Geoff Gannon November 13, 2020

Marcus (MCS): A Movie Theater and Hotel Stock Trading for Less than the Sum of Its Parts

Marcus (MCS) is not an overlooked stock. Despite having a market cap of around $300 million – the level usually defined as the cut-off between a “micro cap” and a “small cap” stock – well over $10 million worth of this company’s stock trades on some days. The stock is liquid. And most of that liquidity is probably highly speculative activity. This is typical for the industry. You can see similar amounts of high share turnover, high beta, etc. at other publicly traded movie theater companies like Reading (RDI) and Cinemark (CNK).

A major reason for that is COVID. I’m going to ignore COVID throughout this write-up. If you’re a long-term investor looking to buy a stock and hold it for the long-term, COVID may influence your appraisal of a company a bit in terms of cash burn over the next year or so. But, aside from that, it matters very little in predicting where a hotel or movie theater stock will trade within 3-5 years. Also, due to the value of the real estate Marcus owns, I don’t foresee meaningful bankruptcy risk here compared to other hotel and movie theater stocks. Most companies in the movie theater and hotel businesses own virtually none of their locations – Marcus owns the majority of the properties they operate in both segments. In fact, Marcus is remarkably overcapitalized compared to its peers in these industries.

And, despite not being overlooked, Marcus may actually be cheap. The company is made up of two businesses. One business is the fourth largest movie theater chain in the U.S. The other business is a collection of hotels. I’m most interested in the movie theater business. So, I’ll start by trying to get the value of the hotel division out of the way.

Marcus manages around 20 hotels. However, it only has ownership stakes in less than half of those. It owns 10% of one hotel. It owns 60% of another hotel. And then it owns 100% of a hotel where the property is held under a long-term lease (instead of outright ownership). To simplify, I’m going to ignore all the hotels Marcus only manages, the hotels where there is a different majority owner, the hotels where there is a different minority owner, and the hotel where the property is held under a long-term lease. In reality, some of these hotels have value. But, we’ll ignore all that.

This simplifies the hotel division’s assets down to 6 fully owned hotels. Those 6 hotels are: the Hilton Milwaukee Center (729 rooms), Grand Geneva Resort & Spa (355 hotels), Pfister (307), Lincoln Marriott Cornhusker (297), Hilton Madison Monona Terrace (240 rooms), and Saint Kate (219 rooms).

This adds up to a total of 2,147 rooms. Generally, these owned hotels are somewhat upscale and somewhat urban (though they are in relatively less densely populated Midwestern states like Wisconsin). I don’t know enough about hotels to be able to appraise these hotels accurately. When I say they are upscale – they are certainly above the level of hotel in terms of rates charged per night of the kind of place Andrew and I would ever stay while traveling on business. I can look at their average rate per night, their reviews on sites like Booking, their AAA ratings etc. and see that the owned hotels – as opposed to some of the managed hotels – are basically city/resort hotels of the full-service / upscale variety. For example, my best guess is that Marcus owns 2 of the 12 best hotels in the state of Wisconsin. The hotels I excluded – one is a 60% owned hotel in Oklahoma City and the other is a 100% owned property in downtown Chicago held under a long-term lease – also fall into the same category of like urban / upscale. We know that the average room owned by Marcus is more valuable than a limited service / suburban hotel room. Yet, as I’m about to show you – the current valuation on the hotel division is probably below that of what you could (in normal, non-COVID times) sell more limited service, suburban hotels for on a per room basis.

Since I don’t know the hotel industry well enough to have any confidence in my appraisal here, I’m not going to try to actually appraise the hotels Marcus owns. Instead, I’m going to check to see if Marcus’s hotel division has enough value to cover the entirety of the company’s debt. This simplifies my calculation as to Marcus’s overall value, because it would mean that 100% of the market cap of Marcus can be treated as valuing the movie theater chain alone.

My conclusion is that Marcus’s debts are fully covered by its hotel division. The hotel business produced $30 – $35 million a year in EBITDA over the last 3 years. The company’s debt is theoretically $300 million. However, $100 million of the debt is convertible into 9.1 million shares of stock. Because Marcus is very undervalued, we can assume that 100% of the convertible debt will be converted. It has 5 years till maturity. There is some complexity here in that Marcus bought a “capped call” to deal with this dilution. But, really, we won’t be overestimating the value of Marcus as a whole if we just reduce debt from $300 million to $200 million and increase share count from 32.1 million to 43.2 million shares. So, that’s what I’ll be doing for the rest of this write-up. As far as I’m concerned: Marcus has $200 million in debt and 43 million shares outstanding.

So, is the hotel segment worth at least the company’s debt? Well, $200 million in debt divided by $30 million to $35 million in hotel segment EBITDA equals 5.7 to 6.7 times EBITDA. Let’s call that 6-7 times EBITDA. Prior to COVID, did full-service / urban hotels generally go for at least 6-7 times EBITDA?

That’s one way of valuing the hotel segment.

The other way is on a per room basis. I excluded anything partially owned and any property where there’s a lease. That leaves an overly conservative estimate of 2,147 rooms. We then divide $200 million in debt by 2,147 rooms and get $93,153. In other words, an appraisal of less than $100,000 per room for these hotels would cover the debt. I can find many different measures of hotel appraisals on a per-room basis for the time period right before COVID. Depending on type of hotel, location, etc. they tended to be in like the $90,000 to $230,000 per room range. In terms of comparable properties, what Marcus owns was certainly closer to the high end of that range than the low end. Also, although “replacement cost” is not something used a lot in the hotel industry – I did my best to come up with some data on what that might look like. Generally, I believe that a valuation of less than $100,000 per room for Marcus’s hotels would be assigning a cost below what it would cost to actually reproduce these properties. In other words, “cost” is somewhat more than $100,000 per room. Finally, we can look at the amount of assets shown on the books of the hotel division. It’s about $300 million. This is fully depreciated book value. Some of these assets are not actual land and property (though a lot are). There are other ways for me to estimate book value. Overall, it does not appear that an appraisal of less than $100,000 per room is especially high relative to segment EBITDA, book value, replacement value, or market value of these hotels in normal times.

For that reason, I’m going to “cancel out” Marcus’s hotel segment’s positive value and the overall corporation’s negative value from debt.

This leaves us with a movie theater segment and no debt (but 42 million shares).

How much is the movie theater segment worth?

We can do estimates based on number of screens and other stuff like that. But, I think that’s silly. It’s best to use estimates of actual free cash flow generation. Marcus did a major acquisition within the last couple years. So, an estimate of free cash flow generated by this segment over the last 3 years is extra conservative. I estimate free cash flow here to be not less than $35 million a year (and possibly more like $50 million a year). I’ll use the $35 million in FCF estimate. If we divide $35 million in FCF by 42 million shares we get 83 cents a share in free cash flow. Honestly, my best guess is that free cash flow from theaters would normally be between 80 cents and $1.20 a share (using the new 42 million share count).

We’ll use 80 cents.

A normal P/E for a stock in normal times is 15. So, we’ll use a price-to-free-cash-flow multiple of 15 here. That works out to 80 cents times 15 equals $12 a share.

Right now, the stock is trading at $9.75 a share. So, that’s 80% of appraisal value. Is that cheap enough to risk buying into a stock in such troubled industries as movie theaters and hotels?

Honestly, I’d say yes. The appraisal methods I used here are very conservative. For example, the likely value of the hotel segment as a whole is clearly not $200 million. It’s more than that. The free cash flow from the theaters is really unlikely to be as low as $35 million in a normal year. Now, 2021 won’t be normal. But, 2022 might be. Free cash flow could easily be 50% higher than the estimate I’m using here. I need to do more work to make that estimate. But, there are many reasons for thinking this. One, the company’s revenue is now higher after the acquisition. Two, the company’s future cap-ex should be lower than past cap-ex. There just aren’t many screens left in this chain that haven’t been upgraded to reclining seats, large format picture, etc. These screens, on average, have far less room for additional cap-ex than what they did 5 or so years ago. And I’m using the levels of cap-ex we’ve seen recently as if they are normal. So, cash flow from operations will likely be higher in 2022, 2023, and 2024 than it was over the last 3 years. And cap-ex will likely be lower in 2022, 2023, and 2024. As a result, my estimate of $35 million a year in free cash flow from the theaters is just a really low estimate.

What are the risks with Marcus?

Capital allocation is a very big one. In fact, the biggest argument against buying a stock like Marcus is why not just buy Cinemark. This company puts a lot of money into hotels. I’ve used a “sum of the parts” approach here to value the company. That’s a somewhat dishonest approach. If you put the company up for auction in its separate parts and I had the cash needed to bid on it – I’d offer far more for the theater chain and far less for the hotels than my discussion above suggests. This is not so much because the hotels aren’t really worth more than $200 million. Rather, it’s because the potential for compounding free cash flow over time at the theater chain is very high versus the low returns in the hotel business. Basically, I think the market tends to overvalue hotel assets relative to theater assets. I’d rather be in the theater business. So, unless you are getting a real big bargain buying a mix of hotel and theater assets here – why not make a 100% pure bet on a theater chain?

The easiest way to do that would be to buy Cinemark stock instead.

As a sum of the parts stock, Marcus looks attractive. The thing I like least about this stock though is that you’re basically watering down a potential investment in a movie theater chain with a partial investment in a hotel chain. Personally, that’s not a trade-off I want to make. So, I’m a bit biased against this situation.

Geoff’s Initial Interest: 80%

Geoff’s Re-visit Price: $9/share

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