No apparent financial logic for buying AMC but deal may pay off in long run

Everybody seems to have an opinion on the quality of Chinese films. My quibble is that I often find the characters make one strange, inexplicable decision after another. The result is a muddled plot and characters with whom I can't empathize.

When something strange happens in fiction, I brush it off as an ill-conceived script. When something strange happens in life, I am intrigued.

One recent development that I found strange is Wanda's $2.6 billion (2.08 billion euros) purchase of AMC - Wanda being a Chinese conglomerate with interests in property, hospitality and film exhibition, and AMC, the second largest theater chain in the United States, with over 5,000 screens.

AMC has been in the red for years, a fact hardly surprising given that it sits in a highly saturated, declining market (theater attendance hit a 10-year low in 2011). A repeatedly-shelved IPO, and the lack of another bidder, speak of how the AMC deal is perceived by other investors.

Could Wanda have some magic wand that will turn the struggling theater chain around? When asked how he intends to draw more viewers, Wanda's chairman, Wang Jianlin, responded that an additional $500 million was earmarked for renovating the existing screens. Moviegoers might expect to see bars in AMC theaters in the next couple of years, and perhaps they will make a difference, but is this the best way of spending $500 million (not to mention the $2.6 billion already sunk)?

Wanda, a Chinese company, sits right in the middle of the second largest movie theater market in the world: one that has a higher profit margin, and is expected to grow at north of 30 percent a year. Instead of putting the combined $3.1 billion into the saturated, highly competitive and stagnant US market, Wanda could have built theaters in China. At the current price tag, it could have been the proud owner of 6,500 screens in a few years. China currently has about 10,000 screens.

Looks like it is safe to rule out the deal being financially driven. Could Wanda be planning a strategic move? The term "strategic investment" has been overused to justify many a poor investment decision. But occasionally an investment generates synergies that go beyond a direct cashflow analysis.

Here is a list of typical strategic synergies and Wanda's prospects of benefiting:

Management expertise

It's not clear that AMC's management has much to teach, given its money-losing streak in recent years. Even if it does, it is still not clear that Wanda would benefit from this know-how. Wang himself stated that due to the vast differences in the two markets, Wanda has no plan to consolidate the two entities after the acquisition.

Diversification

Wanda already has a diversified portfolio, with interests in property, hospitality and theaters. Yet its holdings are mostly on the Chinese mainland. The AMC purchase, with its steady (if unexciting) cashflow in a mature market, makes sense if seen as providing a cushion for Wanda should the Chinese economy slow down or even enter a recession.

Economies of scale

After the acquisition, Wanda will be the largest global theater operator. The company has played up this news, but it is unclear what economies of scale will result. There seems little room for increased bargaining power, since China and the US typically show different films produced, marketed and distributed by different industry players. China still has a quota system for importing foreign films, recently expanded from 20 to 34.

Synergies

Often overlooked in this deal is that Wanda is far more than just a theater chain. In fact, film exhibition represents but a small portion of its interests. At its heart, Wanda is a real estate operator. With its numerous locations, AMC gives Wanda an opportunity to enter the US real estate market. Should Wanda harbor the ambition of acquiring further commercial property in the US, its experience in running AMC might come in handy.

Soft power

None on the list seem convincing enough, and one can certainly think of cheaper ways of reaping these synergies. The more interesting, and most speculative, hypothesis is that the AMC acquisition is Wanda's first step toward building a global entertainment enterprise.

In announcing the deal, Wang had an interesting line describing the previous owners as "lacking long-term vision". In other interviews, he has both hinted at his ambition of becoming a significant player in the global entertainment industry, and expressed his confidence of Chinese films one day achieving worldwide acceptance. In such a context, the AMC purchase could be interpreted as securing a beachhead for China-origin content in the US.

Wanda was careful to clarify that it would have minimum intervention in terms of what films will be exhibited at AMC. In the short term, it makes sense to maintain the status quo, as Chinese filmmakers have yet to learn how to make films that appeal to the US audience. The Zhang Yimou epic, Flowers of War, despite featuring Hollywood star Christian Bale, is the most recent failed attempt at cracking the US market.

In due time though, AMC, though removed from the creative side of Hollywood, nevertheless offers Wanda a unique opportunity. Wanda will be able to carry out small, low-risk experiments in showing China-produced films and gauging audience response, thereby getting insights of US viewer preferences. Such insights will become a core asset when Wanda vertically expands into the financing, production, and marketing of films aimed at a global audience.

In the end, Chinese filmmakers might be the biggest beneficiary. A number of filmmakers I talked to are excited about the acquisition. To them, Wanda seems to lend a more willing ear when they want to pitch their stories.

The author has an MBA from Stanford and is co-founder of demohour.com, China's first crowdfunding website.

(China Daily 06/08/2012 page11)