In preparation for IGT's 2Q earnings release tomorrow, we’ve put together the recent pertinent forward looking company commentary.



IGT Granted License from Gaming Commission for Online Poker (6/21/2012)


IGT Announces New $1BN Share Repurchase Authorization and $400MM Accelerated Stock Buyback (6/14/2012)

  • IGT entered into an accelerated stock buyback agreement with Goldman Sachs under which it will repurchase approximately $400MM of its common stock.  The accelerated stock buyback will be conducted as the first part of the Company's new $1BN share repurchase authorization. 
  • Initially, Goldman Sachs has agreed to deliver approximately 21MM shares IGT's stock  on or before July 6, 2012.
  • The remaining $600MM is currently anticipated to be utilized over the next 3 to 4 years.

IGT Partners with Atlantic Lottery to Upgrade VLT Network (5/24/2012)

  • Signed an agreement with Atlantic Lottery, a public corporation owned by the governments of Nova Scotia, Prince Edward Island,New Brunswick and Newfoundland and Labrador, to provide 1,612 video lottery terminals for the replacement of obsolete units.



  • "I would say the mood is improving but still tempered. I think we're all wondering about the economy as we go into this election cycle, and then, post-election, kind of what things look like next year. And I think there's always a great intent to make investments and then just stopping short of actually making it at the same robust level....I would say people are enthusiastic but still a little anxious."
  • "We feel very good about our position there [Canada], that market is going through a huge replacement cycle in 2013 and 2014, fiscal 2013 and 2014 for us, is kind of a once-every-10-year opportunity, so when it comes, you have to really be prepared. We feel like we are prepared. It's a huge opportunity for us."
  • [DoubleDown] "We've owned it now for three or four months, and we're comfortable that it's out ahead of what we expected it to be at this point financially. It will be accretive on an adjusted basis this year, and accretive on a GAAP basis in 2014."
  • [DoubleDown] "On your projections, EBITDA should roughly triple from here, and that would equate to a purchase multiple of roughly 6.5 to 7 times EBITDA on 2014. Are we in the same ballpark?"
    • "So I would say your math makes sense in this kind of a worst-case, and we think there's actually a lift from that in the business, just based on the R&D that has been spent years ago, and putting some legs on that R&D as we repurpose a lot of our content into the social gaming space and monetize it, again, when it's been sitting on the shelf."
  • [Bringing a theme via Double Downs] "It's one-third the cost generally to get something out into that marketplace, which is important for us. If you think about the hits business that you're in in the casino floor, it really reduces the strikeouts and makes sure that you have more hits in that marketplace, so a very important testing vehicle for us as well as just a revenue and customer touch point."
  • "The Dark Knight has moved out from Vegas into some of the regional markets. It's doing well in the regional markets. We've moved our Dark Knight into Monaco. I had an opportunity to be there for the unveiling of The Dark Knight. And it's amazing; you don't think it really would translate to a bunch of French tourists, but the reality is it really does translate, and it all comes down to the video that we talked about earlier. That video component, that immersive component really pulls people in. Sex and the City has moved to the Asia-Pac region, which has been great, and it's playing well down there, and our MegaJackpots into Macau, the first MegaJackpots into Macau, again, really performing well and ready to expand down there. We're excited about the product lineup looking very good"



  • "Our international business pace continues to accelerate, with improvement in both quantity and quality of order flow."
  • "Our first Cloud trials are up and running across Europe, and our partnership with Lottomatica in Italy underscores the value of our leading game content and our intense focus on driving higher returns on our investments in research and development."
  • "We expect our financial results will continue to strengthen throughout the remainder of this fiscal year."
  • "We are responsibly focused first on reducing risks and managing that which is within our control."
  • "Our core objectives for 2012 remain consistent, as we look to grow revenues, build on the momentum of our internal improvements, leverage our income statement and energize our Interactive business."
  • "We're generally pleased with our WAP product performance. It continues to perform as expected.  Really, the quarter was really just a mix to the lower earning units and we expect continued improvement sequentially over the remainder of the year."
  • "We had an isolated non-standard cost situation in our Asia-Pac region in the quarter, so we are anticipating that the gross margins across the board... will pick up between now and the year – and the end of the year back to more normalized levels."
  • "We're very comfortable, if you look at the accretion to cash earnings that Double Down has provided, we feel very comfortable that it's outperforming our expectations in the business case going into the acquisition. I think the thing to keep in mind is that the way we count our daily users is a little bit different than others in the market because we count them when they come in the door of Double Down. So if you go into the Double Down casino and you play more than one machine, it still is only counted as one. So we're very focused on the stickiness of the full-on casino as opposed to an individual game."
  • "Our outlook is positive for North American replacements. It will, we think, continue to strengthen throughout the year, we will expect North American replacements to grow modestly over the remainder of the year, but there wasn't anything extraordinarily unusual in the quarter that doesn't lead us to believe that there's continued strength in that market for us...the replacement market is going to be flat to growing has kind of been IGT's stance now for about six months. This year's going to be flat to growing and our share in that is going to be in the mid 30%s. So I think that tells you year-over-year, our North American replacement markets will be in that kind of 3% to 5% growth range with, you know, about a mid 30% share."
  • "It's just worth noting that when you think about our business on an annual basis, we're targeting in that kind of mid-30% market share range"
  • "I would say that we have drawn out the retention payments because they are of a short duration. They will only be in place for a short number of years. And recognize that currently they are not cash payments. They are accruals against cash payments that will be earned into the future"
  • "In the quarter on an adjusted basis, Double Down contributed about a penny. And we expect that to be the case for the next couple of quarters as well."
  • "Just to add clarity, on the $0.15 that's in our press release, that predominately relates to the amortization of certain intangibles which we detail out separately in the current quarter, and we'll most likely continue to do in future quarters, as well as the retention payments, which we are also independently calling out on our income statement due to their size and the short-term nature over which they will appear in our income statement."
  • "We're certainly hoping to count on a couple more pennies to carry forward this quarter's performance of Double Down forward, but not in the bank yet."
  • "It's a reflection of our focus on the international market, moving ourselves to higher ground there with more sophisticated installations and the investment that we've made, the R&D investment to build localized content."
  • [Replacement level] "We've recognized 8,100 units. I think that's a comfortable kind of six month rate for us that we feel very comfortable with. And as we indicate I think every quarter, you're going to find things moving around quarter-to-quarter but kind of sitting in at that level on an annual basis is something we're comfortable with."
  • "Gross margins for the Interactive business, Double Down in particular, is a little skewed because of the way the Facebook credits come through. So a little bit higher revenue growth, a little bit more stretched gross margins. We expect those gross margins because of the way it's so kind of clinical in the calculation, right? It's ...$0.70 of every dollar for us. We expect them to kind of hold in there in the Double Down business and the general Interactive business outside of that, we expect slight margin pickup there in the back half."
  • "We haven't really pursued the Cloud domestically at this point. We've been very focused with both regulators and customers outside the U.S. and are very comfortable with the trials and we're very focused now on converting the trials to commercials. That will take place over the coming months. And I would say the U.S. is still well into 2013 or 2014, until we really start thinking about. There's a lot of work that has to be done regulatorily but also just in really exercising the Cloud technology with our customer set ahead of bringing it into the U.S."
  • "It's interesting to see the legs on Sex and the City internationally.  That's been a real pleasant surprise for us, to see how applicable that product is outside the U.S. So we've really been able to pick up some strength by adding life to the Sex and the City product, the original product. Dark Knight not just here in the U.S. but outside the U.S. also very strong for us, Ghostbusters as well. So we're feeling very good. Breakfast at Tiffany's is doing very well. It's moved from an exclusive out more generally into the market. So we feel good about how the product is playing. And Big Buck Hunter is kind of the next generation for us. So I feel like we have a nice lineup of product in the bag of the sales folks at this particular point in the game ops side."
  • "Asia is a great opportunity for share pickup for us. In Central, South Latin America, it's really more about new openings and some share pickup. But, you know, I will tell you that our EMEA group has really done a remarkable job at really getting us back in doors that we had not been in in a very, very long time introducing new product that many of our customers had not been introduced to. So I would just say we can't count out our EMEA region. They really are scrambling for every machine order and they've proven that, you know, every machine order matters."
  • [International share target] "Can we set our sights on being north of 20%? I think we can set our sights on that."
  • [Canada VLT] "We still think we might get some in the September quarter. It just kind of comes down to timing and revenue recognition issues. It's really going to be more of a 2013 event. There may be 1,000 contracts or so that sneak into September. But we... obviously got a very good share from the first announcement and we're hopeful that those kind of trends continue."
  • "Our current forecast is that the Ohio properties will be recognized in June. That being said, that largely comes down to the licensure process and the requirements we need to meet in order to ensure appropriate revenue recognition but our current perspective is those will be recognized in our third quarter."


There wasn’t too much to get excited about in the McDonald’s quarter.  June comps were much better from a headline perspective than we were expecting but that was primarily due to an underestimation of the calendar shift benefit.  Sales growth is expected to decelerate, on a sequential basis, in July from June.  The company’s commentary on macro headwinds and, in particular, consumer confidence in various markets, was sobering.  Below we go through a quick earnings recap and offer some comments on the outlook for the company.  We remain cautious on McDonald’s; on 6/20 we wrote a note titled, “MCD – JUNE LOOKS LIKE IT’S GOING TO BE A ROUGH ONE”, that discussed our view on McDonald’s prospects for June and the rest of the summer.  Our stance is unchanged; we believe that fundamental and macro headwinds are likely to pressure MCD’s stock during the summer months.



Earnings Recap:


McDonald’s reported 2Q12 EPS of $1.32 versus $1.38 consensus expectations.  As the table below shows, besides some leverage gained over “other” expenses, the company failed to meet the Street’s expectations for 2Q on all major earnings-related metrics.  The Consensus Metrix consensus was looking for 2.2% EPS growth.  Importantly, management stated that the FY12 constant currency operating income growth rate will be at or somewhat below the 6-7% long-term operating income growth rate. 


MCD: GLOOMY OUTLOOK - mcd eps recap 1



June/July Comparable Sales


Global comparable sales for the month of June came in at 4.4% versus 2.1% consensus.  The calendar shift, of 1.0-2.9% varying by area of the world, was greater than we expected.  Global comparable sales in July are expected to be positive, according to the company, but less than the second quarter results. 


MCD: GLOOMY OUTLOOK - mcd global june



United States comparable sales for June came in at 2.9%, marginally ahead of consensus.  We underestimated the impact of the calendar/trading day shift impact on June results.  On a calendar-adjusted, two-year average basis, the underlying trend – at best – was sequentially flat from May to June.  Management highlighted core menu favorites and new additions to the McCafé as key sales drivers. 





Europe remains a difficult market for McDonald’s with consumer confidence waning across the region, according to management commentary.  Italy remains a particularly difficult menu for McDonald’s.  Austerity measures and other wage-depressing factors like payroll fees are a drag on McDonald’s business in Europe.





APMEA was impacted by slowing economic conditions in China, Australia and Japan.  Breakfast continues to grow as a day part in China, now constituting more than 9% of sales.





Looking Ahead:


The outlook for McDonald’s is fraught with uncertainty.  As the company said today, “persistent unfavorable economic conditions are weighing on consumer sentiment and spending”.  Other headwinds as we move through the second half of the year include high G&A expenses, including investments in technology, Olympic sponsorship, and the company’s worldwide convention.


A primary concern for us is the 3% of price that MCD is running in the U.S. with CPI for Food Away from Home running at roughly the same level.  Should the economic environment deteriorate further, the company may have to sacrifice margin to maintain guest counts.


The commodity outlook for McDonald’s was lowered to 3.5-4.5% from 4.5-5.5% prior.  Given recent movements in the commodity market, however, we would not expect that number to decline further from here.


Sentiment has plenty of room to come in although we wouldn’t anticipate a rush for the exit; in 2008, McDonald’s was one of the safest names to own.  As things stand today do not think the stock represents a compelling buying opportunity until it gets closer to $80.


MCD: GLOOMY OUTLOOK - mcd sell side sentiment



Howard Penney

Managing Director


Rory Green



Morgan Stanley: Decision Time

Back on June 11th, we examined the financial health of Morgan Stanley (MS) and asked the question: could it be the next Lehman Brothers? There were several important metrics on the table: the pending (and eventual) downgrade of the firm’s debt (two notches), the current level for credit default swaps (407 basis points on 6/11) and overall exposure to the Eurozone crisis.


Since then, the default swap levels have subsided to 364 basis points as of last Friday, but concerns over Europe have grown. That’s been reflected in the stock price of Morgan Stanley, which has fallen 9.2% or $1.26 since June 11th. It remains the most exposed US bank to the contagion taking place in the Eurozone. Each week, as Spain, Greece and Italy see their bailout needs increase, the aftereffects on Morgan Stanley are clear as investors sell off the stock.


Counterparty perception risk at Morgan Stanley is our chief concern. As perceptions that Morgan is vulnerable grow, as reflected in its stock price, counterparties can, and do, respond to that by dialing back their exposure (their level of business activity) to the firm. This can create a vicious cycle where perception fuels reality.



Morgan Stanley: Decision Time  - MS TIMEBOMB


If shares move low enough, the lack of confidence could trigger the equivalent of an institutional bank run. This can continue until one Friday you have a bank and on Monday you have a bankruptcy (pardon the pun). All eyes are focused on Morgan Stanley at this point in time.


Even though the company’s liquidity and capital are much improved vs. 2008, the market is trading it as though there is no implicit US backstop. Further deterioration of the situation in Europe or in its core business lines could precipitate this counterparty perception risk.


The chart we’ve posted above really reflects the growing concerns associated with MS. The correlation between Europe’s banking crisis and Morgan Stanley is strong. We expect the stock will remain weak until the September 12 German Constitutional Court vote.


We remain bearish on Morgan Stanley across the TRADE (3 weeks or less) and TREND (3 months or less) durations.          


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JCP: FCF Cushion


JCP is pulling one of its levers – i.e. monetizing the majority of its REIT portfolio – to get the cash they’ll need. Chances are they’ll need to do it again while Ron Johnson & Co. work to right-size the ship, but we’re not going to beat them up for monetizing an investment that’s up +30% over the past year. To be fair, it’s the smaller of the two with JCP’s real estate worth an estimated 7x-10x more, but notable in that JCP’s next step should it need additional cash will be to  monetize at least some portion of its real estate portfolio.

Here’s some context on the sale of JCP’s Simon holdings today:

Structural impact:

  1. The value of JCP’s REIT portfolio accounted for nearly 6% of overall EV at ~$380mm, now = ~1%
  2. JCP has a stake in 3 REITs listed below with SPG accounting for ~90% of entire portfolio
  3. They sold ~90% of that stake today (still own 205k units – had owned 2.2mm)
    • Proceeds of the deal of $248mm are at a 20% discount to market value of $311mm and = ~$1.13 in value/share
    • This will be modestly offset by SPG’s $1/share dividend that has generated $2mm in annual Pretax profit (less than $0.01 in EPS)

FCF impact:

  1. JCP guiding to $1bn in CFFO and $800mm in CapEx in 2012 = ~$200mm in FCF
  2. Over last 5yrs, JCP has generated less than $200mm in FCF in 4 of 5 years
  3. In 2011, JCP generated negative FCF of -$50mm
  4. This deal will provide a ~$250mm cushion. Keep in mind, when they report earnings in another 3-weeks they will have likely burned through ~$1Bn in free cash flow (nearly $700mm in Q1) - so they need it

What this means for JCP:

Realizing $1/share in value will likely offer some support to the stock over the immediate-term. But with the value of the operational retail business eroding in value, it’s worth revisiting the value of JCP’s primary asset in the event it too gets monetized.

With Cap rates in the high 7%s and taking into consideration the lower end of the average rent these locations typically command – in the $3.25-$4.00 rent/sq. ft. range, we think JCP’s real estate portfolio is worth $1.8-$2.1Bn in value or $7-$9 per share. This equates to 40%-50% of JCP current market value of $4.4Bn making this asset increasingly more relevant with the stock hovering around $20.

To be clear, this scenario would not be a positive event as it would suggest the need for additional capital inflow implying further erosion in the core retail business. But it does remain an option nonetheless given JCP owns ~40% of its current store base.


JCP: FCF Cushion - JCP REIT Inv Value


JCP: FCF Cushion - JCP REIT Value




Bulls Fighting: SP500 Levels, Refreshed

POSITIONS: Short Industrials (XLI) and Energy (XLE)


Plenty of people keep fighting us on this (and I personally really like to fight), so that means our fundamental research call for #GrowthSlowing is not yet consensus. Quantitatively speaking, managing the risk of the immediate-term range isn’t as easy a call to make.


Across all 3 of our core risk management durations, here are the lines that matter to me most: 

  1. Intermediate-term TREND resistance = 1365
  2. Immediate-term TRADE resistance = 1348
  3. Immediate-term TRADE support = 1329 

In other words, what was immediate-term TRADE support (1348) is now resistance, and we have ourselves a fight.


But the real fight remains between those who thought growth was fine in March/April and those bulls who are still long that same thesis as they see entirely different revenue results. Fighting reality versus expectations is always tough.


Lower-highs since April, keep the bulls on defense and the bears wondering why they aren’t shorter on days when the short side pays.


Keep managing the risk of this bearish intermediate-term range,



Keith R. McCullough
Chief Executive Officer


Bulls Fighting: SP500 Levels, Refreshed - SPX





In preparation for PENN's 2Q earnings release tomorrow, we’ve put together the recent pertinent forward looking company commentary.



Penn National Gaming Files for Ohio VLT Licenses and Consent to Relocate Its Racetracks to the Mahoning Valley and Dayton (7/2/2012)

  • Intention to construct new $125 million racetrack and video lottery terminal (VLT) facilities at the new locations
  • PENN has agreed to pay a $75 million relocation fee for each racetrack, in addition to the $50 million VLT license fee per track.
  • In addition to up to 1,500 VLTs per facility, both of the new properties will feature restaurants, bars and other amenities.
  • PENN has previously indicated that it will continue to operate Beulah Park in the Columbus suburb of Grove City and Raceway Park in Toledo until the expected opening date of the new facilities sometime in 2014. 
  • The new Austintown facility – which will be a thoroughbred track – will be located on 184 acres in Austintown’s Centrepointe Business Park near the intersection of Interstate 80 and Ohio Route 46. It will be known as Hollywood Slots at Mahoning Valley Race Course.
  • The Dayton facility – a standardbred track – will be located on 125 acres on the site of an abandoned Delphi Automotive plant near Wagner Ford and Needmore roads in North Dayton. It will be called Hollywood Slots at Dayton Raceway.

Penn National Gaming to Acquire Harrah’s St. Louis for $610 Million in Accretive Transaction (5/7/2012)

  • Acquires the stock of Harrah’s St. Louis for $610 Million
  • The transaction price represents a 7.75x trailing 7.75 trailing twelve month EBITDA multiple and will be funded through an add-on to PENN's existing Senior Secured Credit Facility. While the acquisition is a stock transaction, for tax purposes, it will be treated as an asset transaction which Pennexpects will provide tax benefits that will effectively reduce the purchase multiple to 6.75x trailing EBITDA.  Pro forma for the completion of the transaction, PENN's total debt to EBITDA leverage ratio will increase to 3.25x from 2.75x (at March 31, 2012). 


  • "Our customers are back and they're back in force, and most of our properties are doing extremely well."
  • "We are seeing overall increased spend per visit slightly, and our marketing activities continue to move low-end customers away from being rated into unrated. So that has an overall effect of improving the quality of your rated play on a per trip basis."
  • "There's rational promo environment out there....The recovery I think will continue to be slow, which is reflected in our guidance for the balance of the year. And we do see the strength in our VIP segment, which is good to know that we're protecting our VIP customers, even though we're able to continue to improve our margins at the lower end of our rated database."
  • "It's clear that the cannibalization immediately is not as strong as what we've been indicating in our previous thought process. So that doesn't mean that the cannibalization doesn't happen. It just seems to be a little bit more delayed than we had in our original numbers."
  • "Relative to what's happening in Kansas City, the ISC property obviously started off really well. And as I think I've indicated a number of other times, it's following the exact pattern that we have seen in every other opening of a property, which is that the property starts off really strong, and then it has a period of a few months where it doesn't match those initial numbers. And it takes anywhere from four months to six months to climb back to the – and I won't say the opening week, but maybe the second, third weeks' opening results. It takes about four months to six months to get back there."
  • "Maryland Live! versus Charles Town, I mean, certainly we are incorporating a bit of that. We think that the cannibalization, original cannibalization thoughts may have been a little bit accelerated in terms of the immediate impact. So we have pulled that back just a little bit."
  • "We're still feeling like there's a lot of room in this year's guidance for movement relative to where we may end up, just because of the fact that there are so many, again, so many issues happening this year as we've moved through these different openings."
  • [Maryland] "Now there has not been a decision on when there's going to be a special session. We assume there will be. We're hopeful that that flawed piece of legislation doesn't come back up in the special session, or if gaming is included in the call, that we kind of reset the clock and that we have an opportunity to argue the merits of our proposal being included in a competitive bid, should the sixth license make it through."
  • "With the opening of the tenth license in Des Plaines, we were prepared for that. We restructured our costs in both Aurora and Joliet to reflect lower business volumes that we're seeing there.  Then in Lawrenceburg, the thing that we've continued to do there is continue to being the 800 pound gorilla in that market today, continue to restructure our marketing spend and reduce our marketing reinvestment, again, to the lower level of our rated database. That has continued to improve the overall margins of that business as well."
  • "We started to see a little bit of improvement in the Boulder Station numbers for the Las Vegas locals. But that coupled with our continued rationalization of the cost structure, we continue to reduce FTEs where we can and adjust our hours of operation in our restaurants and our other non-gaming areas to reflect more current business demands....And continue to, as we've done with the other businesses, look at our marketing reinvestment to the low end of the rated database, and all those things continue to show improvement to the overall performance in the M. But again, we're still early on in this, and it's going to take a couple more quarters going forward into this year and into next year for this to completely take hold. So we're off to a decent start this year, but there is more to come."
  • [Baton Rouge] "I think there is going to be very, very modest growth in this market, and I do think there is going to be significant cannibalization of the two existing casinos that are in that market. So we don't anticipate that there is going to be a good story in Baton Rouge once Pinnacle does open there. So we think the market is fairly well saturated and there will be modest overall growth. Probably not too different than what you're going to see in Atlantic City with the Revel opening that just occurred, given how saturated that market is, we see similar kind of effect in Baton Rouge. So we're preparing for lower business volumes and therefore ready to adjust our cost structure to accept a new paradigm of business levels."
  • "We have seen in certain cases where certain manufacturers have become very aggressive in their pricing to us that has caused us to move a little bit of share over. And machine price over the last five or six years hasn't correlated well with any win-per-unit performance.  So to see an operator or manufacturer, like Konami be very aggressive with their pricing is something that has caught our interest and has given them a little bit of a share shift toward their product, which has performed very well on our floors, especially in the low denom area."

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