While the US markets had a bad day on Monday, a bucking title was Redbox Entertainment (NASDAQ: RDBX). The video kiosk operator appears to be the next big hit in meme headline madness. However, there are multiple reasons be very negative on the stock, which we believe could lead to a downside of nearly 100% in multiple scenarios.
The stock closed Friday at $ 13.20, but was up $ 5 to over $ 18 before retreating slightly on Monday. It appears to be a move based on a short squeeze, with the title making the rounds on Reddit in the WallStreetBets crowd. As the chart below shows, short interest in the name skyrocketed throughout 2022, with over 37.5% of the short float at the end of May according to Morningstar data.
One of the main reasons why little interest has grown this year is that the company agreed to merge with chicken soup for Soul Entertainment (CSSE). Normally, investors might think this is a good thing, as most of the time it means they can sell stock to another party for a higher price. However, this is definitely not the case here. As the article linked the details above, Redbox’s pending deal is worth a significantly lower price than the shares currently trading on the market:
Under the all share agreement, Redbox shareholders will receive a fixed exchange ratio of 0.087 of a share of CSSE class A common stock per Redbox share.
But CSSE fell 2.2% Monday to $ 8.57; its share price implies the acquisition of Redbox for approximately 75 cents per share.
There are likely a lot of merger arbitrage folks here who short the name at these levels in the teens, hoping the stock will eventually drop to the implied deal price below the dollar per share. Maybe a revised deal will occur at some point, but even if it comes to say triple the current share exchange rate, it’s only a little more than $ 2 per share. However, even if the deal fails, this is not an activity in good shape at the moment. Take a look at the key financial data table below.
Movie rental was a great deal ten years ago when it was most of the bargains for a name like Netflix (NFLX). Since then, however, Netflix has moved on to streaming, and the likes of Amazon (AMZN), Apple (AAPL) and others have poured billions into old and new content. Each passing month only adds more consumers to the overall streaming space, with the number of people out there relying on DVD and Blu-Ray disc rentals declining.
If big losses and money consumption weren’t enough to worry you, maybe Redbox’s balance sheet will. According to 10-Q’s most recent filing, total assets were just over $ 361 million as of March 31. However, just over 70% were actually in the goodwill or intangible asset categories. The company had less than $ 14 million in cash, while total debt was nearly $ 343 million. As the financial situation continues to weaken and global interest rates rise, borrowing costs will only rise, further damaging the profit and cash flow situation. Bankruptcy can be a long-term option if the merger fails.
Ultimately, Redbox Entertainment investors should use rallies like the one seen on Monday to sell the stock. The company is currently under a merger agreement that values the stock at less than $ 1 per share, which implies a huge downside from here. Even if the deal fails, however, it is a business that shows huge declines in revenue, large losses and significant money consumption. Redbox may be a Reddit audience favorite currently, but like AMC (AMC), GameStop (GME), and others before, stocks will likely revert to a more appropriate valuation that’s well below what we are at today.