Three leading multiplex operators — Shringar Cinemas, PVR and Inox Leisure — have entered the listed space over the past two years. The promise of a superior experience relative to other entertainment options; the ability to charge higher admission rates than single-screen theatres; rapid expansion plans; and the onset of a "new and improved" Indian film industry that focuses on content, were factors that helped these companies trade at a premium valuation, post-listing, along the lines of retailing majors.
Post the correction in mid-caps, the stocks of Shringar Cinemas and PVR are now trading at levels closer to their offer price, even as Inox Leisure has fallen significantly from its earlier high.
While valuations have corrected, they remain on the high side. Although the demand for multiplexes from the cinema-going public shows no signs of weakening, problems in execution of expansion plans, coupled with the high risks associated with the business, could temper valuations. We analyse the performance of multiplexes in the post-offer period and provide an outlook for the stocks in the sector.
Robust revenue growth
Multiplex operators have recorded strong growth in revenues in the range of 40-60 per cent in the first half of FY-07, on the back of new multiplex additions. It has also been an exceptionally good year for the Indian film industry, which saw the release of a slew of successful films. High occupancy rates have persisted, allowing theatres to hike rates in the first few weeks of a film's release. Profit growth has outpaced sales growth, as overheads such as personnel and maintenance costs have been spread over a larger base.
The robust performance cannot eclipse the risk of sudden knocks in performance if the content suffers. Strong inflows from box office collections have, however, so far reduced the impact of a slower-than-expected rollout of theatre chains.
Problems in execution
The market has been factoring in a multi-fold expansion in properties across theatre chains. However, delays in receiving Government approvals and handover of properties from developers have slowed down the roll-out of theatres. A large portion of offer proceeds remain unutilised for most players, although this has not stopped Shringar Cinemas from raising foreign convertible debt of about Rs 90 crore to fund its expansion plans.
The stated expansion plans across the three contenders continue to be ambitious; companies expect to double and triple the number of screens they operate over the next two to three years. Screen additions are likely to bunch up in some quarters, which could skew the quarterly performance picture in a manner similar to what is being witnessed in the retail industry.
PVR appears to have managed a faster rollout than its peers and now appears to be fairly ahead of Inox Leisure when it comes to screen presence. This could be why it continues to trade at a premium to the other players.
Tussle with distributors
Scale is becoming increasingly important for multiplex operators. While a good box-office year has had cash registers ringing, distributors are not too happy with exhibitors walking away with a greater share of the profits. Multiplexes account for barely 5 per cent of the total screens in India but are estimated to rake in 30-40 per cent of box-office revenues every year, thanks to their ability to charge higher ticket rates.
Big banner productions such as Fanaa, Dhoom-2 and Baabul have had distributors demanding more favourable terms in the revenue-sharing agreements. Those who have succumbed to their pressure have seen pressure on margins. The distributor's share is one of the more significant expenses borne by operators, accounting for more than 20 per cent of revenues. Inox Leisure, for instance, has seen a rise of 700 basis points in distributor's share in the first half of FY-07.
Such instances are likely to crop up till multiplexes gain scale; operators now see merit in consolidating their presence in certain distributor territories to improve their bargaining power with distributors. They are also getting into distribution themselves to ensure supply of content for their exhibition business.
Stock view
Given that expansion plans were at an early stage, we had maintained that it would be difficult to pick one of the three as a superior exposure and had earlier recommended holding at least two of the three stocks. We remain positive on the sector and maintain our stance. Despite execution problems, we believe that the ramp up in revenues and earnings would be significant.
Among the three players, PVR is more expensively valued. Its larger scale and better execution capabilities appears to drive its premium valuation. Its foray into co-production for two films with Aamir Khan Productions, due for release in 2007, also appears promising. Higher share of theatres that carry tax benefits could also help scale up margins. However, given the stiff valuation, tolerance to poor quarterly performance would be low. Shareholders can hold the stock and investors can consider accumulation on declines.
While Inox Leisure is relatively more attractive, concerns stem from the steep decline in margins it has witnessed recently, on account of rising payout of entertainment tax and distributors' share. Inox has enjoyed higher-than-average operating margins thanks to its operating from locations that are exempt from tax. Sustaining this advantage might prove difficult. Retain holdings of the stock.
Shringar Cinemas' performance appears to be turning the corner, reversing losses in the first two quarters. Additional screens could result in a substantial improvement in revenues and earnings. Shringar's long experience in the distribution business will also be to its advantage once it gains scale. Execution, however, continues to be an issue as the company has been slow to roll out properties. Investors with an appetite for risk can consider exposure in the stock.