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It’s still a long term story is the answer. We were hoping for a bigger stock price decline on the lower guidance but hope isn’t an investment process.

The quarter was decent and in-line but the mix was different.  International was very strong and management, both on and off-line, appears particularly bullish on this segment.  Replacements were pretty much where we thought they would be and IGT seems to have reclaimed the pole position in terms of market share.  2011 guidance was weak but our $0.83 estimate is in the wide range of $0.77-0.87.

While the long-term story remains compelling, near-term catalysts remain elusive.  We do believe there are buyers in the name and the fact that the stock is only down 3% following lower guidance and a 15% up move into the print is indicative of the demand.  Rebounding market share due to mean reversal and better content will likely emerge as the next positive catalyst unless they take out the darn convert.  Of course, the biggie is improving replacement demand.  We are taking the under on current expectations of 18 months before replacements accelerate.

Quarterly thoughts:

  • Domestic machine sale revenues were $4.6MM below our estimate
    • Units recognized in the quarter were 250 below our estimate and pricing was $300 lower
  • There were roughly 1,300 Dynamix packages included in IGT’s game sales this quarter (they sold approx 5,300 in total, compared to 4,017 as of the June quarter).  We think the math works as follows:
    • MLD= 21,000 list price *90% = retail price (~19k)
    • Less 2 free conversion kits ~ 2,750/ each = $13,400
    • So 1,300 of the 3,330 units in NA were priced at $13,400, which implies a price of $14,700 for the other units sold.  Without Dynamix, the price would have been even higher since the MLDs sold in the quarter would not have been discounted.
  • Domestic non-machine sales were $10MM better than our estimate due to better systems and conversion sales. It would be really helpful if IGT provided any information to model this bucket, like conversion kit sales, used games, or systems data.
  • Margins on Domestic product sales were weak.  Partly driven by very low unit sales and therefore the impact of fixed costs.  We also think that non-machine margins were impacted by higher mix of systems products which carry lower margins than conversion kits.  Therefore, despite beating our revenue estimate by $5MM, gross margins were in-line with our estimate.
  • International box sales blew away our number
    • FX was a large part of this – ASP was $1,700 higher than our estimate and $2k higher on units ex. Barcrest.  There was also a $18MM FX benefit to cash flow this quarter… a lot of which came from Australia.
    • International units recognized were 1,475 higher than our estimate with the outperformance coming from Latin America, Asia and Australia.  The international unit breakdown was as follows:
      • Asia: 400
      • Australia: 1,900
      • Europe: 400
      • UK: 2,800
      • S. Africa: 200
      • Mexico: 0
      • Latin America: 1,900
    • Gross margins were also a lot stronger at 55% vs. our estimate of 47%. We think that some of this is due to lower mix of low margin Baccarat & elimination of Japan.  We also suspect that non-box sales were mostly conversions.
    • The remaining Alabama units came out of game operations this quarter – so going forward there are no Alabama units in the numbers. 
    • Guidance of hoping to get better yields and flat install base isn’t exactly inspiring… nor do they have a track record of being able to grow yields – especially given the mix shift away from WAP games of late. 
    • On the positive side, D&A per game ops device is decreasing meaning that the average game life is increasing
    • SG&A was high.  They actually had a $1.9MM credit for bad debt expense so clean SG&A was almost $93MM.  Claims that there is a lot of G2E expense in there as well as bonuses etc.  The good news is that SG&A should be flat next year.
    • They are looking at taking out the convert – which would be nicely accretive to next’s year’s EPS

Industry stuff

  • While we won’t know exact market shares until ALL reports, IGT did garner the highest share this quarter.  Based on our estimates it looks like they stayed at 26% followed by WMS at 18%, Konami at 16% and BYI at 16%.  That is based on recognized shipments.  For actual shipments, IGT’s market share was even higher.
  • It looks like total shipments this quarter were roughly 12,750, with just over 9,000 coming from replacements compared with 11,000 in 3Q2009