Michael Brush

Company Focus4/9/2008 12:01 AM ET

Indiana Jones vs. the recession

When the economy slows, Americans head for theaters to take comfort in their celluloid heroes. That could mean a big summer for movie stocks.

By Michael Brush

When the going gets tough, Americans get going -- to darkened movie theaters for a little escapism.

Faced with job cutbacks, mortgage woes and rising gas prices, Americans are finding room in the budget to sneak away for movies as they cut back sharply on almost everything else.

It's not hard to imagine why. A movie about cavemen, a beloved Dr. Seuss character or a teen idol can serve as a quick and easy getaway from negative headlines about a recession or a sinking stock market.

Though overall consumer spending growth has nearly ground to a halt -- it was up a scant 0.1% in February -- box-office takes shot up in the first quarter.

Over those three months, Americans coughed up $2.32 billion to see hits such as "10,000 B.C.," "Horton Hears a Who!" and Hannah Montana's concert film, according to Boxofficemojo.com. That was 4.5% higher than the $2.22 billion spent in the first quarter of last year, or a 2.5% increase after inflation.

Increased moviegoing during rough times "is a tradition that stretches back to the Depression," says Jeff Blake, an industry veteran who now is the chairman of marketing and distribution for Sony (SNE, news, msgs) films. "Movies offer something completely separate from what you are dealing with day to day. So they really become worth the money when money counts."

"When things are tough it is nice to be able to go into a dark theater and get lost in great entertainment, to be moved or scared and all those great things," agrees Michael Burns, the vice chairman of film company Lionsgate (LGF, news, msgs).

Indiana Jones and a blockbuster summer

The pace has slowed in recent weeks, but my bet is that things will roll on as the summer movie season starts in earnest in May. That's when the potential blockbusters roll out, including "Indiana Jones and the Kingdom of the Crystal Skull," "The Chronicles of Narnia: Prince Caspian," "Kung Fu Panda," "Wall-E" and "Iron Man."

Though there are no pure plays on moviemakers anymore, this trend will be good for movie producers that have other positive trends going for them, including Marvel Entertainment (MVL, news, msgs), Walt Disney (DIS, news, msgs), Sony and Lionsgate. I'd expect movie-theater plays like the beaten-down Carmike Cinemas (CKEC, news, msgs) to get a boost, as well as Cinemark Holdings (CNK, news, msgs) and National CineMedia (NCMI, news, msgs).

Some industry analysts, including Hal Vogel of Vogel Capital Management, dispute the link between economic pullbacks and rising movie attendance. But for me, the evidence is strong:

  • In 1974 and 1975, as the economy contracted 0.5% and 0.2%, respectively, after 5.8% growth in 1973, the annual box-office take rose 25% and 11% as Americans sought refuge from reality in hits like "Jaws," "The Towering Inferno" and "Blazing Saddles." Movie-theater attendance rose 16.9% in 1974 and 2.2% in 1975.

  • In 1982, the economy contracted 1.9%, after 2.5% growth in 1981. Box-office takes shot up 16.4% as hits such as "E.T.: The Extra-Terrestrial" and "Porky's" offered escapes. The number of moviegoers was up 10%.

  • In 2001, economic growth slowed to 0.8% from 2000's 2.7%, but box-office spending on movies such as "Monsters, Inc.," "The Mummy Returns" and "Ocean's Eleven" rose 9%. This was also the year the "Harry Potter" and "Lord of the Rings" film franchises were launched. Then, the box-office take rose 14% in 2002 as economic weakness lingered, growing only 1.6%. Movie-theater attendance went up 4% in 2001 and 11% in 2002.

All told, box-office spending went up during five out of the seven recessions or pullbacks over the past 40 years, according to the National Association of Theatre Owners. The pattern is so consistent that you can't write it off by saying moviemakers just happened to release better films.

Here's a look at the companies that should benefit as Americans turn to celluloid heroes for relief this summer:

Marvel Entertainment

Marvel offers the closest thing to a pure play on movies as escapism. Founded as a comic-book company providing much-needed refuge from a different bout of economic weakness in the late 1930s, Marvel fell on hard times in the late 1990s.

But now it has the financial strength to fund its own film productions, as opposed to simply licensing characters to others for a small percentage of profits, as it did with films such as Spider-Man. ("Spider-Man 3," released last May by Sony, has brought in $336.5 million in the U.S. and $890.8 million worldwide.)

This change is the key to why Raymond James Financial (RJF, news, msgs) analyst Joseph Hovorka thinks Marvel stock could trade up to $36 a share in a year or so, from recent levels of $27.

"The big story is the new film slate," says Hovorka. "Just look at the history of what their films have done. If they can duplicate that on their own, earnings power goes up substantially."

This season, Marvel is taking its first shot as a production company with "Iron Man," due out May 2. "Iron Man will knock the cover off the ball," predicts Robert Routh, a former entertainment analyst who has made several great calls on media stocks in this column. Hovorka thinks "Iron Man," based on a comic-book hero, will bring in $330 million worldwide.

In June, Marvel will release "The Incredible Hulk." Hovorka's estimate: $295 million worldwide.

Marvel, the top comic-book company with about a 50% share in North America, has no shortage of options. Next year, expect a film based on another character, possibly Captain America, Thor, Ant-Man or the Avengers. Here's one more sign that Marvel's foray into movie production may reward shareholders: In early March, a director bought $633,800 worth of stock at around $25.40 a share.

Continued: Bet on the Mouse House

Walt Disney

Disney will release two of the biggest summer films: the second Narnia film and Pixar's animated "Wall-E."

Though box-office revenue is only a small piece of Disney's pie, the company is a master at using movie characters to make money for other divisions, such as consumer products and theme parks. Both did exceptionally well in the fourth quarter. Consumer-products revenue advanced 29%, and theme-park revenue was up 11.4% on record U.S. attendance.

Theme-park strength should continue because the weak dollar makes visits cheaper for foreigners, says Routh. Disney's theme parks also attract Americans who see foreign travel as too expensive because of that weak dollar.

Disney's large library of films should also appeal to consumers looking for an escape. And its ABC, ESPN and cable divisions posted strong growth in the fourth quarter.

Goldman Sachs (GS, news, msgs) analyst Ingrid Chung has a $39 price target on the stock. She reckons the decline to recent levels of $31.50, from $36 last May, has priced in any weakness from the economic pullback.

Sony

Sony is betting Americans will need a few laughs this summer. Its releases will include "You Don't Mess with the Zohan," featuring Adam Sandler, and "Step Brothers," with Will Ferrell.

Sony also owns a vast film library containing old hits from MGM, Columbia and TriStar, as well as its own releases. And as a consumer-electronics giant, it stands to gain because it owns the technology behind Blu-ray, now the de facto standard in high-definition DVDs.

Morningstar (MORN, news, msgs) analyst Irina Logovinsky has a five-star rating on the stock, Morningstar's highest. She suggests buying it below $45 a share for a possible move to the mid-$70 range in the medium term.

DreamWorks Animation

There's no doubting DreamWorks Animation's (DWA, news, msgs) strength as a producer of computer-animated films that provide a great escape. The company made the biggest-grossing animated film of all time, "Shrek 2," which came out in 2004 and took in a cool $920 million in worldwide revenue.

This year, DreamWorks has two likely winners in "Kung Fu Panda" and November's "Madagascar: The Crate Escape."

Though DreamWorks movies rock, it's hard to get as enthusiastic about its stock because much of the benefit from these two movies appears already priced into the stock at $27 a share.

UBS Securities (UBS, news, msgs) analyst Michael Morris recently launched coverage with a neutral rating. The stock is volatile, however, so I'd look for a plot twist that takes it below $25 and buy there.

Lionsgate

Lionsgate is looking to potentially hot releases such as "The Forbidden Kingdom," featuring Jackie Chan, and "Bangkok Dangerous," with Nicholas Cage, to boost revenue this year. It also has a library of 12,000 films.

But its growing television production and syndication division and digital download business also help explain why BMO Capital Markets analyst Jeffrey Logsdon thinks Lionsgate stock could trade up to $15 a share inside 15 months.

Theater chains

Theater chains keep about half of box-office revenue. But, oddly, they aren't a great way to play an uptick in revenue, says Larry Haverty, who manages Gabelli Global Multimedia Trust (GGT, news, msgs), a closed-end fund. "Inevitably, Hollywood has a soft period, and cash flows become unpredictable," says Haverty, "and Wall Street favors predictability."

The stock of one of the major chains, Regal Entertainment Group (RGC, news, msgs), is stuck in a four-year trading range between about $17 and $23 a share. In the past two years, it has rallied in April ahead of the summer releases. So it could be a good one for traders.

I'd also consider Cinemark Holdings and National CineMedia because insiders have recently been buying. Cinemark is a movie chain, and National runs ads before movies. An upcoming catalyst may be the addition of Loews theaters to National's network in June.

Finally, BMO Capital Markets' Logsdon likes the rural and small-town theater chain Carmike Cinemas. Carmike stock has been so beaten down that its market capitalization of $135 million may be less than the value of the real estate it owns. Logsdon thinks it could trade at $14 a share in a year or so, from recent levels of around $10.

At the time of publication, Michael Brush did not own or control shares of any of the equities mentioned in this column.