Inspired by ideas on Reddit, spread on Twitter and executed by retail traders, the surge in the shares of US cinema chain AMC Entertainment last week broke new ground on Wall Street. But the big winner was a well-established private equity firm: Silver Lake Partners.
“A thunderbolt out of the sky”, marvelled one person close to AMC, whose shares climbed more than fivefold in an electrifying end to January. Unfolding alongside an even more dizzying leap in the stock of video games retailer GameStop, the move was cast by some as a battle between retail investors and Wall Street’s elite.
As the week of drama on financial markets drew to a close, Silver Lake last Friday locked in a $113m profit after selling shares in AMC that it had recently swapped from convertible bonds. The California-based firm owns entertainment group Endeavor and is best known for buying tech companies such as Dell, and more recently investing in Manchester City football club.
Far from being an opportunistic swoop, Silver Lake’s AMC trade was set in motion last summer and has since proved one of the great private equity masterstrokes of the pandemic. The dealmaker’s tactics highlight the tough negotiating, financial engineering — and in this case, dose of luck — required to prevail over Wall Street rivals during fights in troubled companies.
AMC’s difficulties began in earnest last spring when the march of the pandemic across America ensured that the seats in its theatres remained empty.
In April, as the Federal Reserve emerged to support capital markets, AMC quickly raised $500m by selling senior bonds. The company said this would give it enough cash to ride out the pandemic until Thanksgiving last November, by which point it believed cinemas would have started reopening.
But as summer arrived, the pandemic had shown no sign of abating. AMC’s cash burn was exceeding $100m a month. The company was on the verge of collapse.
“It became obvious it wasn’t enough and AMC was just bleeding money because obviously no one was going to movie theatres,” said Bert Choe, an analyst at Covenant Review.
In response, the Kansas-based cinema chain embarked on a complex debt restructuring. The intention was to buy time until widespread vaccine deployment would eventually allow Americans to safely gather indoors.
The restructuring pitted the world’s most sophisticated and ruthless investment funds against each other. On the one side was a rescue package from Silver Lake. On the other was a rival plan from lenders led by private equity titan Apollo Global Management.
In the end, Silver Lake’s package prevailed in the AMC boardroom. It was to prove a critical victory because the private equity firm had found itself in a particularly tough spot.
Silver Lake had bought a $600m convertible bond from the cinema operator in 2018. The firm was optimistic that, even in an age of digital streaming, Americans would still frequent movie theatres. The convertible bond paid a near 3 per cent coupon, giving Silver Lake downside protection while allowing it to share in the upside if AMC’s stock rose.
The bond, however, had one unattractive feature: it was unsecured. This meant that, in the event that AMC filed for bankruptcy, it would be paid out after more senior loans.
Such a bankruptcy was looming in May and June. AMC’s junior debt was trading below 30 cents on the dollar and even senior debt was in the 60s. Bank loan holders, including Apollo, had proposed a comprehensive refinancing that involved injecting more cash. But AMC management and shareholders were wary. They feared the group was ultimately angling for a bankruptcy where they could take control of AMC on the cheap, a claim the lenders deny.
The AMC board, with Silver Lake’s representative on it excusing himself, ultimately accepted the rival package proposed by Silver Lake.
The private equity firm would put in $100m of debt at the senior level and the junior bondholders would swap $2bn of debt for $1.5bn at a higher interest rate and longer maturity. Most controversially, Silver Lake would also have its $600m convertible bond leapfrog to the most senior creditor level. This meant that it would share in the recovery the loan holders would receive in the event of a bankruptcy proceeding.
Because of restrictions in its loan documentation, AMC had only limited capacity to issue senior debt. By moving the $600m convertible bond up the chain of creditors — much of the company’s capacity to borrow more was exhausted. Lenders were aghast at the board’s decision-making, according to participants directly familiar with the matter. They believed that their offer had superior terms but that AMC had instead chosen a shareholder-friendly proposal when the company, they believed, had an obligation to all stakeholders — including creditors.
But just weeks after the restructuring was sealed in July, a second wave of coronavirus infections was sweeping America. And by the autumn, the spectre of bankruptcy had reappeared. Once more AMC was running low on cash. The senior lenders were broaching the idea of a bankruptcy filing that was not favourable to the interests of Silver Lake and other junior stakeholders. The proposal would have allowed AMC to make a series of operational changes — sell locations, reject leases and slim down operations while likely writing off much of the company’s junior debt and equity.
Silver Lake and Apollo declined to comment. AMC did not respond to a request for comment.
By November, AMC’s luck and that of Silver Lake had changed dramatically. BioNTech/Pfizer’s Covid vaccine had produced promising results, and optimism about a near-term economic recovery returned. AMC shares shot up and it announced plans to sell shares to the public through a so-called “at-the-market” programme where it simply could place shares opportunistically during trading hours.
Then on January 25, AMC chief executive Adam Aron dramatically announced that the company had raised more than $900m in financing since mid-December, and nearly $2bn overall since April. “Any talk of an imminent bankruptcy for AMC is completely off the table,” he said.
By January 27, as various stocks of troubled companies were boosted by Reddit-fuelled rallies, AMC jumped more than $20 per share at one moment.
Securities filings published last week disclosed that Silver Lake had swapped its convertible bond at $13.51 per share exercise price and then sold the 44m shares at an exercise price of $16.05. This netted the private equity firm a $113m profit. A hedge fund, Mudrick Capital, emerged as another big winner. It swapped existing AMC bonds for equity and received shares for lending the company $100m with its overall haul of close to $200m, according to a person with knowledge of the fund’s performance. The fund still owns AMC bonds, having exited its equity position.
“I think the company has done a very good job of raising not only the liquidity they needed to get through the summer but twice that amount,” said founder Jason Mudrick. “It’s a novel situation.”
One lawyer involved in the case explained that because of AMC’s negative cash flow and heavy debt, these equity investors were betting on “option value” in its shares: the possibility of a rapid vaccine rollout or new drugs to combat Covid-19 meant that it had a chance, even if remote, of a rapid turnround worthy of a punt.
Still, the surge in the cinema chain’s stock driven by day traders seemed to exceed any fundamental valuation and is on an entirely different scale.
“I’m super bummed I didn’t buy AMC junior bonds or stock,” lamented one hedge fund executive who was a lender. Lenders and bondholders have, however, also profited from the rally. AMC’s term loan has jumped to close to 90 cents on the dollar and even AMC junior bonds have jumped to more than 70 cents.
This week equity analysts at MKM Partners put a $1 price target on AMC shares. Stockholders had been diluted by 75 per cent in recent months even as the company’s debt load and deferred rent remained massive, they wrote. The sheer force of that calculation probably convinced Silver Lake to use the chance to cash in on its winnings.
Ordinary investors are slowly being persuaded as well: AMC shares have quickly plummeted to just under $8.