In Reel Time

2010.37 Imax to partner with Laser Light Engines

IMAX, which specializes in immersive motion picture technologies, recently signed a deal with Laser Light Engines for development of high brightness technology systems exclusively for IMAX digital theatre systems.

Under the terms of the agreement, IMAX will make an equity investment (of undisclosed amount) in Laser Light Engines; who in turn will develop a custom version of its laser light technology for exclusive use in IMAX digital projection systems. Laser Light Engines will also develop custom features to help enhance the IMAX experience. Additionally, LLE’s technology won’t be available to the general market for two years, and to other large format theatre systems for three years.
Laser Light Engines designs, develops and manufactures OEM laser-driven light engines that provide high brightness, long lifetimes, energy efficiency and color control capabilities.
One particular challenge of theatrical 3D is that the viewer’s 3D glasses filter out a significant percentage of the available luminescence as they “trick” the mind’s eye into seeing a 3D image. That means that a brightness that is adequate for 2D viewing is insufficient for 3D exhibition, and many viewers consider 3D movies to be too “dark.” This challenge is the backdrop for IMAX’s interest in LLE.

IMAX screens typically go from floor to ceiling, and extend to the edge of viewers’ peripheral vision, which creates an immersive experience. Their sound system is of exceptionally high quality. The company’s 3D theatres even further increase the viewers’ feeling of immersion. Most IMAX theatres feature a steeply inclined floor which allows each audience member a clear view of the screen.

The deal is subject to due diligence.

IMAX has had a busy year thus far in 2010 – quickly signing up deals to open new theatres around the globe. Most recently, on July 15 they announced an agreement with Lumiere Pavilions, one of the fastest growing private movie exhibition chains in China, to open three new theatres, one a year starting in 2010. This deal brings the total number of IMAX theatres scheduled for operating in China by 2012 to 57. The total number of IMAX signings announced this year is 95, as compared to 35 systems during 2009. And the mix of openings signed spanned the globe with sites to include Japan, the Philippines, Thailand, Singapore, Russia, the Ukraine, Croatia, France, the Netherlands and the UK. They have also expanded an earlier agreement with AMC by adding 15 to 25 more theaters to the original 104 agreed upon.

Inception, which opened on a record 197 IMAX screens over the past weekend, was also the top grossing picture, taking in $60.4 million.

The company will announce earnings on July 29.

2010.35 Different M&A bidder types; as demonstrated in recent content library-related announcements: Miramax, Lions Gate, MGM, EMI and the Weinstein Company.

A slew of recent media-related deals and announcements has me wondering. Blogs have reported that Colony Capital is teaming up with Ronald Tutor to buy Miramax. While Colony is known as a real estate private equity fund, it started out buying distressed assets during the S&L crash. Richard Nanula, a Colony partner, was Disney’s CFO years ago so he probably grasps studio economics as well as anyone. Also as covered here before, Carl Icahn – known as a corporate raider – is making a run at Lions Gate. Lions Gate is reported to be in talks with MGM about a possible merger. MGM’s debt holders, in turn, reportedly rejected a $1.5 billion bid from Time Warner. EMI’s owner, private equity firm Terra Firma, invested an additional £105 million into EMI to avoid a default on the music company’s debt; if the bankers hadn’t gotten paid they could have taken over EMI. The Weinstein Company recently negotiated a restructuring agreement in which its lenders are relieving it of $450 million in debt and providing new cash in exchange for a $115 million payment from Ambac and the rights to 200 Weinstein movies, including the $233 million in related accounts receivable (Once Goldman and Assured Guaranty recoup their money the film titles will revert to Weinstein).

What do all of these (possible) transactions have in common? All of the related companies have content libraries; their valuations are functions of both legacy assets and in some cases efforts to create new content. Lenders are also having an impact on deal negotiations. Lions Gate and Weinstein’s lenders have been working with them to give them time to address their business issues, while EMI’s lenders (led by Citigroup) have been more aggressive in their willingness to potentially take over the company. In all cases, investors and debt holders are assigning value to libraries of content (music in the case of EMI, film content otherwise).

What they also have in common is that a wide range of buyers is demonstrating interest in these content library-based businesses (potentially including existing debt holders).

So, the using these transactions to illustrate the types of buyers common in M&A transactions and depending on circumstances:

Strategic buyers: Strategic buyers are essentially other corporations, most typically in the same or a related business. MGM and Lions Gate – should one buy the other – are examples.

Financial buyers: most typically private equity firms. They buy businesses that have enough stable cash flow to support the addition of debt (added to leverage their investment and, hopefully, their return). Their goal is to run the company better than the prior management team and sell a few years down the road at a profit.

Distressed investor: comes in when they think an asset is (generally grossly) underpriced. Defaults on debt, market turmoil (and an overreaction with respect to valuations which plunge as the panicked or illiquid dump related assets), bankruptcies and predictions of gloom are all signals. Colony Capital made its name buying distress bank and commercial real estate holdings.

Corporate raider: targets a company whose publically traded equity he believes is undervalued. The raider then pressures management to make certain changes in an effort to raise the share price. Carl Icahn made his name as a corporate raider. The goal is typically to turn a quick profit.

White knight: What Lions Gate is likely looking for. A white knight is a bidder who comes in and usurps a corporate raider – typically by working with management to come up with a higher or more favorable bid. Example? None thus far in any of the transactions discussed herein.

In the above related transactions existing debt holders are also sometimes expressing interest in taking over the company – either to liquidate the assets of the business or assume operations.

An investment banker can and will tailor potential buyer lists in advance of any solicitation to maximize long term benefits from any transaction to shareholders, employees, management teams and even the company’s customers.

2010.33 Carl Icahn now owns close to 38% of Lions Gate shares; Mark Cuban did tender his shares

Carl Icahn now owns almost 38% of Lions Gate’s stock. His offer to buy shares from Lions Gate shareholders ended last Wednesday (June 30). Mark Cuban did tender his shares to Icahn. Thursday he purchased 4.64 million more shares on the open market. With other recent purchases he now owns 44.8 million shares, or almost 38%. Due to Canadian law he can’t buy more shares in the open market (Lions Gate is legally a Canadian company). Icahn has declared that he will wage a proxy fight for control.

Later Thursday Lions Gate management adopted a shareholders rights plan triggered at 38% ownership. In it is a provision which allows shareholders excluding a bidder (for the company) to buy shares at a discount. Previously, trying to fend off Icahn, management had raised the “change of control trigger threshold” from in excess of 20% of shares to in excess of 50%. Last April they attempted to put in place a different poison pill but it was voided by the British Columbia Securities Commission. Icahn has already accumulated enough equity to veto mergers and acquisitions, and he has also tripped a provision which grants $16 million in severance to management should they decide to leave the company (they have assured the board that they will stay and fight Icahn).

Management is using classic hostile takeover defense strategies in an effort to slow Icahn down (looking for alternative transactions or ways of building shareholder value). Recent operating results were also strong which helps support their contention that Icahn’s bid is too low. For example, they have discussed a possible merger with MGM and clearly continue listening to counsel with respect to allowable corporate actions. Hostile takeover law is quite sophisticated and management teams must be careful in their attempts to thwart a potential acquirer, or, if the acquirer can’t be thwarted what steps they must take to maximize shareholder value.

The recent operating results? Lions Gate recently reported adjusted earnings for the fiscal year ended March 31, 2010 of $128 million. Film library revenues were up 15% to $323 million, with television revenues rising 60% to $351 million.

Icahn has taken his battle not only to the shareholders but also to the press. Will he start spending more time in the courts as well? Hostile takeover attempts very often involve costly litigation; under Delaware law it is often the only way for a potential acquirer to scuttle anti-takeover provisions. Icahn must act under Canadian law. Indeed, he has already gotten a Receipt of Approval under The Investment Canada Act, in which he made several commitments to government entities regarding how he would run certain Lions Gate businesses should he gain control.

Icahn wants management to clean up the company’s balance sheet, stop producing independent films and just distribute them, stop trying to acquire other film libraries and cut “absurd” overhead costs. Clearly, some shareholders still aren’t siding with him in this battle. The final tally? We’ll find out.

Note for Tuesday, July 5, Lions Gate shares dropped below $7.00 last Friday and remain there today.

2010.31 When to declare bankruptcy or call a turnaround expert; thoughts after the Turnaround Management Association’s 8th Annual Night of Excellence

Last Thursday I attended the Turnaround Management Association’s 8th Annual Night of Excellence – a charity event benefitting the City of Hope. It was held at The Petersen Automotive Museum and included dinner and a wine tasting. One wine was named “Ponzi” which in this crowd means you just drink it while hearing about their recent Ponzi scheme related assignments.

I was talking to George Blanco from Avant Advisory Group, who headed the event and he said something interesting: that many restructurings or bankruptcies were transactions that didn’t happen. My mind automatically recalled a few CEOs I’d worked with that had turned down capital because they thought the deal valuations was too low and then proceeded to go bankrupt.

When I mentioned this topic idea to David he said, “Why not. We advise business owners cradle to grave, right?” So in that spirit, when to call a turnaround or bankruptcy expert:
1. Management has exhausted all other forms of capital and the company is not cash flow positive.
2. Your top line business continues to decline with little hope for an upswing.
3. Burdensome contracts or leases can’t be re-negotiated any other way (and are too expensive to afford as is).
4. Management lacks the specific expertise or skill set to turn the company around or has already tried and failed.
5. Creditors are threatening aggressive actions.
6. Industry wide challenges are creating disruptive results for all market participants and a speedy, well crafted response is required.
7. And, at the extreme, there is little value left in the business and you need experts skilled at liquidating or winding down.

And the transaction that didn’t happen? History does repeat in that funding is not always available or at least not available on reasonable terms. Raise money before you’re running out (if you are going to or just might need it); sell the company before business deteriorates to the point at which little value is left. Turnaround and bankruptcy experts have very specialized skills, relationships and knowledge that are valuable when a company or industry hits a rough patch.

Bottom line: business is a series of tough judgment calls. When to run a struggling or over leveraged business in the ordinary course, versus when to pursue a restructuring, is one of the toughest judgment calls there is. You will be disappointing equity holders and dashing expectations to push the restructuring button – but it may be the necessary step to maximize the value of the business for creditors, business partners, employees and maybe even existing shareholders. And get specialized help if you need it.

2010: 30 Lions Gate and MGM to merge? Or, strategies for avoiding a corporate raider

Why this follow up post took so long:

Updates to my last related blog post on Lions Gate:

1. Carl Icahn now owns 31.8% of Lions Gate’s shares. He has an open offer outstanding to buy shares at $7.00 until June 30. Given that the stock closed today at $7.26 he is unlikely to pick up any more shares that haven’t already been tendered. After June 30 he can buy shares in the open market.

2. Icahn has stated that he will wage a proxy fight after June 30.

3. When Icahn’s ownership position rose above 20% Lions Gate’s loan provisions were triggered (terms under which its banks could have called due related debt). The banks raised the change of control threshold to 50% after talks with management.

4. Lions Gate is now rumored to be in merger talks with MGM. At a 31% ownership stake Icahn can likely scuttle any such plan. Given the public information about both companies it’s hard to believe that a Lions Gate/MGM transaction is possible at this time (Icahn’s ownership percentage; MGM’s debt). But never say never…a well funded partner could bid the price up so high that Icahn would be better off taking a profit and tendering his own Lions Gate shares.

5. While Icahn hasn’t won yet his ownership stake causes real problems for Lions Gate management. What no one but Icahn knows for sure is his ultimate goal. Obviously he wants to make a profit. Does he want to actually own Lions Gate? We’ll find out.

6. As far as avoiding a corporate raider – keep watching Lions Gate. They’re clearly listening to strategic advisors and deciding to fight and not fold. Declaring that the price isn’t high enough is a permissible way of saying no and the stock price jumping above the tender offer price makes the argument very defensible. But the jump also indicates that certain traders are expecting Icahn to bid (or buy in the open market) higher. Selling the company or merging with another is another (effective) strategy.

7. I’ll continue posting updates. Thoughts or comments?

One more photo. Where was I?

2010.27 Mark Cuban declares that he’ll tender his Lionsgate shares to Carl Icahn; or, the perils of activist investors

For anyone following Carl Icahn’s attempt to acquire control of Lionsgate, Cuban’s announcement increases the pressure on Lionsgate management. Indeed, today management mailed a letter to shareholders touting the company’s achievements and urging investors not to tender their shares to Icahn. The letter points out that throughout the course of 2010 their business results have been on an upswing. They declare Icahn’s $7.00 share offer inadequate.

In April, when Cuban bought his shares, his intent seemed unclear. Cuban has a history with Icahn and as an investor in media-related industries. In 1998 Icahn nominated Cuban for a Yahoo board seat. In 2008, Cuban was on the investor’s proxy slate to seize control of Yahoo’s board. However, Cuban also sold Broadcast.com to Yahoo; and owns movie theater chain Landmark Theatres and film distributor Magnolia Pictures. His long involvement and interest in these industries is well established aside from any relationship he has with Icahn.

Icahn’s offer? Until Wednesday June 16, Lionsgate shareholders can tender their shares to him at $7.00 per share, up from Icahn’s previous offer of $6.00 per share (closing price today was $6.97). For a ten-day period after that he’ll keep the offer open. His current stake is almost 19%; Cuban owns 5.3% rising to just over 7% should 2,000,000 other shares be put to him; about 4% of outstanding shares have already been tendered to Icahn. Once Icahn owns 20%, a default under the terms of Lionsgate’s $340 million revolving credit facility with JPMorgan Chase will be triggered. The bank can provide a waiver; Icahn has offered to provide a bridge loan.

If Icahn’s holdings exceed 33% the top five Lionsgate executives will get a $16 million (change of control) payout. Icahn will also be able to veto any major acquisition. Icahn has said he’ll wage a proxy battle to take over the company’s board.

Separately, MHR Fund Management LLC holds 19.75% of the company’s stock and has joined with other shareholders (who collectively, including MHR, hold 34% of the stock) to support Lionsgate management against Icahn. Interestingly, MHR president and co-founder Mark Rachesky used to work for Icahn. The two claim to still be friendly though they obviously don’t agree with respect to Lionsgate.

Icahn needs the votes of 50% of the shares to win his upcoming proxy battle. That doesn’t mean he needs to own 50% of the company, but he needs to convince other shareholders that he has a better plan to maximize value. He has said he’ll replace management.

What does this all mean? First, activist investors can cause problems; this reality can be potentially worse in the public company context but we’ve also dealt with minority shareholders who can scuttle a transaction involving a private company. Indeed, sometimes just dragging your feet with respect to approving a fundraising or M&A deal is enough to kill it. Second, how your corporate and other documents are drafted matters. Watching the Icahn/Lionsgate saga unfold we can all note how Icahn targets his actions to Lionsgate’s corporate documents and debt terms. He was willing to turn to the courts to invalidate their poison pill. Watch the terms you adopt very carefully and – if you’re public – hire an investment bank and lawyer to evaluate your poison pill or other takeover defense options (before you need to). Three, investment banking can be full of drama and even exciting. But hostile takeovers remain the deal exception and not the rule – though they are much written about. Hostile takeovers are generally limited to those public companies that are large enough to justify the related legal and banking costs. But even for a private company, fights among shareholders can be costly and distracting to management (so plan such issues as succession ahead of time). Fourth, relationships matter. Many of the parties involved in this fight have long histories together. Their related insights help shape actions and responses.

It also means Cuban is no dummy. He bought his shares for prices between $5.95 and $6.27 per share in March and April, so he is making a decent trading profit by tending to Icahn.

Should Icahn win his battle for Lionsgate or should management continue to try and execute their business plan?

I commend Lionsgate management for showing strong financial results despite a very public and distracting takeover battle. I’ll post an update later as events continue to unfold.

To learn more about Hadley Partners go to www.hadleypartners.com. Email me at jones@hadleypartners.com should you have any comments (or comment below).

2010.26 California elections June 2010: top ten things elections have in common with investment banking

Heading into our state elections tomorrow are a few thoughts on the truisms that cross politics and business (the advice we give our clients).

1. Study the numbers (especially projected numbers) because they may be based more on “best case” scenarios or hubris than reality

2. Management matters: competence, common sense, integrity, work ethic, leadership, empowerment and intelligence

3. You can write any business plan, management presentation or speech you want; results are quantifiable by, well, demonstrated results

4. You can’t spend money you don’t have

5. Marketing does matter; he with more funds may not win but he does have an edge

6. Negative campaign slurs by your opponent do hurt; protect and defend your reputation

7. You can fool some of the people some of the time but eventually the truth comes out

8. Confusing the issue leads to less predictable results

9. Being good at one job doesn’t ensure success in a different role. But adaptability across a broader career is an indicator that you’ve made such shifts before. Some people have demonstrated results in a variety of situations

10. Clarity of message is key; know and articulate your story. Keep it simple so voters (funders, employees and customers) understand it. Too many talking points clutter the message

Please vote.

2010.24 Going public via a reverse merger; one investment banker’s perspective

A reverse merger into a shell company (a back door IPO) is essentially the acquisition of a non-operating public company by a private company, with the public company surviving. The shareholders of the private company gain control of the public company by merging their company into the public shell and receiving shares in the public shell as their merger consideration. The public company is called a “shell” because there is nothing inside – it’s typically not an operating company at the time of the transaction. The private company shareholders obtain the majority of the shares and board control; the private company’s name is usually adopted.

The process is often marketed as taking only a few weeks (much quicker than a traditional IPO) and avoiding a related lengthy and expensive SEC review – should the shell already be registered with the SEC.

Armand Hammer is generally credited with inventing the reverse merger in the 1950s when he invested in a shell company then merged Occidental Petroleum into it. In 1970 Ted Turner completed a reverse merger with Rice Broadcasting, later named Turner Broadcasting. In our just issued In Reel Time newsletter we discuss Image Metrics’ recent reverse merger transaction and related fundraising – and point out that the company is growing at an impressive rate.

I don’t generally like this form of transaction. Doing an Internet search before writing this post I read a lot of positive articles and I’m skeptical of the authors’ objectivity. Are those web sites listing “liquidity” as a benefit because they are touting reverse mergers? Going to Googlefinance.com I was able to find numerous such companies with an average trading volume of zero shares – hardly liquidity.

To be fair, a reverse merger can be a cheaper and faster way to go public. You can often bundle it with a fund raising, lock up shareholders (so they don’t dump shares into the liquidity you might get) and cash out minority investors who need to sell. Theoretically, you can use the “public” shares as acquisition currency after you complete the transaction. And, if the business performs well you will have a higher price, liquidity and perhaps even an institutional following. In the late 1990’s I worked with Richard Rosenblatt and his company iMall, which he was later able to sell for almost $600 million to Excite@Home. The reverse merger structure worked for him, early on and when iMall was suffering growing pains. But Richard, co-founder of Demand Media and seller of over $1.3 billion in Internet company value, is not your average CEO.

What I’ve seen more often is an increased burden for management from the demands of being public. Below a certain market cap institutions can’t or won’t buy company shares so investment banks aren’t motivated to make a market or initiate research coverage. As a result, shares trade thinly. Financing is tough – the participants in such transactions tend to litter their deals with warrants and dilutive and contingent terms (should the company not meet certain performance criteria). Since the initial “shell” company often failed, a stigma can linger. Unlike with an IPO no large chunk of raised funds necessarily accompanies this route to becoming public (which can justify the increased scrutiny, cost and burden of being public).

Is it the structure that I don’t like or the reality that many companies who use it have few alternatives? Both. I’m a huge believer in taking money when you can…until doing so becomes too cumbersome, dilutive or difficult (for example, high debt burdens that are impossible to meet). But alternative methods are alternative for a reason; they’re often marketed with much hype but don’t deliver as promised. In the right situation (see my examples above) a sophisticated and well counseled management team can benefit from such a transaction. As a lawyer by training – though not current practice – I would counsel that the shareholders’ goals need to be clearly defined and match the transaction structure chosen. A transaction structure should be valued based on whether or not it is used correctly; structure alone is inherently neutral.

Most of all, I have reservations about the promises made to those looking for a solution to the difficult realities of raising money. This structure rarely solves a company’s short term capital needs. Being public – in and of itself – does not ease fundraising woes UNLESS your company performs at an exceptional level. But then, public or not, you’ll be able to raise money.

Please feel free to follow up with me personally for insights more tailored to your own company’s status at jones@hadleypartners.com.

2010.23 Wall Street Two trailer

In the spirit of my review of Michael Lewis’s newest book I decided to add a preview of Wall Street Two, Oliver Stone’s return of Gordon Gekko.

These two content creators seem to have a nose for Wall Street downturns (and the resulting, and even sometimes deserved, criticisms).

2010.19. Michael Lewis and The Big Short

Michael Lewis has great timing and a strong nose for Wall Street scandals. The Big Short: Inside the Doomsday Machine (Amazon.com Michael Lewis The Big Short) describes the investors, including the now-famous John Paulson, who shorted CDOs and made a fortune when the market crashed.

I finished it a week before the Goldman/SEC complaint – SEC Goldman complaint 2010 – was announced. The book is a perfect introduction to the ensuing, very public media flurry about Goldman, Paulson and the SEC.

And no one has emerged unscathed (one piece of smut literally being smut: how much porn was watched on SEC computers as the financial system was tottering on the verge of collapse).

I’ll skip the Goldman story; writing about that is journalism and not my calling. What about Lewis’ book? First, he does an excellent job portraying the financial story as a series of personal narratives. He’s able to entwine his pages with complex securities dealings in an understandable, entertaining and even humorous way. Like a novelist he describes people’s quirks and thoughts. He still mocks the innocent – with both humor and abandon (I’d hate to be on the receiving end). As always, his caricatures of dinner party attendees are unparalleled.

Overall, I loved the book and learned a lot about the CDO mess and how it unrolled. An interesting subsequent Wall Street Journal editorial (The Misguided Attack on Derivatives by L. Gordon Crovitz explains the irony of John Paulson getting such bad press now. Many have asked why no one saw this collapse coming yet someone who did and bet right is now being demonized. When did making a right bet on a trade become a bad thing? Personally, the right bets are what keep me solvent.

Essentially, the book covers a few individuals (investors, sales people, analysts) who noted how risky CDOs had become and looked for a way to profit from the coming crash.

As the mortgage pools started to be made up of ever lower quality loans, the risk of those CDOs increased more (in retrospect) than valuation models indicated (due to how entwined institutions were, the lack of black swan events being properly accounted for in the models and numerous other factors). The Big Short is an interesting primer to this tottering market, increasingly out of synch with reality. Lewis is brutally critical of many participants. I not only enjoyed the book but got a timely overview of what is now front page news. In sum, I’ll put a “strong buy” rating on the book.

Liar’s Poker (Amazon.com Michael Lewis Liar\'s Poker), Lewis’ first book, is a Wall Street classic. It described the Salomon Brothers of old, before a scandal brought down Lewis’ ultimate boss, John Gutfreund (at Salomon and in the period covered in the book) and the firm. The book gets its designation as a classic because it, in an engaging and entertaining manner, identified and captured a point in time that was about to disappear. Indeed, Lewis has often been credited with accelerating Salomon’s downfall through his scathing disclosure. The macho, extreme culture Lewis described softened over the ensuing years industry-wide but Salomon itself disappeared completely (sold to Citibank) after a trader was caught submitting false bids to the US Treasury.

Now Lewis has written a new classic; has he chronicled another world that is about to end, but perhaps on a larger scale? To answer that question we’d need to be looking back at history but the signs indicate that he may have spotted another “market top” for one part of Wall Street. The Obama administration is aggressively pursuing a larger and more involved governmental role in our financial services industry – which would change the sector immensely. Certainly, the common view of derivatives, with their complexity and entwining nature (causing the systematic risk we just experienced), are viewed differently now than they were a mere few years ago. Warren Buffett’s much quoted characterization of derivatives as “financial weapons of mass destruction” from years past, thought then to be alarmist, seems ever more prophetic (though he himself engages in large derivative plays now). Indeed, Buffett has morphed into the new JP Morgan: he stepped in after the Salomon scandal because he had a large share holding; in the current crisis he took large positions in Goldman Sachs and GE; and now he’s actively involved in the derivatives legislation debate. Warren Buffett\'s annual shareholder letter 2010

One thing is certain; the complexity level of securitization will decline, at least in the short run. Long held economic theory is even under attack (The Black Swan being only the most obvious example – definitely, the reliability of the ubiquitous “quant” models used to value the most esoteric securities has been discredited).

If I could ask Michael Lewis one question it would be “what is the next Wall Street topic you’re planning to write about?” And then I’d figure out the appropriate short.

A few questions to those who have read the book: what did you think of it? Do you agree with my comments? Buy or not?

The read more about our firm please go to Hadley Partners.