Sometimes when I hear about a penny stock, I draw a total blank. Its name is unfamiliar to me and I have no clue about the business concerned.
That is not the case when it comes to Cineworld (LSE: CINE), though. The chain is well-known. Its name is up in lights in towns and cities across the nation. Indeed, the company operates thousands of cinemas worldwide too, including in its key US market.
Despite that, Cineworld is a penny stock.
The shares sell for about 5p apiece. That is almost a 99% slide from its 2019 highs, before pandemic restrictions hit the business badly. If I was to invest £1,000 today and then Cineworld can get back to its old price, my investment would be worth over £60,000! If that happened, Cineworld could turn out to be the bargain of the year (or even decade) for my portfolio.
But how likely is it?
Who owns what
I think it is very unlikely.
Cineworld has the makings of a fine business even now. It has wide brand recognition, a large estate, and lots of expertise when it comes to running cinemas.
But it also has debt. A lot of debt. In fact, the company’s net debt in its interim results was $8.8bn.
Why does that matter when it comes to Cineworld shareholders?
If I buy the penny stock today, I effectively get a very small claim on the company’s assets, along with all other shareholders. But shareholders rank below creditors when it comes to an ultimate claim on a company’s assets.
With net debt of $8.8bn, clearly a lot of creditors will want to get their money back from Cineworld either now or in the future. If that pushes the company into bankruptcy, there may well be nothing left over for shareholders (some parts of the business are already in a form of bankruptcy protection known by its US name Chapter 11, although they could emerge from that in future).
Even if the company avoids bankruptcy, though, the enormous debt load would likely consume any earnings it makes for years or decades to come.
Sizeable risks
Either way, I see substantial risks for shareholders.
Given its penny stock status and small market capitalisation of £65m, some good news could lead the Cineworld share price to jump sharply. We have already seen that this year, when even a rumour of interest from rival Vue saw the shares move up strongly.
Indeed, the Cineworld share price has climbed 31% in 2023.
But buying a share just in the hope of a sudden price jump due to news flow is speculating, not investing. As a long-term investor looking to buy into great businesses at an attractive price, Cineworld looks like a disaster to me.
It has destroyed shareholder value on a massive scale in recent years. The debt pile may yet destroy what little shareholder value is left. Even a penny stock can get cheaper. I will not be investing.
This post was originally published on Motley Fool
