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The biggest drama of this year Cineworld (LSE: CINE) was not on the screens of the cinema chain. Instead, the heavily indebted company has remained on the back burner as it tries to stave off bankruptcy.
By doing so, he opened up the prospect of massively diluting existing shareholders. Coupled with ongoing challenges to bring cinemagoers back to the silver screen, this has sent Cineworld’s share price down to pennies.
After losing 93% of their value last year, Cineworld shares are now cheap – but does that mean they’re a good value addition to my portfolio?
Price and value
An important principle when it comes to investing is to understand the difference between price and value. According to famous investor Warren Buffett, price is what you pay and what you get.
On the face of it, Cineworld’s share price of under 5p might seem cheap. Indeed, the market capitalization of the entire company is now just £62m. In theory one could buy the entire show for £62m. But if someone pays that amount to Cineworld now, he will have to take responsibility for the debts as well. With $8.9 billion in net debt at the end of last year, that’s a big undertaking.
If no one offers to buy the chain, what will happen to the shareholders? There is a fair chance that Cineworld will reach a deal with creditors, such as forgiving some of its debt, or pushing back the expiry date, in exchange for shares. In fact, the company said that it is currently in negotiations with its creditors.
This week, Cineworld filed for bankruptcy protection in the US, citing “A court-supervised process that provides a platform to effectively reorganize the group’s business and balance sheetHe said.
Shareholders can end up with nothing or close to nothing. I see Cineworld as a very risky stock to buy at the moment and would not consider owning it in my portfolio. Obviously, while Cineworld’s share price is cheap, I don’t think it’s well-valued.
Can Cineworld’s share price bounce back?
From a risk management perspective alone, there is no way I would buy Cineworld shares. But is there a chance that Cineworld’s current share price could turn into a bargain if the business restructures its debt? After all, it works on thousands of screens and has a well-known brand name.
In theory, the stock price can rise from here. To limit shareholder objections, the group’s creditors may agree to leave something on the table during negotiations.
But why are they better? The creditors include ruthless, sophisticated financial institutions whose only interest is getting their own money back.
Cineworld’s business may improve but in my view this will not come fast enough to help shareholders. They now have little or no voice and are in debt negotiations with no effective bargaining power.
I do not expect Cineworld’s share price to recover sustainably in the short or long term. The rewards here are uncertain, but the stakes are clear—and huge for the appetite.