An interesting feature of a share market is that each trade matches a buyer with a seller who essentially has the opposite view on the future potential of the company being traded. Effectively, the seller ‘wants out’ and the buyer ‘wants in’ on the company’s future fortunes.
So the seller thinks he or she knows more than the buyer and vice versa, yet only one can be right!
Which leads me to the ‘on again’ report that private equity firm and cinema chain owner Pacific Equity Partners (PEP) is re-testing the market for a potential float of the Hoyts business. PEP purchased Hoyts in 2007,and since 2010 there have been numerous reports, none of which have eventuated, of an imminent trade sale or Initial Public Offering (IPO).
As Foolish investors, if we are smart or lucky enough (or perhaps both) to purchase a great business at a reasonable price, then we need to be offered an exceptional price to sell it. With this in mind, Fools need to always question why private equity wants to sell.
Listed entertainment businesses have, in recent times, been performing reasonably well. These include Village Roadshow (ASX: VRL), which operates film exhibition, film production, film distribution, and theme parks. Amalgamated Holdings (ASX: AHD), which owns over 50 cinemas, including the Greater Union chain, and a portfolio of hotels and resorts, and Ardent Leisure Group (ASX: AAD), which owns theme parks, bowling centres, and health clubs.
So while industry-wide profitability has been quite impressive, investors need to remain aware of future headwinds facing the cinema industry. Ticket sales are under pressure from the internet, home theatres, and piracy. Food and drink sales are under pressure from the increasingly common practice of embedding cinemas within shopping malls rather than as stand-alone venues. The close proximity of cinema chains to a Wesfarmers (ASX: WES)-owned Coles or Woolworths (ASX: WOW) supermarket allows patrons to purchase food and drink from the supermarket and avoif the high-margin cinema candy bars.
To borrow a line from Warren Buffett: “if you are in a poker game and after 20 minutes you don’t know who the patsy is, you’re the patsy.”
A business owner nearly always knows more about their business than an outsider. It should not be forgotten that private equity’s aim is to maximise their profit as a seller and therefore minimise the future profit of the IPO buyer.
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Motley Fool contributor Tim McArthur does not own shares in any of the companies mentioned. The Motley Fool’s purpose is to help the world invest, better. Take Stock is The Motley Fool’s free investing newsletter. Packed with stock ideas and investing advice, it is essential reading for anyone looking to build and grow their wealth in the years ahead. Click here now to request your free subscription, whilst it’s still available. This article contains general investment advice only (under AFSL 400691). Authorised by Bruce Jackson.