fund, Bloomberg defined Mudrick’s strategy:

“His playbook is the same as always: buy up debt in the hope of taking control as the business fails to make debt payments and is forced to restructure its balance sheet. Mudrick, whose distressed-credit hedge fund returned 22% in 2019, said he hopes to make as many as 10 new investments in the coming weeks. ‘We want to own these businesses through the loans,’ he said. ‘If the market recovers, we’ll make some money and move on.’”

Translation; the economic turmoil caused by the pandemic was the opportunity of a lifetime for such an investor. Mudrick planned on scooping up companies that had been crushed by COVID lockdowns, not by buying their depressed shares on the open market, but rather purchasing their debt and converting that into shares of stock with a controlling interest.

These were the circumstances on 11 December 2020 when Mudrick picked up and converted USD $100 million of AMC debt into Class A common shares and at the same time lent the company another USD $100 million which it then converted into 13.7 million common shares of AMC stock.

What’s unusual about Mudrick’s investment is that the fund was willing to pay a premium to convert $100 million of AMC debt as well as loan the company USD $100 million. Mudrick would then convert the loan into even more shares of AMC, even though the exhibitor had made it known they would run out of cash in January of 2021. The only way AMC wouldn’t go bankrupt is if they could raise USD $125M through selling an additional 50 million shares. Meaning the $200 million worth of shares that Mudrick was buying into in December would be worth even less in just a few weeks time.

To those not familiar with such financial maneuvering, which is most of us, this might seem like the most foolish investment any Wall Street firm has ever made. On the other hand, those like Aron and Sean Goodman, AMC’s Executive Vice President and Chief Financial Officer, who are well versed in such matters, knew exactly what Mudrick was up to since the firm, through its overt dealmaking and investment activity, was being very clear in its intention and overall goal.

We should pause here to explain that when hedge funds drive a company into bankruptcy they employ a standard playbook. First they lend the company capital through high interest loans. These funds are often referred to as “death spiral financing” for a reason; the loans come with clauses that allow lenders to convert debt into equity. When lenders exercise such conversions it drives down the security since all the shares in the entire company are diluted. For a healthy company with a strong stock price this might not be such a problem. For a distressed company with a battered stock price, this is like throwing chum into a pool full of sharks.

When short sellers see hedge funds convert debt into equity they show up in droves, driving the stock price down even more. The hedge fund itself is also probably short selling the company knowing that if the company files for bankruptcy, the stock they borrowed and sold (in a short sale) will be worthless and never need to be returned to its original owner. These cash strapped public companies often need additional capital and, with their depressed stock price, can’t turn to the markets to raise funds. This is when the original hedge fund steps in to offer another convertible loan starting the whole process over again in their attempt to leverage the company into bankruptcy.

Once begun, the primary way to break the cycle is for the company to improve its financial results, whether through increased earnings, lower expenses, changing market conditions, etc. A positive financial quarter could force short sellers to take some losses and send them running.

This was precisely the position in which AMC found itself, when no sooner had Mudrick exercised its debt into equity in mid-January of 2021, it sold all of its shares. This was meant to flood the market with AMC stock, lower its share price and make it difficult to raise funds through issuing new shares in the company.

At the same time Mudrick earned USD $50 million by selling call options on AMC stock at a strike price of USD $40. This means investors paid Mudrick for the right to buy AMC stock if its share price ever reached USD $40 in a given period of time. Since AMC’s share price has never been above $36 since it went public in 2013, and the company was financially unsound, Mudrick was justifiably confident it wouldn’t do so in the midst of a pandemic.

However, the firm had just sold all of its stock in AMC and they weren’t holding any shares at all when they sold these options. This is known as a “naked call,” a risky, though entirely legal, investment strategy in which the seller of the options to buy a stock doesn’t actually own the stock. If shares of the company hit the strike price the buyers of such options might exercise their right to buy the shares forcing the seller to go buy the stock at the current market price.

In short, if the price of AMC stock rose to the unprecedented level of USD $40 or higher before the expiry date on the option, the investors who purchased the options from Mudrick would exercise them and Mudrick would have to buy the shares, possibly causing the price to go even higher.

Keep this in mind as we review how the rest of 2021 unfolded.

Part 2: The Naked Truth About AMC’s Share Price – How a billion dollar Wall Street hedge fund learned that it doesn’t pay to bet against AMC.