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SGMS ACQUISITION OF WMS CONF CALL NOTES

Borrow cheaply, buy cash flow and profitability at a reasonable multiple, utilize NOLs - worked for PNK and should work for SGMS.

 


"The acquisition of WMS is transformational for Scientific Games, enabling us to offer a complete portfolio of lottery and gaming products and services to both new and existing customers around the world.  We expect to combine our game content, technology, operational capabilities and respective geographic footprints to create an enterprise poised to capitalize on significant growth opportunities around the globe." 

 

-A. Lorne Weil, Scientific Games' Chairman and Chief Executive Officer

 

 

CONF CALL NOTES

  • Opportunity of a lifetime for both companies
  • Faster growth of their business has been outside the US but for structural reasons all of their interest expense and most of their operating expenses are inside the US. Therefore their EPS has lagged revenue growth.  They have racked up a huge NOL inside the US. 
  • WMS is almost a mirror image of their situation - 75% of WMS's business comes from within the US and they have a pristine balance sheet. Also have a large tax bill in the US
  • The merger will give them huge EPS growth and a significant number of investors care about P/E multiples. So at last they will look attractive on that valuation basis. This acquisition will allow them to reap huge cash flow savings as a result of utilizing their NOL.
  • Feel confident that SGMS's existing international footprint can help WMS cross sell their products. 
  • Feel that there will be more expansion by the lotteries (internationally) into traditional slot related product. 
  • Greek lottery is expected to create a national network of thousands of machines and SGMS is partners with OPAP, so that puts them in a unique position
  • The financial engineering rationale isn't the only reason for this acquisition. They have a lot of industrial logic.  They have virtually no competitive overlap between the WMS & SGMS businesses. However, the businesses are complementary.
  • Think that there is a huge revenue synergy from being able to cross sell each other products and create new products, systems and services that neither company is currently offering to the market
  • Think that that there is an opportunity for cost savings since they are both in the business of manufacturing, designing, acquiring 3rd party content, and expanding into the online world... therefore, there should be cost syngeries and scale benefit here.
  • The two companies have a high degree of cultural compatibility (that's a little scary...)
  • Need regulatory and government approvals to complete the transaction
  • SGMS: 
    • 50% of their revenue comes from their instant ticket business
    • 25% is from their traditional lottery systems business
    • 25% from providing machines and systems supplying to VLT markets with just a few devices per location vs. casino operators
  • In IL they are going to be providing the monitoring system for VLTs
  • Feel like WMS's business is on the verge of a turnaround 
  • Like WMS's game server intergration business and will complement their similar business. Together they can have a leading business.
  • Both companies are leaders in using licensed brands to promote their respective products. Have a few brands where they overlap and can help each other acquire developing content.
  • Thinks that the lottery distribution channel will be a huge opportunity for WMS
  • Feel like the US economy is in the beginning of a recovery, albeit perhaps a slow one.
  • Combined leverage with no synergies will be 5x on an LTM basis and 4.4x with synergies compared with current leverage of 4.0x

Q&A 

  • WMS is the best possible partner for SGMS with no close second.  
  • Integration with WMS: Expect to have 2 operating sectors with a lottery one and a gaming one
    • Regarding Barcrest: They will intergrate Global Draw with Barcrest and move that over into the "gaming sector"
    • They intend to keep the WMS brand and the senior management team to continue to manage the gaming sector - including whatever SGMS has
  • Term loan that they will use to finance the deal has a 7-year term and they will have a $300MM R/C
  • Do not believe that they will have to exit any businesses as a result of the combination
  • There are a number of lottery jurisdictions that are either run by a private operator like OPAP, where WMS's content can help them on the VLT side
  • Wouldn't characterize that WMS is in the midst of a turnaround, nor would WMS
    • huh?
  • Competitive implication of this combination is not likely to help the other gaming suppliers
  • The interactive opportunity? Thinks it's a big opportunity given SGMS's view that online gaming will proliferate through the government/lottery channel vs. federal legislation in the US. Their relationships with lotteries and foreign governments and WMS's content and efforts in that arena could be hugely synergistic.

 

HIGHLIGHTS FROM THE RELEASE

  • SGMS and WMS have "entered into a definitive agreement under which Scientific Games has agreed to acquire WMS for $26.00 in cash per common share or approximately $1.5 billion." 
    • Includes assumption of $85MM of debt and $55MM of cash
    • Price translates to a 6,0x TTM EBITDA multiple (looks low but this is just because WMS's cash flow conversion is terrible. They have always had a low multiple)
    • Acquisition is subject to WMS shareholder approval
    • Expected closing by end of 2013
    • SGMS has committed financing 
  • The combined company will have revenue of approximately $1.6BM and EBITDA of $579MM based on TTM results ended September 30. 
  • The transaction was unanimously approved by both company Boards
  • "We view this transaction as the next logical and strategic step in offering continued innovation in gaming. Shareholders will enjoy a meaningful premium for their shares and employees will have expanded career opportunities as part of a larger, broader and more diverse organization"
  • "Scientific Games expects to achieve synergies through revenue growth, shared costs and larger scale, as well as by monetizing its significant U.S. tax attributes. The combined company will also be able to efficiently utilize shared manufacturing, engineering, software, field maintenance and customer service to drive growth and cost savings"
  • Other reasons for the combination: 
    • Complementing businesses leveraging core competencies
      • "Scientific Games and WMS will draw on each organization's core strengths to broaden offerings, bring gaming products to new sectors and geographies, accelerate key growth initiatives and offer enhanced capabilities, systems, field service and content. Scientific Games' strong global footprint, including its position in server-based gaming, should help accelerate WMS' international development initiatives."
    • Diversification of revenues
    •  Strengthened position in interactive gaming
      • "The combined iLottery/iGaming platform and content will significantly expand the scope of the combined company's interactive products.  WMS has a well-developed iGaming platform, including social and mobile gaming, while Scientific Games has an advanced platform for iLottery, sports book and loyalty/rewards. Scientific Games expects significant opportunities to cross-sell these products to the companies' respective customers"

The Game Of Risk

Client Talking Points

Play The Hand You’re Dealt

The market is very much like a poker game at a casino: you have to play the hand you’re dealt. Monday and Tuesday of this week, we bought US equities. Yesterday, we sold ‘em. Today, we’ll follow the risk and the range combined with our fundamental research to make a decision on what we’re going to do. This recent bull market is so driven to continue going up and to the right that the Chicago PMI numbers out today may not even make a dent in the SPX. It’s important to keep an eye on other asset classes, too.

 

If bonds and gold keep declining and stocks keep going up, we’ve got the growth the market is looking for. Throw in $130 a barrel oil and now you have a problem as global consumption growth stalls. It all revolves around The People of this great country. If gas prices are $6 a gallon and bread and milk cost $10 combined at the grocery store, they will not be going out and buying shoes, iPhones and other goods.

Housing Recovery

We continue to see recovery in the housing market with data point after data point coming out each week that signals that the recovery is underway. Inventory is falling, prices are going up, people are taking out mortgages and buying homes; things are good. This recovery may soon trickle over to the regional banks who are involved with housing. Hedgeye Financials Sector Head Josh Steiner put out a note on TCF Financial (TCB) yesterday summed up by this:

 

"TCB remains a favorite long idea of ours on an ongoing housing recovery which is just starting to have a powerful influence on fundamentals."

 

Asset Allocation

CASH 56% US EQUITIES 10%
INTL EQUITIES 10% COMMODITIES 0%
FIXED INCOME 0% INTL CURRENCIES 24%

Top Long Ideas

Company Ticker Sector Duration
ASCA

We believe ASCA will receive a higher bid from another gaming competitor. Our valuation puts ASCA’s worth closer to $40.

FDX

With FedEx Express margins at a 30+ year low and 4-7 percentage points behind competitors, the opportunity for effective cost reductions appears significant. FedEx Ground is using its structural advantages to take market share from UPS. FDX competes in a highly consolidated industry with rational pricing. Both the Ground and Express divisions could be separately worth more than FDX’s current market value, in our view.

HOLX

HOLX remains one of our favorite longer-term fundamental growth companies given growing penetration of its 3D Tomo platform and high leverage to the 2014 Insurance Expansion from the Affordable Care Act.

Three for the Road

TWEET OF THE DAY

“One theme I'm noticing in earnings this season... "performed well despite challenging times" has replaced hand-wringing.” -@HerbGreenberg

QUOTE OF THE DAY

“Physicists like to think that all you have to do is say, these are the conditions, now what happens next?” -Richard P. Feynman

STAT OF THE DAY

U.S. consumer spending rose 0.2% in December as incomes jumped 2.6%, most in eight years.


HLF: Expert Call Today @ 10:30

Takeaway: Today's conference call featuring multi-level marketing expert Dr. Jon M. Taylor will explore key topics surrounding HLF.


Call: Thursday, January 31, 2013 at 10:30am EST 


If you would like to receive the dial-in information for this call please email .



The Hedgeye Consumer Staples Team, led by Rob Campagnino, will be hosting an expert conference call entitled "An Expert's Opinion on Multi-Level Marketing, Pyramid Schemes and Herbalife" on Thursday, January 31st, at 10:30am EST featuring multi-level marketing expert Dr. Jon M. Taylor. 


KEY TOPICS WILL INCLUDE

  • What is a pyramid scheme?
  • Contextualizing Herbalife (HLF) and its peers within the history of multi-level marketing
  • What is the likelihood that the FTC will take significant action against HLF?
  • If in fact HLF is a pyramid scheme, as Ackman claims, how long can it continue its growth pattern before collapsing?

 

ABOUT DR. JON M. TAYLOR

Dr. Taylor has dedicated a majority of his career to researching multi-level marketing (MLM) and its impact on consumers. He has authored books and numerous analytical reports on profitability, viability, ethics and abuses of "product-based pyramid schemes" including The Network Marketing Game and The Case (for and) Against Multi-level Marketing. Through his research Dr. Taylor developed tools for evaluating MLMs and their profitability (or lack thereof).  


His Five-step Do-it-Yourself Evaluation of MLM Programs is an interactive program for visitors to his website - www.mlm-thteruth.com. His research has been confirmed by the analysis of over 400 MLMs and feedback from thousands of consumers. Dr. Taylor received an MBA degree from BYU and a Ph.D. in Applied Psychology from the University of Utah. He is currently President of the Consumer Awareness Institute and President of the Jon Taylor & Co., Inc.


Please contact to obtain the dial-in information for this call and a copy of the presentation, or to learn more about our research.

 

 

ABOUT ROB CAMPAGNINO
Rob has nearly 20 years experience in the industry and within the last 5 years on the buy side at some of the top hedge funds in the business, including Pioneerpath, Diamondback Capital, and Searock Capital. Prior, he was a senior equity analyst at Prudential Securities where he was consistently Institutional Investor ranked. Before Prudential he was at Sanford Bernstein as an equity research associate covering food, beverage, and retail. He began his career as a strategic consultant with PricewaterhouseCoopers. Rob has a MBA from Columbia and BA in Economics from Duke.



 


the macro show

what smart investors watch to win

Hosted by Hedgeye CEO Keith McCullough at 9:00am ET, this special online broadcast offers smart investors and traders of all stripes the sharpest insights and clearest market analysis available on Wall Street.

HLF: Expert Call Today @ 10:30am EST

Call: Thursday, January 31, 2013 at 10:30am EST 

 

If you would like to receive the dial-in information for this call please email .

 

The Hedgeye Consumer Staples Team, led by Rob Campagnino, will be hosting an expert conference call entitled "An Expert's Opinion on Multi-Level Marketing, Pyramid Schemes and Herbalife" on Thursday, January 31st, at 10:30am EST featuring multi-level marketing expert Dr. Jon M. Taylor. 

 

 

KEY TOPICS WILL INCLUDE

  • What is a pyramid scheme?
  • Contextualizing Herbalife (HLF) and its peers within the history of multi-level marketing
  • What is the likelihood that the FTC will take significant action against HLF?
  • If in fact HLF is a pyramid scheme, as Ackman claims, how long can it continue its growth pattern before collapsing?

 

ABOUT DR. JON M. TAYLOR

Dr. Taylor has dedicated a majority of his career to researching multi-level marketing (MLM) and its impact on consumers. He has authored books and numerous analytical reports on profitability, viability, ethics and abuses of "product-based pyramid schemes" including The Network Marketing Game and The Case (for and) Against Multi-level Marketing. Through his research Dr. Taylor developed tools for evaluating MLMs and their profitability (or lack thereof).  

 

His Five-step Do-it-Yourself Evaluation of MLM Programs is an interactive program for visitors to his website - www.mlm-thteruth.com. His research has been confirmed by the analysis of over 400 MLMs and feedback from thousands of consumers. Dr. Taylor received an MBA degree from BYU and a Ph.D. in Applied Psychology from the University of Utah. He is currently President of the Consumer Awareness Institute and President of the Jon Taylor & Co., Inc.



Please contact to obtain the dial-in information for this call and a copy of the presentation, or to learn more about our research.


UA: Numbers Are Not What They Seem

Takeaway: Lower rev guidance plus lower SG&A on top of leadership chg does not fill us with confidence that UA will be smoking top line net yr.

Overall, a good print from UA with top line (+25%) and EBIT (+47.5%) both accelerating and beating expectations and EPS a penny ahead of consensus. The top line came in robust at face value – there’s no denying that. But after adjusting for retail gross-up it was slightly less impressive. That said, Gross Margins were weak – coming in -132bp vs last year, compared to guidance that they could be down at a rate nearing -100bp.

 

As an offset, SG&A grew at 13%, the slowest rate since 2Q09.  The reality is that guidance for the upcoming year is a tad light at +20-21% top line, and there was zero mention in the press release of the strategic issues that we think are looming in the footwear organization (evidenced by UA’s FW czar Gene McCarthy departing last week). If the company would have had a mor normalized SG&A rate, it would have missed by about a nickel. Perhaps there’s a great reason for that, which we’ll hear about on the 8:30 call. But given the lack of traction in FW, we’d rather see the company keep SG&A in the business in order to stimulate continued share gains.

 

Lower revenue guidance plus lower SG&A on top of leadership changes does not fill us with confidence that the company will be smoking top line estimates next year – something it will need to support its multiple.

 

Also, a little factoid to keep in mind as it relates to UA’s revenue… Given a $59mm sequential positive pop in direct-to-consumer revenue, we should juxtapose that against the -$69mm decline in aggregate revenue. We won’t penalize the company for going more direct. That’s the wave of the future. But booking retail revenue is optically more attractive than going wholesale. The way we look at it, if you ex out the retail gross up, there was no sequential uptick in revenue. In fact, it was down slightly.

 

One of the biggest positives was the improvement in inventories, which clocked in $5mm below last year despite a $100mm boost in revenue. A clean balance sheet is something UA needs right now. 


THE HEDGEYE DAILY OUTLOOK

TODAY’S S&P 500 SET-UP – January 31, 2013


As we look at today's setup for the S&P 500, the range is 16 points or 0.46% downside to 1495 and 0.60% upside to 1511.    

                                                                                                                           

SECTOR AND GLOBAL PERFORMANCE


THE HEDGEYE DAILY OUTLOOK - 1

 

THE HEDGEYE DAILY OUTLOOK - 2

 

THE HEDGEYE DAILY OUTLOOK - 3

 

THE HEDGEYE DAILY OUTLOOK - 4

 

EQUITY SENTIMENT:


THE HEDGEYE DAILY OUTLOOK - 10


CREDIT/ECONOMIC MARKET LOOK:

  • YIELD CURVE: 1.71 from 1.73
  • VIX  closed at 14.32 1 day percent change of 7.59%

MACRO DATA POINTS (Bloomberg Estimates):

  • 7:30am: Challenger Job Cuts Y/y, Jan. (prior -22.1%)
  • 8:30am: Employment Cost Index, 4Q, est. 0.5% (prior 0.4%)
  • 8:30am: Personal Income, Dec., est. 0.8% (prior 0.6%)
  • 8:30am: Personal Spending, Dec., est. 0.3% (prior 0.4%)
  • 8:30am: Initial Jobless Claims, Jan. 26, est. 350k (prior 330k)
  • 9:00am: NAPM-Milwaukee, Jan., est. 52.0 (prior 52.2)
  • 9:45am: Chicago Purchasing, Jan., est. 50.5 (prior 50.0)
  • 9:45am: Bloomberg Consumer Comfort, Jan. 27 (prior -36.4)
  • 10am: Freddie Mac mortgage rates
  • 10:30am: EIA natural gas
  • 11am: Fed to purchase $1.25b-$1.75b in 2036-2042 range

GOVERNMENT:

    • Senate in session
    • CFTC holds public roundtable on “futurization” of swaps market, 9:30am
    • SEC meets on federal securities rules, regulations affecting small businesses, 9:30am
    • FCC holds open commission meeting, 10:30am
    • Energy Secretary Steven Chu delivers keynote remarks on electric vehicles, Convention Center

WHAT TO WATCH

  • Facebook profit declines 79% on spending to lure advertisers
  • KKR, Apax said to team up for Vivendi’s GVT against DirecTV
  • Apollo chosen with Metropoulos as lead bidder for Hostess cakes
  • Paulson added to ACA Financial abacus suit against Goldman
  • Qualcomm forecasts profit, sales that top analysts’ ests.
  • Honda Motor cuts profit forecast on China, Europe sales drop
  • Shell misses profit ests., says investment costs to rise
  • Deutsche Bank posts $3b 4Q loss on costs
  • STMicroelectronics sees funding costs in chip venture exit
  • J&J’s Ekdahl says hips recalled because of unmet clinical needs
  • German Jan. unemployment unexpectedly declines
  • BOJ could add further easing if needed, Yamaguchi says
  • U.S. revisits AB InBev’s Modelo takeover plan, N.Y. Post says

EARNINGS:

    • Potash of Saskatchewan (POT CN) 6am, $0.57, preview
    • Enterprise Products Partners (EPD) 6am, $0.65
    • Time Warner Cable (TWC) 6am, $1.55, preview
    • Whirlpool (WHR) 6am, $2
    • Dunkin’ Brands Group (DNKN) 6am, $0.33
    • Aetna (AET) 6am, $0.94
    • Ball (BLL) 6am, $0.66
    • Thermo Fisher (TMO) 6am, $1.28, preview
    • Helmerich & Payne (HP) 6am, $1.29
    • PulteGroup (PHM) 6:30am, $0.31, preview
    • AutoNation (AN) 6:45am, $0.64
    • Dow Chemical Co/The (DOW) 6:55am, $0.34
    • Xcel Energy (XEL) 7am, $0.28
    • Viacom (VIAB) 7am, $0.90, preview
    • Zimmer Holdings (ZMH) 7am, $1.49, preview
    • Colgate-Palmolive Co (CL) 7am, $1.40, preview
    • Elizabeth Arden (RDEN) 7am, $1.64
    • Hershey Co/The (HSY) 7am, $0.76
    • Altria Group (MO) 7am, $0.55, preview
    • Nasdaq OMX Group (NDAQ) 7am, $0.61
    • Consol Energy (CNX) 7am, $0.23
    • Energizer Holdings (ENR) 7am, $2.15
    • Alliance Data Systems (ADS) 7am, $1.80
    • Pitney Bowes (PBI) 7am, $0.51
    • Hillshire Brands (HSH) 7am, $0.47
    • Penn National Gaming (PENN) 7am, $0.50
    • Under Armour (UA) 7am, $0.46
    • Occidental Petroleum (OXY) 7:30am, $1.66
    • Cameron International (CAM) 7:30am, $0.95
    • Mead Johnson Nutrition Co (MJN) 7:30am, $0.68
    • Invesco Ltd (IVZ) 7:30am, $0.47
    • Dominion Resources /VA (D) 7:30am, $0.69
    • AmeriGas Partners (APU) 7:30am, $1.01
    • Bemis Co (BMS) 7:30am, $0.50
    • United Parcel Service (UPS) 7:45am, $1.38, preview
    • Ryder System (R) 7:55am, $1.10
    • Royal Gold (RGLD) 8am, $0.43
    • Paccar (PCAR) 8am, $0.68
    • Blackstone Group (BX) 8am, $0.47
    • Sherwin-Williams (SHW) 8am, $1.16
    • Mastercard (MA) 8am, $4.80
    • Chubb (CB) 4pm, $(0.46)
    • Principal Financial Group (PFG) 4pm, $0.74
    • Fortune Brands Home & Security (FBHS) 4:01pm, $0.22
    • Wynn Resorts Ltd (WYNN) 4:01pm, $1.27
    • Bally Technologies (BYI) 4:01pm, $0.76
    • PMC - Sierra (PMCS) 4:04pm, $0.10
    • CR Bard (BCR) 4:05pm, $1.67
    • NetSuite (N) 4:05pm, $0.04
    • PerkinElmer (PKI) 4:05pm, $0.65
    • McKesson (MCK) 4:10pm, $1.63
    • Essex Property Trust (ESS) 4:12pm, $1.73
    • Validus Holdings Ltd (VR) 4:15pm, $(1.70)
    • Camden Property Trust (CPT) 4:15pm, $0.96
    • Manitowoc (MTW) 4:30pm, $0.24
    • Eastman Chemical (EMN) 5:01pm, $1.19

COMMODITY/GROWTH EXPECTATION (HEADLINES FROM BLOOMBERG)

  • Oil Trades Near Four-Month High as Fed Maintains Asset Buying
  • Rubber Extending Bull Market With Record Car Sales: Commodities
  • Soybeans Drop as Brazil’s Harvest Seen Proceeding Amid Rainfall
  • Copper Reaches Three-Month High as Fed Maintains Asset Purchases
  • Cotton Futures Decline in N.Y., Head for First Drop This Week
  • Gold Drops in New York as Metal Subject to ‘Opportunistic’ Sales
  • Palm Oil Surges to Three-Month High as Stockpiles Seen Falling
  • CME Retreat on Grain Hours Welcomed by Traders Who Need to Sleep
  • Rebar Gains for Second Month on Optimism for China Growth
  • India May Consider Ending Four-Decade Old Curbs on Sugar Mills
  • Silver Wheaton Attracts Capital-Hungry Miners: Corporate Canada
  • Polysilicon Seen Rebounding as China Plans Import Duties: Energy
  • U.K. Gas Stations Fairly Reflect Crude Prices: Chart of the Day
  • Robusta Coffee Gains to One-Week High on Stockpiles; Cocoa Rises

THE HEDGEYE DAILY OUTLOOK - 5

 

CURRENCIES

 

THE HEDGEYE DAILY OUTLOOK - 6

 

EUROPEAN MARKETS

 

THE HEDGEYE DAILY OUTLOOK - 7

 

ASIAN MARKETS


THE HEDGEYE DAILY OUTLOOK - 8

 

MIDDLE EAST


THE HEDGEYE DAILY OUTLOOK - 9

 

 

The Hedgeye Macro Team

 

 

 

 


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