It’s no secret that digital entertainment has been a brutal and continuous disruptor.
Strange to think it was less than a decade ago when brick-and-mortar retailers Hollywood Video and Blockbuster met their demise to the drum of 0’s and 1’s. The onslaught of Redbox kiosks — made possible by digital video disc (DVD) format — alongside emerging on-demand cable services, quickly rendered brick-and-mortar models obsolete.
Of course, Redbox, too, would soon collapse under the pressure of digital disruption. The proliferation of video streaming subscription services such as Netflix (NASDAQ: NFLX) meant the victory of DVD would ultimately be short-lived.
In 2015, Redbox rentals plummeted 24% and another 20% in 2016. Now it won’t be long before those bright-red kiosks disappear for good.
Another example of this kind of rapid digital disruption is what’s been happening to GameStop (NYSE: GME). As video game downloads have become increasingly available on PCs and consoles, GameStop’s sales have dropped off a cliff, and its valuation was cut by two-thirds in recent years.
I began warning investors about GameStop’s stock in early 2016 in these very pages, naming it as one of my top four stocks to sell for the year due to the threat of digital formats. The company was, and still is, an easy short decision.
But now, yet another business model faces potential oblivion in the midst of the digital age, and, as always happens when a once-dominant brand nears its bitter end, investors are struggling with an all-too-common dilemma: Sell now and walk away, or buy it while it’s cheap?
The Death of Hollywood?
Theater circuit stocks have been obliterated this quarter in the face of a dismal summer movie season. AMC Entertainment Holdings (NYSE: AMC) and Regal Entertainment (NYSE: RGC) are down 43.1% and 24.4%, respectively, over the last three months.
Cinemark Holdings (NYSE: CNK) and Cineplex (OTC: CPXGF) aren’t far behind, at losses of 15.8% and 19.3% in the same time frame.
Much of this selling occurred last month as box office numbers for the summer season were effectively inked on paper. Jointly, the world’s largest theater chain, AMC, had announced cost-cutting efforts that spooked the market.
Reduced operating hours and staffing levels hardly paint a rosy picture for the theater business.
According to final numbers for the summer, reported by The Hollywood Reporter earlier this week, revenue for the season was down 14.7% year over year. That’s the worst summer showing since 2006 when adjusting for inflation.
The bullish side of the coin is the possibility that this summer’s blockbusters were simply not that good. One could point to the fact that Wonder Woman was the number one blockbuster of the season.
Not to knock what was easily DC’s best superhero film yet, but this lines up against an all-star list of past summer titles including the much-anticipated Finding Nemo sequel, Finding Dory (2016), Jurassic World (2015), Guardians of the Galaxy (2014), Iron Man 3 (2013), The Avengers (2012), the Harry Potter finale (2011), Toy Story 3 (2010), Transformers 2 (2009), and The Dark Knight (2008).
This summer’s movies, as a whole, were also more tired than usual. Despicable Me, Cars, and Planet of the Apes were all on their third installations. Pirates of the Caribbean was on its fifth, while revivals of Spider Man, The Mummy, and even Baywatch were underwhelming in general.
Coming into the second half of the year, the lineup of potential blockbusters does look like it could give the theater industry a healthy boost in near-term traffic. Justice League, Thor-Ragnarok, Blade Runner 2049, It, and Suburbicon are all promising titles for the fall. Not to mention Star Wars: The Last Jedi will hit at year-end.
The bearish side of the coin, though, is that the constant re-hashing of old titles and the lack of recent theater attendance is indicative of a broader trend in entertainment: the continuous shift to digital and home viewership.
Home theater systems are getting cheaper and improving in quality. Release-to-DVD windows have been cut nearly in half. Hollywood talent is spilling over to television. These are just a few of the reasons why investors would be wise to temper their long-term outlooks on traditional theater chains.
While box office sales may have climbed by ~$2.1 billion since 2002, the number of ticket sales have dropped from 1.6 billion to 1.3 billion. Jointly, the Major 6 movie studios have gone from 119 wide releases a year to just 75.
It should be obvious to investors by now that the theater industry isn’t suffering from just “one bad season,” even if this summer’s blockbuster lineup was a dud.
The Theater’s Death Knell
It’s hard to imagine that movie theaters will ever completely fall the way of the dinosaur. Going out to the movies is an American tradition. But so was walking the aisles of Blockbuster to find a rental not so long ago. The reality is that disruption can blindside even the most established companies.
Yet I don’t think it will be conventional digital streaming services like Netflix that deal the final blow to theater chains — at least not on their own. Netflix has been around for two decades now, and ticket sales have only declined to a limited extent.
Ultimately, theaters can provide a big-screen experience that users just won’t get in their homes today, but what happens if and when movies transition to a different format? What happens when theaters can no longer give customers the most immersive viewing experience available?
It might be difficult to fathom how this could ever happen, but if you’ve ever watched a 360-degree film, the answer is obvious: virtual reality will eventually destroy the theater business. Not even IMAX can hold a candle to it.
Moving film production to this format will undoubtedly take time, but investors can be confident it will happen sooner or later.
Disney, the world’s third-largest movie production company, has already led a $65 million investment in virtual reality startup Jaunt VR. The company has also partnered with Nokia so its filmmakers can use Nokia’s 360-degree OZO virtual reality camera. Sony has done the same.
Time Warner, the world’s largest movie production company, has contributed to a $30.5 million funding round for NextVR. Even Netflix has begun to offer a virtual reality theater experience, highlighting the major threat to brick-and-mortar theaters.
My stance right now is that theater stocks are positioned to rebound in the near term following the recent sell-off (the dividends are very enticing) but are poised to experience a significant decline over the long term, particularly as the proliferation of VR takes hold.
If you want to buy a theater stock on the dip, Regal Entertainment (NYSE: RGC) has the best fundamentals, but I wouldn’t plan on holding it for more than a few years. If you’re looking for something more long term in entertainment, I would start right here.