National CineMedia, Inc. — 2018 Q3 Form 10-Q Summary
Business context and reporting period
National CineMedia, Inc. is the holding company for National CineMedia, LLC, which operates a cinema advertising network through long-term exhibitor services agreements and network affiliate agreements. The filing covers the quarter and nine months ended September 27, 2018, compared with the periods ended September 28, 2017. Results are seasonal, with advertising demand generally higher in the second through fourth quarters.
As of September 27, 2018, NCM, Inc. owned 48.8% of NCM LLC; Regal owned 26.1% and Cinemark owned 25.1%. AMC completed the sale of its remaining NCM LLC units to Regal and Cinemark on July 5, 2018 and retained contractual rights under certain agreements but no NCM LLC ownership.
Financial performance and key metrics
| Metric | Q3 2018 | Q3 2017 | YTD 2018 | YTD 2017 |
|---|---|---|---|---|
| Revenue | $110.1 million | $116.4 million | $304.0 million | $285.4 million |
| Operating income | $42.3 million | $50.3 million | $93.5 million | $83.7 million |
| Operating margin | 38.4% | 43.2% | 30.8% | 29.3% |
| Net income attributable to NCM, Inc. | $11.2 million | $13.7 million | $13.5 million | $17.6 million |
| Diluted EPS | $0.14 | $0.21 | $0.16 | $0.28 |
| Adjusted OIBDA | $53.6 million | $62.6 million | $129.2 million | $122.5 million |
| Adjusted OIBDA margin | 48.7% | 53.8% | 42.5% | 42.9% |
| Theater attendance | 164.7 million | 150.6 million | 535.8 million | 492.1 million |
Third-quarter revenue declined 5.4%, while nine-month revenue increased 6.5%. Q3 national advertising revenue decreased 4.4% and local and regional revenue decreased 13.1%; founding-member beverage revenue increased 10.4%. Year-to-date national advertising revenue increased 10.0%, beverage revenue increased 5.7%, and local and regional revenue decreased 3.2%.
Q3 operating expenses increased 2.6% to $67.8 million, causing operating income to decline 15.9%. Higher advertising operating costs, theater access fees and depreciation were partly offset by lower selling and marketing costs. Q3 interest expense increased 9.9% to $14.4 million, and non-operating expenses increased 31.0% to $16.9 million. The nine-month effective tax rate increased to 55.3% from 5.4%, primarily due to deferred tax effects related to state tax law, tax apportionment and stock-based compensation.
Nine-month operating cash flow was $118.8 million, compared with $104.0 million in the prior-year period. Investing cash flow was negative $20.0 million, including $10.0 million of capital expenditures and net purchases of marketable securities. Financing cash flow was negative $101.7 million, including $41.2 million of dividends, $63.0 million of distributions to founding members, debt issuance costs and debt repayments. Cash and cash equivalents were $27.3 million at September 27, 2018, compared with $30.2 million at December 28, 2017.
Debt, liquidity and capital structure
- Total borrowings were $925.7 million before debt issuance costs, consisting of $400.0 million of 6.0% senior secured notes due 2022, $269.4 million of term loans, $14.0 million drawn on the revolver and $242.3 million of 5.75% senior unsecured notes due 2026.
- Carrying value of long-term debt was $914.8 million. Approximately 68% of borrowings had fixed interest rates; the remaining debt was variable-rate debt.
- Revolver availability was $156.2 million, net of $14.0 million outstanding and $4.8 million of letters of credit. Total liquidity, including cash, cash equivalents, marketable securities and revolver availability, was $222.9 million.
- NCM LLC's net senior secured leverage ratio was 2.9 times versus a 4.50-times covenant, and net total leverage was 4.0 times versus a 6.25-times covenant.
- The term loan and revolver mature in 2025 and 2023, respectively, contingent on refinancing the 2022 notes by October 30, 2021. Otherwise, both facilities mature December 30, 2021.
- The company stated that operating cash flow and available liquidity should fund working capital, debt service, capital expenditures and other requirements for the next twelve months. Cash and marketable securities held by NCM, Inc., excluding NCM LLC, totaled $62.3 million.
Material changes versus the prior comparable period
- Q3 revenue, operating income, net income attributable to NCM, Inc., diluted EPS and Adjusted OIBDA declined despite a 9.4% increase in theater attendance.
- Q3 advertising revenue per attendee fell 13.6%, reflecting lower national and local monetization per attendee. National advertising CPM increased 5.5%, but impressions sold declined 9.7% and inventory utilization decreased from 161.3% to 133.2%.
- For the first nine months, revenue and operating income increased, but net income attributable to NCM, Inc. declined 23.3% because of substantially higher income tax expense and lower noncontrolling-interest effects.
- NCM LLC refinanced its senior secured credit facility in June 2018, extending stated maturities and changing pricing. In September, it repurchased and canceled $7.7 million of the 2026 notes, producing a $0.3 million gain and expected interest savings of approximately $3.5 million through maturity.
- The company adopted new revenue recognition guidance, with a $0.2 million cumulative-effect adjustment, and changed the accounting for the tax receivable agreement payable from discounted to undiscounted amounts. Prior periods were recast. The change increased 2018 nine-month net income by $4.9 million and EPS by $0.06.
- Management identified an ongoing material weakness in internal control over financial reporting related to income-tax accounting and the tax receivable agreement. Disclosure controls were therefore deemed ineffective as of September 27, 2018, although management concluded the financial statements were fairly presented.
Outlook, commentary, risks and unusual items
The filing does not provide formal revenue or earnings guidance. Management expects future results to remain sensitive to advertising demand, CPMs, inventory utilization, upfront and scatter-market activity, theater attendance and seasonality.
- Competition from online, mobile, television and other video advertising platforms may pressure pricing and utilization.
- Reserved seating, online ticketing, longer trailers, increased lobby dwell time, shortened theatrical release windows and alternative movie-delivery methods could reduce pre-show viewership and advertising impressions.
- Make-good obligations arise when guaranteed impressions are not delivered; the make-good provision was $3.2 million at September 27, 2018.
- Minimum revenue guarantees to network affiliates could require future payments of up to $76.7 million over the remaining contract terms; $0.7 million was paid during the quarter and nine-month period.
- The tax receivable agreement payable totaled $211.3 million, including current and long-term amounts, and future payments depend on realized tax savings. The company recorded an $8.6 million loss related to correction of an immaterial tax-related error and a $16.3 million gain from a state tax-law change.
- Subsequent to quarter-end, CEO Andrew J. England resigned effective November 2, 2018. President Clifford E. Marks became interim CEO. On November 5, the company declared a $0.17-per-share dividend, approximately $13.1 million, payable November 30, 2018.
Important facts for investors to verify
- Whether the Q3 decline in revenue per attendee and inventory utilization represents a temporary advertising-market issue or a sustained monetization trend.
- The remediation and testing status of the material weakness in tax and tax receivable agreement controls.
- The company’s ability to refinance the 2022 notes by October 30, 2021 and preserve the extended maturities of the term loan and revolver.
- The sustainability of dividends given debt service, TRA payments, founding-member distributions, capital expenditures and possible cash-flow deficits.
- The magnitude and timing of future TRA payments and the effects of tax-law, tax-rate and state-apportionment changes.
- The financial impact of CEO turnover and the company’s ability to replace the chief executive while maintaining advertising growth and cost discipline.