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January 30, 2006

Lionsgate Story Shaping Up

Lionsgate (LGF – recently renamed from Lions Gate Entertainment) announced the sale of its studio production facilities in Canada for $36.1 million. To be honest, I did not even realize the company owned its own facilities. According to a report I just read, this asset was going to generate less than $5 million in revenue and a little over $1 million in EBITDA. Seems like a good price to me. LGF has about 110 fully diluted shares outstanding so this is not a particularly meaningful transaction but I still like the idea of realizing value from a non-core asset. Several studios have been adding sound-stage capacity in Los Angeles so LGF should not have trouble finding capacity for its production slate of movies and television shows.

A handful of Northlake clients and I remain long a small amount of LGF looking for the end of February release of Madea’s Family Reunion, the sequel to Diary of a Mad Black Woman, as the next major catalyst. Between now and then, LGF has several films in the DVD release window that should sell well. In fact, Lord of War (LOW) was released last week and LGF announced unusually strong initial sales of 2.5 million units. This film was a disappointment at the box office, grossing just $24 million. LGF usually is able to realize 110% of domestic box office for its DVD releases, implying that LOW should have brought in around $30 million. Assuming a wholesale price of $15 per unit, LOW is headed for closer to $40 million. This is very profitable revenue, potentially producing an operating margin north of 40%.....

Still to come on DVD in February is Waiting, a teen comedy, which grossed $16 million, and Saw II, which grossed $87 million. Teen comedies usually do well in the DVD sale and rental windows and I see no reason not to expect at least average results for Waiting. Higher grossing movies produce DVD sales less than 100% of box office so I don’t expect the 110% ratio to necessarily hold for Saw II. Sales will still be strong as the original Saw sold over 4 million copies in its original run against a $50 million domestic office. I’d expect Saw II to sell at least that many, probably more. Additionally, there will box sets of the two films with special features that will milk the original film and get a premium price. LGF has had its share of box office disappointments in the past six months but one thing the company does exceedingly well is take advantage of the home video window.

LGF has preannounced its December quarter which is yet to be reported. Due to the In The Mix flop, the quarter will be lousy. However, beginning with the March quarter, there should be several strong quarters in a row due to the aforementioned DVD sales, the box office success of the horror film Hostel, currently ending its run in theatres, and the upcoming theatrical release of Madea’s Family Reunion. I think the stock can trade back over $10 on this sequence of events with most of the gains coming in the run-up to the Madea release on February 24th. Remember that Diary of a Mad Black Woman shocked the industry when it opened at #1 on the same weekend a year ago. With the awareness for Madea, especially with white audiences, likely to much higher due the success of the film in the home video window, I think the film should gross at least as much as the original and beat the “sequel discount.”

With a target over $10 in a month and ongoing acquisition rumors as support, I think LGF is worth holding onto for the next month but the unusual volatility we have seen in the company's financial results over the past year keeps me from buying more except in trading oriented accounts..

Posted by Steve Birenberg at January 30, 2006 02:09 PM in LGF