MGM IPO: Wizardry or Selling Itself Short?

It’s appropriate that Las Vegas casino owner Kirk Kerkorian is considering selling to the public a piece of the Metro-Goldwyn-Mayer studio he and his partners bought last year. Investing in initial public offerings in Hollywood has always been a little like spinning the roulette wheel.

Investors usually fly blind, putting their faith mostly in executive track records and in movies and TV shows that may or may not get made as planned. And, as in roulette, the player usually loses.

Indeed, the track record of starry-eyed investors who pony up money for a piece of the movie business has been especially dismal in recent years. Witness the baths they took on such companies as Savoy Pictures Entertainment and Cinergi Pictures Entertainment. Overall, there are only a handful of entertainment companies where investors have made money over time, such as Walt Disney Co., and those companies do a lot more than make films.

Granted, MGM is far more solid than either Savoy or Cinergi. For one thing, it’s hardly a start-up. It has a large library of films and TV shows to exploit, and it presumably has enough management judgment to avoid making too many movies as bad as Cinergi’s “Judge Dredd” or Savoy’s “The Stupids.”

“I don’t think you can put MGM in the same category with some of these other entertainment companies,” says analyst Arthur Rockwell, a senior MGM executive in the 1980s who is now an analyst with Yaeger Capital Markets in Los Angeles. “It’s the last of the major studios with a significant library, has a well-respected management as well as good financial backers.”

Still, the public offering, expected to be set in motion this week, comes as the studio has only just recently jump-started its movie production and is just beginning to put a steady flow of product back into the market after a yearlong hiatus while being sold.

MGM is expected to announce today only that it has elected to go forward with an IPO; it is prohibited from disclosing any details until it files papers with the Securities and Exchange Commission. But sources say J.P. Morgan & Co., which advised MGM in the sale last year and organized the bank syndicate to provide funding for the company, will probably participate in the offering, as well as another investment house. Merrill Lynch & Co. may be the lead candidate among a pool that includes Goldman, Sachs & Co., Bear Stearns & Co. and Donaldson, Lufkin & Jenrette.

After meeting Friday for a routine quarterly review, MGM’s board is reconvening today to discuss the timing of an IPO and other financing ventures, and to select the investment bankers to engineer the offering. Sources say that based on the perceived valuation of MGM at close to $2 billion, the company hopes to raise about $250 million by selling off 12.5% of its total equity to the public. MGM is also considering other debt-financing options, such as high-yield junk bonds, to raise up to an additional $250 million.

The historic Hollywood studio was sold last year for $1.3 billion by the French bank Credit Lyonnais--it seized it from disgraced financier Giancarlo Parretti when he couldn’t make his loan payments--to a group led by Kerkorian, MGM Chairman Frank Mancuso and Australia’s Seven Network Ltd. Recently, MGM acquired the entertainment assets of Metromedia International Group, encompassing the libraries of Orion Pictures, Samuel Goldwyn Co. and Motion Picture Corp. of America, for $573 million.

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The timing of a public offering is open for debate.

Though MGM does throw off some cash from operations (about $100 million), entertainment companies are voracious eaters of cash. MGM could use ready capital to finance its movies, pay down debt and expand its film and television operations. The company’s overhead is said to exceed $100 million a year.

One challenge is to convince investors that the company is up and running after film production came to a virtual standstill for about a year while MGM was being sold. A string of hit films led by “GoldenEye,” “Get Shorty” and “The Birdcage” is now well over a year old. The effect of the hiatus is evident: In a summer that has so far produced a number of films grossing $100 million or more for several studios, MGM will have only one release, “Hoodlum,” for which there is little if any buzz, later this month.

Only now is the studio getting its production and release schedules in full tilt again. MGM will have to convince investors that its upcoming product can be competitive with that of Hollywood’s other studios, most of which can offset losses in movies with revenue from other businesses.

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When would it make sense for the company to go public?

MGM, which is supposedly targeting an offering by late fall, is keen to mount one sooner rather than later, given the vibrant stock market today, sources say.

“The thinking is ‘strike while the iron’s hot,’ ” says a source close to the studio.

There are a number of industry analysts who would agree with that.

“The capital markets have been particularly advantageous for raising capital,” says Jeffrey Logsdon, an analyst at Cruttenden Roth in Irvine, adding, “The IPO market has been extremely healthy.” He cited examples of companies such as At Home Entertainment, which went public at $10.50 a share less than a month ago and whose stock today is trading at nearly double that.

But Clark Hallren, a vice president with Chase Securities, says one of the downsides for MGM is it may be “selling too cheaply,” if in fact the studio ever becomes the powerhouse it once was.

“The valuation may be higher if you’re selling based on known fact versus estimates,” suggests Hallren. “You’re basically selling equity cheap. Instead of the company being worth $2.5 billion, it could be worth $3.5 billion down the line.”

Even so, there’s a big difference between a new-media company like At Home, which provides Internet access via cable TV, and a company that specializes in feature films. MGM is one of the closest things to a “pure play” in films in Hollywood. The company has to convince investors that it’s doing a lot more than making movies, which today is the riskiest part of the entertainment business, and is poised to fully exploit all other ancillary businesses as well as fully leverage its library of films and TV shows.

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One obvious area where it needs to continue to do that is television, which MGM brought back from the dead under Mancuso. It now has such Showtime programs as “Poltergeist,” “Outer Limits” and “Stargate.” The studio has just reentered the network world, after five years or so, with the sale of “The Magnificent Seven.”

The studio’s only potential blockbuster in sight is its next James Bond sequel, “Tomorrow Never Dies,” which will have to fight for box-office dollars in December against Paramount’s “Titanic,” from director James Cameron.

MGM’s more immediate lineup includes the November release of “Red Corner,” starring Richard Gere. Among its planned releases for 1998 are “Man in the Iron Mask,” starring Leonardo DiCaprio, Jeremy Irons and John Malkovich in a story inspired by the classic Alexandre Dumas novel, and “Species 2,” a sequel to MGM’s 1995 sci-fi hit, which is due out in mid-May.

But, as MGM and its rivals continue to demonstrate, the movie business is extremely volatile. Under the leadership of Mancuso, former United Artists head John Calley and former MGM President Mike Marcus, the studio, once nearly dead, experienced a comeback with “GoldenEye,” “The Birdcage” and “Get Shorty.” But the studio also produced a number of flops last year and this year, including “Mulholland Falls” ($11.5 million domestic box office), “Larger Than Life” ($8.3 million), “Moll Flanders” ($3.5 million), “Turbulence” ($11.5 million), “Touch” ($374,557) and, most recently, “Warriors of Virtue” ($6.5 million), according to numbers provided by Exhibitor Relations Co.

What MGM does have going for it in the way of valuable assets is its 4,000-title film library, recently bolstered by its Orion acquisition. A cash infusion could help MGM exploit its library by creating additional outlets of distribution and merchandising at retail stores.

“The public is very interested in huge libraries and brands,” says Chase’s Hallren. “And there’s not very much opportunity for a straight film play like MGM.”

Logsdon concurs: “MGM is a major studio with a worldwide presence. It’s libraries that drive valuations.”

He also agrees that libraries need hot new product to drive lucrative film packages in overseas television sales.

It will be interesting to see just how much blind faith the public will be willing to wager this time around.