IMAX Corporation
Q3 2018 Earnings Call Transcript

Published: 25 Oct 2018

[Operator:]

Good day, and welcome to the IMAX Corporation Third Quarter Earnings Conference Call. All participants are currently in a listen-only mode. Following the presentation, we will conduct a question-and-answer session . As a reminder, today's conference is being recorded. At this time, I'd like to turn the conference over to Head of Investor Relations, Mike Mougias. Please go ahead.

[Michael Mougias:]

Thanks, Brandon. Good morning, and thank for joining us on today's third quarter 2018 earnings conference call. Joining me today is our CEO, Rich Gelfond; our CFO, Patrick McClymont; and our Head of Entertainment, Greg Foster, who each have prepared remarks and will be available for Q&A. Today's conference call is being webcast in its entirety on our website. A replay of the webcast will be made available shortly after the call. In addition, the full text of our earnings press release and the slide presentation accompanying today's call have been posted in the Investor Relations section of our website. I'd like to remind you of the following information regarding forward-looking statements. Our comments and answers to your questions on this call as well as the accompanying slide deck may include statements that are forward-looking and that they pertain to future results or outcomes. Actual future results or occurrences may differ materially from these forward-looking statements. Please refer to our SEC filing for a more detailed discussion of some of the factors that could affect our future results and outcomes. During today's call, references may be made to certain non-GAAP financial measures as defined by Regulation G of the Securities and Exchange Commission. Discussion of management's use of these measures and the definition of these measures as well as reconciliations to adjusted net income, adjusted EPS and adjusted EBITDA as defined by our credit facility are contained in this morning's press release. With that, let me now turn the call over to Rich Gelfond.

[Richard L. Gelfond:]

Thanks, Mike, and good morning, everyone. The positive momentum in our business from the first half of the year continued into the third quarter. Operating margins expanded for the third consecutive quarter, growing 670 basis points, compared to last year. Our third quarter results benefited from strong box office and key markets such as China where IMAX box office grew 31% versus last year and our ongoing focus on containing costs and demonstrating operating leverage. Overall, we are pleased with the momentum we have seen in our business throughout 2018. Before we dive into the details of the quarter and some of our initiatives, I'd like to discuss a few important strategic themes for our business, particularly the state of the blockbuster industry, the important strategic differentiators that set IMAX apart as the industry transforms, and some of the key performance metrics that give us the confidence that IMAX is well positioned to capitalize on this transformation. It's no secret that rapidly change in consumer habits are causing media companies to take a hard look at their businesses and how they adapt. The industry is evolving to a point where traditional streaming companies are increasingly getting into the blockbuster business and traditional studios are beginning to develop some streaming offerings. As much uncertainty as this convergence brings to many businesses in the industry, we have worked hard to position IMAX squarely at the intersection of this convergence with the unique opportunity to influence and benefit it from it. Our global network spans more than 1,400 screens across nearly 80 countries. We have partnered with over 200 exhibitors around the world and work with every major studio globally. Our ability to launch blockbuster content in a highly differentiated way across a global network uniquely positions us in the ecosystem. Equally as important are our strong relationships with filmmakers and respect of the theatrical window would position us well to help new content stand out within the theatrical window as competition intensifies. The fact is it's a cluttered, fragmented marketplace, and consumers will continue to seek out differentiated premium experiences. Top filmmakers and talent are not content launching a new film exclusively in a streaming format. There is no premiere, no reviews, little social media reaction, and ultimately no event surrounding the film's launch. Streaming platforms are increasingly recognizing the value that launching an important film via a global theatrical release can add through marketing, media and enhance word of mouth. Importantly, theatrical releases help monetize content beyond the theatrical window in areas such as video games, theme park rides, toys, and other merchandise. Successful companies recognize that top-tier differentiated content deserves a premium and differentiated launch that only IMAX can deliver. With this in mind, we are in active discussions with key streaming services about creating strategic alliances, as they develop their own content strategies. At the end of the day, IMAX can motivate and excite people to go to theaters to experience compelling content. It's the incredible talent on screen, the big-name directors behind the camera, the IMAX cameras or algorithms, and the premium event inside blockbuster content that translates better than anything else on the bigger screens in the world. IMAX is a key way to experience differentiated content as the world converges on a premium film experience. I would like to now turn to highlight some key performance metrics and strategic initiatives that further illustrate how we're positioning the company to continue to capitalize on a shifting landscape. Through the first nine months of the year, IMAX's global box office is up 14% compared to last year. Compelling content coupled with our continued effort on containing costs and focus on our core business helped drive a 132% increase in adjusted EPS through the first nine months compared to last year. We also have recently benefited from subscription programs such as AMC's Stubs A-List. The program allows consumers to see up to three movies per week, including IMAX, for a fixed monthly fee of $20. AMC recently announced that they have over 400,000 subscribers. And given the customer's ability to see films at IMAX at no extra cost, the consumer and IMAX benefits are clear. From a network growth standpoint, we continue to make progress in strategic growth markets, signing and installing screens in such key regions as India and Japan. Overall, we believe the factors contributing to our recent performance will continue to benefit the company and our shareholders in 2019 and beyond. From film capture to our propriety DMR process to our best-in-class projection and sound technology, we strive to create the best experiences across every facet of the blockbuster content value chain. A recent example of how IMAX differentiates a film was evidenced by the recent launch of Universal's First Man. Key sequences were filmed with our cameras and could only be fully appreciated in IMAX. Importantly, consumers overwhelmingly agreed, given our 23% opening weekend indexing. We had additional success with IMAX DNA this year in titles including Avengers

[Greg Adam Foster:]

Thanks, Rich. Before I discuss our third quarter performance, I'd like to thank Rich, the IMAX team past and present, and our shareholders for their continued support over the years. I believe this is the right time for me to start a new adventure and pass the baton to a new leader of IMAX Entertainment. I know Megan for many years and believe she is a terrific choice to be the next head of IMAX Entertainment. Her unique experience and fresh perspective would be valuable to IMAX in our next chapter. Turning to our results. The third quarter certainly exceeded our box office expectations. Titles, including The Meg and Mission

[Patrick S. McClymont:]

Thanks, Greg, and good morning, everyone. I'd like to start today by providing some additional details about our recent network expansion activity and then cover our third quarter financial results and guidance for the remainder of the year. Overall, the message is clear. Strong performance in the third quarter continued the momentum demonstrated by our business throughout 2018. Beginning with Slide 3 of our earnings presentation, in the third quarter, we signed agreements for 25 new systems and 12 upgrades to IMAX with Laser. Our geographically diverse signings span markets such as China, Japan and France. From an installation standpoint, we installed 36 new systems last quarter, including 26 installed in China and theaters in key markets such as India and Western Europe. We also began rolling out our new IMAX with Laser experience. To date, through October, we have nine commercial laser theaters in operation in several notable locations such as AMC Burbank in Los Angeles and Empire, Times Square on 42nd Street in New York. Early feedback from exhibitors and movie goers is overwhelmingly positive. One specific region that I'd like to provide some additional color on is China. Late last year, we made the strategic decision to remaster more Chinese content. Our 550-plus theater network spans nearly 200 cities, which requires us to take a detailed granular approach to the types of content we program in certain cities. Two key changes we made include remastering more Chinese content during big holiday weekends where the top title isn't obvious, and second, programming more Chinese language content in smaller cities where consumers seem to prefer local content. We're encouraged by the resulting growth in Chinese box office from these changes. Through the first nine months, our box office increased 18% in China compared to last year. Moving along, I'd like to now review our financial results, which begin on Slide 4. We delivered total revenues of $82.1 million in the quarter compared to $98.8 million in the same period last year. Please note, our third quarter 2017 results reflect the Inhumans television series, which contributed $8.7 million of revenue in the quarter. Last year's results also reflect our installing four additional sales type systems compared to this year. Looking at our revenue segments in more detail, network business revenue, which was driven by our $206 million of global box office, came in at $36.7 million. Please note the strong performance of The Meg and Mission

[Operator:]

Thank you. The first question will come from Eric Handler with MKM Partners. Please go ahead with your question.

[Eric O. Handler:]

Thank you very much. I think one for Patrick here. You guys are doing a really good job of reducing your DMR expenses, and you mentioned several reasons why. So, as you look forward and based on what you know now, is that $37 million to $38 million a year, is that – can you expect that to stay flat in the next couple years? And then secondly, you kept your install guidance the same, but third quarter was a little bit light for the installs relative to your prior guidance. Was there just some shifts or was there some other reasons why installs came in a little different?

[Patrick S. McClymont:]

Sure. Thanks for the question, Eric. On the install guidance, it is just a shift. We've got a few that slid to the fourth quarter, and we've got a very busy fourth quarter but comfortable with the guidance there. On the DMR expenses, we're going through our budget process now, and of course, we'll give guidance for next year on our fourth quarter call. What I will say is, we continue a lot of efforts to try to figure out ways to streamline the DMR process. I think it's really interesting. If you look at how many films we processed this year – this quarter and on a year-to-date basis, we're up year-over-year, yet our costs are staying flat. So you can see that there's real efficiencies, and there's more to come. So I can't give you a specific thought now, but I do know that we're focused on this and we do think there are opportunities to continue to take those costs down.

[Eric O. Handler:]

Great. Great. And thanks. Just one quick one for Rich. Rich, in China, as you do more of these local films, how are you seeing reception among Chinese moviegoers, particularly in like the smaller markets to you DMR-ing these titles?

[Richard L. Gelfond:]

Well, it's early, Eric. So I hate to project trends. But overall, as you know, our box office was up over 30% in the quarter. And the fact that we did multiple films clearly helped our performance with the local language films. So I'm optimistic about it, but we just started.

[Eric O. Handler:]

Thank you very much.

[Operator:]

Thank you for the question. The next question will come from Chad Beynon with Macquarie. Please go ahead with your question. Chad Beynon - Macquarie Capital (USA), Inc. Hi, good morning. Thanks for taking my question, congrats on the quarter. I wanted to start with capital allocation here. You recently entered into a new credit facility and have a lot of flexibility to repurchase shares. Stock has been volatile. Patrick, maybe if you could just provide some color in terms of how you're thinking about this with all the other initiatives just given the volatility in the stock market? Thanks.

[Patrick S. McClymont:]

Sure. On capital allocation, it continues to be what we communicated, which is the first use for our capital is investing in our growing network where we see opportunities to produce attractive returns. We're going to end up adding something like 155 new theaters, 25 upgrades this year. So we continue to invest heavily in the network. So that's the first. The second is, when we've concluded that we have excess capital, then you see historically we returned that to shareholders. We have a $200 million authorization right now. We've spent about $50 million against that. And when we see opportunities in the marketplace, we step in. So it's pretty straightforward and consistent with what we've communicated. Chad Beynon - Macquarie Capital (USA), Inc. Okay. Great. Thanks. And then, back on China, we've read that there's been some new restrictions in the home market with Chinese TV content going less towards foreign directors and writers and actors. And that's more in the primetime. Could this actually be a positive for movie theater attendance in the market, whereby if consumers want to experience what you're showing and what Hollywood can bring to the country, they may actually have to go to the movie instead of watching it in their home? Any color on that? Thanks.

[Richard L. Gelfond:]

Yeah, the good news is we haven't seen any similar restrictions in the movie business, but whether TV business has an effect on the movie business is very complicated. Obviously, there are so many factors. I wouldn't draw a direct correlation there. But as you know, as I said a minute ago, our box office was up very robust in the last quarter. And I don't know why, but I wouldn't identify that as one of the factors. Chad Beynon - Macquarie Capital (USA), Inc. Okay. Thank you very much.

[Operator:]

Thank you for your question. The next question will come from Alexia Quadrani with JPMorgan. Please go ahead with your question.

[Alexia S. Quadrani:]

Hi, thank you. Just a couple of questions. The first one just on your commentary about shipping the IMAX cameras to China, I guess any timeline when you think that may translate into sort of a benefit that we can see. And then maybe any commentary about the local films and how we should think about China in the coming quarter? And then my follow-up question is just on the marketing initiative. I think, Rich, your commentary was well received. I guess, any thoughts about how much you will continue it and sort of what sort of benefits driving.

[Greg Adam Foster:]

Hi, this is Greg. So, first of all, on the cameras, I think you're going to start to see it sooner rather than later. It really depends on the release dates, which we're not the driver of. That's more from the distributor. But there are two movies that we know of so far that are using IMAX cameras. One is a movie called 800 that Ye (29

[Richard L. Gelfond:]

In terms of the marketing plans, Alexia, they have two goals behind them. One is a general goal of increasing awareness of the brand over the long-term. So when people wake up in the morning, rather than saying, oh, Avengers is in IMAX, let's see it in IMAX, they say what's an IMAX that day, and then they seek that out. And that's a long-term goal. And the short run is to influence box office, butts in seats. And we're extremely data-driven. As you know, we were recently involved in First Man with extra marketing in a fairly big way, encouraged by Universal and integrated by Universal. While the results of the film generally were disappointing box office, as you know, we did over 20% indexing was an extreme positive. And we work with some of the ticketing agencies and some data services, and we'll have a very strong handle on actually how much our marketing move the needle in terms of driving people to IMAX. Our next kind of big film that we're going to focus on from a branding point of view is Aquaman, which actually opens early in China and then opens in the U.S. near Christmas. And again, we're going to use the iconic blue frame, which we developed, and that will be the third different studio, which has agreed to let us do that. So just to put it in context, a year ago, our marketing with the studios said "and IMAX" in the tiny letters in the bottom of the poster. Now our marketing is integrated into the film with the IMAX frame and brand around it. So the early results have been positive. We're analyzing the data. And I think it's starting to work, but it'll have a more material effect going forward.

[Alexia S. Quadrani:]

Okay. Thank you very much.

[Operator:]

Thank you for your question. The next question will come from Steven Frankel with Dougherty. Please go ahead with your question.

[Steven Frankel:]

Hey, good morning. I wonder if we could revisit the DMR COGS subject for a minute. You have done a great job controlling those costs. But I do remember over the last couple of years, one of the pressure points had been the studios pushing you to put more marketing dollars to work. Is that still going on and your cost savings are enabling you to reduce overall COGS or has that pressure eased somewhat?

[Patrick S. McClymont:]

I don't think there's any change in that. We have display deals in place with all the studios and most recently with Universal. So that gives a clarity not just on displays but what our economic terms are. And I don't think it's changed meaningfully in the last year. So our efforts are really focused on making sure that we're controlling our cost and we're planning efficiencies in the system. And that's what you're seeing now. It's not really a change in the marketing side of things.

[Steven Frankel:]

Great. And can you give us any data points around the A-List and how that may have impacted your business this quarter? I think it's early.

[Richard L. Gelfond:]

I mean – yeah, it's still small and early. So AMC has announced 400,000 subscribers. We have not seen the data, but we've discussed it with AMC. And my impression is that it's a much higher percentage of A-List people go to IMAX movies than the regular AMC network to the magnitude of three times or something like that. So the early indications are extremely positive, but the dollars are small. And also from talking with AMC, I think there's still our momentum behind that program. We're in the early stages of it. Obviously, MoviePass's financial difficulties have made the AMC proposition even more attractive for people interested in that kind of product. So I think it's going to have a very positive effect over the long run, and it started to have one, but the dollars aren't meaningful yet.

[Steven Frankel:]

Great. And then you mentioned Japan. Could you just give us an update on how many theaters are open there today and what the backlog looks like?

[Richard L. Gelfond:]

Off-hand, I don't really have the information. I think it's around 25. Mike is checking it. About 25 open. And I think there is 20-ish or something like that in backlog. I'm pretty sure I'm in the ballpark.

[Steven Frankel:]

Okay, great. Thank you.

[Operator:]

Thank you for your question. The next question will come from Eric Wold with B. Riley Incorporated.

[Eric Wold:]

Thanks, guys. Good morning. Thank you. So I guess kind of looking at the PSAs, looking at China, I guess obviously your PSAs may not be always the best metric to gauge strength in a market given everything that kind of goes into it. But it was good to see PSAs in China up for the first time in three years. I guess knowing you guys are looking to do an increased use of hybrids and sales type leases in those markets where you pull out your capital, and so box office theoretically matters less for those locations than a full-fledged JV. Is there any way you can kind of give us some sense of how the relative performance of the three install models in China or maybe even how same-store sales performing to where – for kind of how it matters?

[Richard L. Gelfond:]

Eric, again, reiterating what you said, as we segue away from the JVs, the PSAs are less relevant. And in fact, as we've said before, we're looking at return on investment. And virtually all of our network is profitable on a theater-by-theater basis, on an ROI basis. I would say the mix is going well for us. When we talk about deals in progress, which we do monthly, we're skewing much more towards sales-type leases or towards hybrids. And that's being very well received. As you noted, PSAs were up. We started to look at same-store sales. And that's been in a positive direction, up a little bit in China this year. So we can't break it down in the buckets you want, or maybe afterwards Patrick can try and give you some more color unless you have it now. But generally, things are tracking positively.

[Patrick S. McClymont:]

Yeah. We don't disclose same-store sales basis, but it's positive for this year. And importantly, when you look at the China market overall, the – our business is growing at a similar rate to the overall business and our network is growing there obviously and the overall market is growing in terms of screens. And so we feel like we're in a position now where for our films, we're achieving the right market shares, we're headed in the right direction, and the business did stabilize quite a bit the first nine months of this year.

[Richard L. Gelfond:]

Yeah. Just to clarify one of my last answers. There are 32 theaters open in Japan today and nine in backlog.

[Eric Wold:]

And real quick, Patrick, clarify a statement you said. When you said same-store sales are positive for this year, were you talking about China specifically or globally or both?

[Patrick S. McClymont:]

I was answering your question on China.

[Eric Wold:]

Okay. And then on China, I know it may be a little wonky because Dolby's got a September fiscal year versus your December, but they kind of saw the same thing, where a number of expected theater installs in China were delayed. In the quarter, they came in below expectations kind of like you experienced. Is that – do you think it's kind of a one-quarter push-out due to some factor or you think it's something that can continue into next year, or kind of maybe what was behind some of the delays there?

[Richard L. Gelfond:]

Yeah. We don't have delays, Eric, to be clear. There were two installs that slipped from the third quarter to the fourth quarter, but we're right on budget for the year with China. Dolby has a very different issue, they don't have brand awareness in China. We have 600-plus theaters in China plus a backlog in China. They have 26 open in China. Our PSAs are practically double. They announced a deal with Wanda for 100 theaters that they are supposed to roll out in three years or four years. And they have 20 something of them rolled out. So basically Dolby has not worked as a business proposition in China. That's their problem. We don't have a problem. We have a huge network and our installs are on time.

[Eric Wold:]

Thanks, Rich. And then last two questions for Patrick. Just numbers – I guess numbers questions. One, what was the total number of films in Q3 that counted towards DMR costs? And then I know you're not giving 2019 guidance at this time, but assuming everything is kind of progressing as you planned on the new business that's now going to be $4 million to $5 million headwind this year, what would be kind of the max headwind you expect to see in 2019?

[Patrick S. McClymont:]

So the second question, we'll answer that on the fourth quarter call when we give guidance. Yeah, I think we've been very clear throughout this year that we're not looking for new business projects. We're keenly focused on the core business. And that will be the approach for next year as well. But in terms of a specific number, you're going to have to wait until we get to the fourth quarter call. And then in terms of the number of films, it was 23 in the quarter.

[Eric Wold:]

Perfect. Thanks, guys.

[Operator:]

Thank you for your question. The next question will come from Vasily Karasyov with Cannonball Research. Please go ahead.

[Vasily Karasyov:]

Thank you. I have one for Patrick, one for Greg. Patrick, can you comment please on the EBITDA to free cash flow conversion? I think through the first three quarters of this year, you had around 36%. Is that approximately what you see the business doing going forward, or are there some puts and takes that would change that going forward? And I'll have one for Greg later.

[Patrick S. McClymont:]

Yeah. I think this nine months is probably getting closer to a proxy of what the free cash flow conversion will be for the core business because we have meaningfully scaled back on the new business activities. There's still some spending. So I think it's a decent proxy, and we've got operating leverage in the network. And so, as we continue to focus on that, that flows through, you'll see even more free cash flow conversion.

[Vasily Karasyov:]

All right. Thank you. And then I have a question about the genres and people's taste shifting. Do you guys see anything that would alarm you in terms of films that should be performing better and where you should be over-indexing like First Man or Solo and stuff like that? And then films like A Star Is Born doing better than expected where you would – one would think that's not a typical IMAX title. Is there anything you see that you're closely watching and concerned about in that regard? Thank you.

[Greg Adam Foster:]

So I think the punch line for that question is, should we be open to a wider variety of content? And the answer is yes. I think we can't limit what is an IMAX movie and what isn't. We're in the blockbuster business. There are certainly some movies that on paper and conceptually feel more aligned with the IMAX – the DNA, if you will. But those movies don't perform. It's a moot point. It doesn't really matter. So a movie that's supposed to be like an IMAX movie and is unsuccessful doesn't help us. So we're definitely going to be – continue to focus on, what we'd call, Fanboy type of titles. But we're also going to be much more open-minded, not only here but in China, what has to be the consumer taste. And consumer tastes are evolving and IMAX will need to evolve accordingly.

[Vasily Karasyov:]

Okay. Thank you very much.

[Operator:]

Thank you for the question. The next question will come from Jim Goss with Barrington Research. Please go ahead with your question.

[James Charles Goss:]

Good morning. Rich, I'm curious for a little more commentary on the streaming convergence thought. I'm wondering if you – if a streaming company wanted to target a blockbuster-type movie and involve you, if you're risking the pushback from exhibitor partners if you decided to launch a day and date the streamed version that would then later play at other channels.

[Richard L. Gelfond:]

So, Jim, the answer is quite simple. We wouldn't consider a day and date that would bypass the theatrical windows. So our discussions that we're having with the streaming services, and we've said before we're talking to all of them mostly by answering our phones, we would not consider violating the theatrical windows. So that's not an issue for us.

[James Charles Goss:]

Okay. Perfect. And Greg, I'm wondering in terms of the discussion we've had over the years about hedging against a wrong bet, I'm wondering what has pleased you so far in terms of progress such as screen splitting and limiting number of weeks per title, and what still needs to be done. And you might have touched on it a little bit with being open to a wider variety of content. But what – where does it go from here in your view?

[Greg Adam Foster:]

So I think screen-sharing is something that's going to become much more of a reality. When you look, for instance, in August and you see what happened with The Meg and Mission

[James Charles Goss:]

And you've seen greater receptivity on the part of the studios for your channeling those decisions?

[Greg Adam Foster:]

Certainly not with every movie. We're not going to do that with a Marvel kind of title. It wouldn't make sense to do it. But when it's the right reasonable decision, yes, we are.

[James Charles Goss:]

Okay. Great. Thank you very much.

[Operator:]

Thank you. That concludes the Q&A. I'll turn the call back over to Rich Gelfond for closing remarks.

[Richard L. Gelfond:]

Thank you, operator. So I'd like to use the occasion to look back a year where we were a year ago versus where we are today. So a year ago, our stock price was virtually identical to where it is today. Today, we increased EPS by 132% for the first nine months over where we were first nine months a year ago. We've continued our cost reduction initiative and demonstrated significant operating leverage with a great jump in margins. Our box office is extremely strong, considerably stronger than our budget. China has stabilized and in some ways turned, whereas – I mentioned same-store sales were up in China. PVOD is no longer an overhang on the industry as opposed to a year ago. And we have over 200 signings for the year, which is more than we had last year, including our upgrades. We have growth markets in Japan and India where each market has over 40 theaters, including the backlog, and a long, long runway to go. So we think from our point of view, we've really delivered on what we said we're going to do over the last year and continue to do that. And we thank you for your continued support.

[Operator:]

Thank you, ladies and gentlemen. This concludes today's event. You may now disconnect your lines.