Fiscal 2010 top line won't grow by 10% - without providing details, management indicated that revenue growth would be similar to fiscal 2009. WMS has executed - no question. We just question their forward guidance. The bar looks like it might be set too high, and investors are trading the stock as if the guidance was conservative.
Here are our concerns:
- North American new and expansion units will fall 47% in the 4Qs ended June 30th, 2010 - Management touted that only a 1/3rd of their business is North American box sales. That's still a lot of exposure to a business that will experience a huge decline in 2010.
- Financing may have pulled sales forward - WMS ramped up its financing efforts to secure sales. We fear that this aggressive approach may have pulled sales forward and artificially inflated market share at higher prices. The company added $37 million in receivables in the quarter. We are not against using the balance sheet to fund sales. IGT and BYI do it. We are just point out that market share gains in the quarter may not be sustainable.
- No free cash flow - Despite a strong quarter, the company's free cash flow was negative in the quarter. Obviously, the aggressive financing will push out free cash flow generation. We project only $0.80 to $0.85 in free cash flow per share in fiscal 2010.
- No visibility on fiscal 2010 - WMS is no longer providing backlog for "competitive reasons" and because they believe the lead time has shortened so much that comparisons are not useful. They also indicated that the current backlog is within the normal range of the last 16 quarters - that's a big range.
- Hit driven business - More than the other slot companies, WMS's business is more reliant on generating "hit" games. Their strategy is narrowly focused on fewer game launches. Their superb execution has generated by far the highest success rate. The problem is that with their guidance, WMS is projecting success at an even higher level going forward.
- WMS doesn't have the breadth of product to permanently increase market share - Since WMS is more targeted, they don't offer the breadth of product of an IGT or BYI which makes them more reliant on hits but also could cap their market share in the mid 20s%.
- Valuation - We believe 2010 will be flat in terms of EPS growth putting the forward multiple at about 21x our $1.50. Even on the Street's aggressive $1.75 estimate, the multiple still looks full at 18x.
