AMC Distributing Tax-Free Special Dividend of Preferred Stock

By Stuart E. Leblang, Michael J. Kliegman,  and Amy S. Elliott

On August 4, AMC Entertainment Holdings, Inc. (NYSE:  AMC) (AMC) announced declaration of a special dividend of a newly created AMC preferred equity unit to all holders of its Class A common stock as of the close of business on August 15, to be paid at the close of business on August 19 (the New York Stock Exchange designated August 22 as the ex-dividend date). ¹ The company applied to list the preferred equity units on the NYSE under the symbol APE in an apparent reference to the individual investors that bid up the company’s share price last year enabling it to raise much-needed capital.  The preferred equity dividend is in lieu of issuing more common shares, for which shareholder approval was difficult to obtain, with a goal of creating a market for and subsequently issuing additional APE units to raise capital and pay down debt. ² 

One APE unit, representing one one-hundredth of a preferred share, will be distributed on each common share outstanding.  Each APE is designed to have the same economic and voting rights as one share of common stock.  Specifically, each share of the underlying preferred stock will automatically convert into 100 shares of common stock (correspondingly, each APE will convert into one share of common stock) after the corporation’s charter is amended to authorize a sufficient number of common shares.  APE units participate with common shares on an as-converted basis and generally vote along with the common stock.  On liquidation, the preferred participates pari passu with the common, with the exception of a liquidation preference for the preferred of $.01 per share ($.0001 per APE unit). ³ 

The public disclosures of the stock dividend do not contain information about the intended tax treatment, however, we do not expect the distribution to be taxable, and we do not expect there to be dividend withholding tax with respect to foreign investors.  Despite the excitement that CEO Adam Aron is trying to generate with this announcement, the fact (as he readily acknowledges^[4]) is that the distribution is just cutting the corporate pie into twice as many pieces, with each shareholder owning the same percentage of the corporate equity as before.  For this reason, the tax law generally does not tax shareholders upon receipt of a stock dividend or stock split. ⁵ 

There are certain exceptions to tax-free treatment with respect to a corporation’s distribution of its own stock to shareholders, but we do not expect them to apply here. ⁶ One such exception that seems potentially applicable refers to a distribution of convertible preferred stock unless the corporation establishes that the distribution will not result in the receipt of cash or property by some shareholders and an increase in proportionate interest in the corporation by other shareholders.  The regulations set forth some specific criteria for taxability. ⁷ In the case of the APE units, it is first likely that, based on their terms, they would be treated as common stock for purposes of the stock dividend rules. ⁸ Second, because all of the underlying preferred shares are mandatorily convertible, the circumstances should likely not result in the receipt of cash or other property by some shareholders and an increase in proportionate interest by others.

An additional question is whether the underlying preferred stock might be considered “Section 306 stock.” Under Section 306 of the Internal Revenue Code, stock includes stock (other than common stock) that is received in a tax-free distribution under Section 305.  If the shareholder disposes of the Section 306 stock in a redemption, then the redemption will result in dividend treatment to the extent of available earnings and profits.  If the shareholder disposes of the Section 306 stock in a regular sale transaction, then the amount realized may be treated as ordinary income, subject to certain limitations.

Whether the APE units constitute Section 306 stock depends on whether the underlying preferred stock is treated as common stock for tax purposes.  A series of rulings makes clear that stock that shares with common stock in unlimited upside with respect to dividends and liquidation value is considered common stock for purposes of the definition of Section 306 stock. ⁹ In comparison, stock that, because of its inherent economic rights or the right of the corporation to redeem the stock so as to limit the stock’s participation in growth, is generally not considered common stock.  Based on the design of the preferred stock underlying the APE units, all indications are that it should be considered common stock for purposes of Section 306 stock, and therefore, we do not think the APEs would be considered Section 306 stock.

^{[1] Press Release, AMC, AMC Entertainment Holdings, Inc. Announces Special Dividend of AMC Preferred Equity Units (Aug. 4, 2022) (https://investor.amctheatres.com/newsroom/news-details/2022/AMC-Entertainment-Holdings-Inc.-Announces-Special-Dividend-of-AMC-Preferred-Equity-Units/default.aspx); https://www.sec.gov/ix?doc=/Archives/edgar/data/1411579/000110465922086144/tm2222422d3_8k.htm.}

^{[2] Alexander Gladstone, AMC to Issue Dividend in Form of ‘Ape’ Preferred Shares, Wall St. J., Aug. 4, 2022 (https://www.wsj.com/articles/amc-to-issue-dividend-in-form-of-ape-preferred-shares-11659643261).}

^{[3] AMC Preferred Equity Unit Summary, dated Aug. 4, 2022 (https://www.sec.gov/Archives/edgar/data/1411579/000110465922086144/tm2222422d3_ex99-2.htm).}

^{[4] https://www.sec.gov/Archives/edgar/data/1411579/000110465922086144/tm2222422d3_ex99-3.htm}

^{[5] IRC §305(a).}

^{[6] These exceptions under IRC §305(b) are:  1) where shareholders may elect to receive stock or cash or other property; 2) where some shareholders receive stock and others receive property; 3) distributions of common and preferred stock; 4) distributions with respect to preferred stock; and 5) distributions of convertible preferred stock, unless it will not have the effect of some shareholders receiving property and some increasing their proportionate interest in the corporation.}

^{[7] Treas. Reg. §1.305-6.}

^{[8] See Treas. Reg. §1.305-5(a).}

^{[9] See, e.g., Rev. Rul. 81-91; Rev. Rul. 79-163; Rev. Rul. 75-222.}