Why buying Cineworld shares is not for the faint-hearted

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Cineworld (LSE:CINE) shares are currently changing hands for a tenth of what they were a year ago.

The reasons behind this dramatic fall are well documented.

During the pandemic, cinemas were forced to close. As a consequence, the company sold only 54m tickets in 2020, compared to 275m the previous year.

However, Covid-19 appears to have changed the way in which we consume films and, as a result, admissions have failed to recover. Last year, the company sold 95m tickets, 65% fewer than before the shutdown.

Heavily debt-laden and quickly running out of cash, its US parent company commenced bankruptcy proceedings in September. Since then, Cineworld has secured promises of additional funding from existing investors, and hopes to return to normal trading in the first quarter of 2023.

However, when assessing Cineworld stock as a potential investment for my portfolio, my heart skipped a beat.

Risk versus reward

The concept of risk and reward is a simple one.

The more risk someone has of losing money, the higher return they should get. When applied to shares, risk is usually measured by calculating a stock’s beta value.

According to Tradingview.com, Cineworld’s beta (measured over the past year) is 4.23. This is the second highest on the UK stock market. Only a tiny molecular diagnostics company has a higher one.

Beta is a concept that measures the expected change in a share price compared to movements in the overall market. A stock with a beta of one should, over time, exactly match the performance of the market as a whole.

In theory, if the stock market increases by 5%, Cineworld’s shares should go up by more than 20%. But, of course, the reverse is true. In a declining market, the company’s shares should fall four times as much.

Why am I nervous?

Like most investors, I don’t like uncertainty and Cineworld’s high beta reflects doubts surrounding its future.

However, the company is planning to use the protection that the Chapter 11 proceedings afford by completing a “real estate optimisation strategy“. This involves asking landlords in the United States for improved lease terms.

The company is also seeking to reduce its debt through an unspecified “de-leveraging transaction”. The board ominously warns that this will result in “very significant dilution of existing equity interests … and there is no guarantee of any recovery for holders of existing equity interests“.

With statements like these, I am reluctant to buy Cineworld shares.

A word of caution

As with any investment tool, beta values should be treated with caution. They are backward-looking and the past is not necessarily a reliable guide to the future.

If Cineworld can exit bankruptcy with an improved balance sheet and a more attractive business model, then I will forget the events of the past year. And, its shares may become less volatile.

It’s hard to believe that less than five years ago, the shares were trading at over three pounds each. Now they are below 5p.

My own view

Personally, Cineworld’s shares are too risky for me.

As I get older, I’m looking to invest in companies with more stable share prices. These tend to be in the FTSE 100, where beta values are generally lower, and that’s where I’m going to focus my attention.

The post Why buying Cineworld shares is not for the faint-hearted appeared first on The Motley Fool UK.

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James Beard has no position in any of the shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

Motley Fool UK 2022