This note is not really about the "package" but we need to grab your attention. IGT’s Q was pretty much how we thought, not high quality but better than feared. We do have our issues but for now they shouldn’t matter.



The good news: IGT meets formal expectations but beats the whisper number and only cuts the top end of guidance by $0.02. Sure the $0.77-0.85 guidance for the year with only two quarters remaining is big enough to fit the ego of casino CEO, but it didn’t come down as much as feared. IGT also mentioned that it was close to signing two casinos for Server Based Gaming (SBG) and as we’ve discussed, we think one of those is Cosmopolitan.


So where do we go from here? The long-term is so promising for the slot suppliers that we think institutions will want to own this stock now that the dreaded quarter is out of the way and guidance has come down. Replacements look a little better than we thought and while we are not quite ready to call a replacement recovery, investors will flock to IGT (more so than the other names) when they believe we are in a sustainable acceleration. We think WMS is a better intermediate and long-term way to play the slots and we have a lot of concerns with IGT, but over the very near-term IGT may have more juice.


Here are our thoughts on the quarter:


Product sales were stronger than we expected due to more units shipped:

  • In North America, IGT shipped 4,100 replacement units, up 37% sequentially and 128% y-o-y. There is usually a seasonal pickup between the December quarter and the March quarter. It does appear that things are improving on the replacement front – although we will have to wait for WMS and BYI to report to confirm that hunch. Our best guess is that roughly 11,500 replacement units shipped in the March quarter. June is also typically a stronger seasonal quarter than March for replacements.
  • Better than expected unit shipments to North America were offset by lower than expected ASP pricing, due to discounting through the Dynamix package offer. Despite the confusion on the call about Dynamix, it’s quite simple – IGT is effectively discounting to keep floor share in the hopes of securing the replacements order for those legacy units when they eventually come off the floor. Not only has IGT been supporting legacy platforms which were supposed to be phased out but they are also giving away 2 conversion kits with the purchase of a new AVP unit. So for an $18,000 box you get a $24,000 value…a nice 33% discount. This offer will be out there through May so expect another quarter of pricing with a $14K handle. We'll have to see how the competition responds.
  • International shipments benefited from the shipment of 2,200 units to Japan. Apparently IGT went out of Japan with a bang or somewhat of a hit game in the beginning of the quarter. International shipments also included the recognition of 600 units shipped to Marina Bay Sands and Resorts World International in the December quarter.
  • Excluding low priced units shipped to Japan and the UK, International ASP’s were quite strong at $16.3K.
  • IGT has a backlog of 3,200 for sale games.

However, margins were disappointing:

  • Given that IGT has given away 8k conversion kits with the sale of 4k regular priced AVP units, it should be no surprise that margins were weak in North America – despite cost reductions. Conversion kits typically sell for around $3K and have over 90% margins. IGT accounted for the cost of the kits in product sales, with no corresponding revenues.
  • International margins were negatively impacted by a $1.9MM inventory write down.
  • Margin guidance of 48-50% is also “low” given the costs cuts and the fact that IGT’s product sales includes systems business (in addition to conversion kits, used parts and games, and license fees) which at least for Bally’s carries a 65-75% margin…. What gives?

Gaming operations revenues and margins were better than we expected, despite the install base being a lot lower (even aside from the whole Alabama issue):

  • Even adjusting for the Alabama units (which we didn’t subtract from the install base but excluded from revenues), the install base decreased 900 units sequentially.  According to IGT, this is just a timing issue of removing some games while their backlog units are installed.
  • IGT’s participation backlog was 2,153. Although IGT didn’t confirm it, we’re fairly confident that 1,000 units of that backlog are MegaJackpot games going to Sun International in South Africa (which IGT announced on April 5th).   Apparently only 400 of these installs are incremental – so we suspect that some of the international units that came out could be from South Africa. It will be interesting to see how much of this backlog results in net unit placements for IGT – hopefully it will at least replace the 900 units lost this Q.
  • Yields were better than we expected, due to seasonality, better performance, and the removal of the pesky low yielding Alabama games. IGT claims that the removal of the Alabama games only benefited yields by 30 cents, but according to our math it was a lot more than that. While 2,500 games were removed at the end of the quarter, those games didn’t come offline until February 4th and if those 57 offline days cost them $5MM - that implies a win per day of $35…. You can do the math too.
  • Margins were also a lot better – which again shouldn’t be surprising since IGT’s jackpot (WAP aka % coin in) games are being replaced with 80/20 and premium fixed fee games (a la BYI’s) which despite having lower win per days, have much higher margins. IGT was silent on margin guidance for gaming operations on the call but if we are right, margins will continue to be “high”.

So what about Alabama?

  • As IGT plainly stated in their press release (which didn’t stop at least one person from asking the question anyway), 2,500 Alabama units were removed from install base since IGT doesn’t know when those units will come back online and isn’t collecting any revenues on those machines.
  • Since there will be no referendum in November on the legality of the electronic bingo games in question, the issue has been kicked back to the judiciary system. No date has been set for a hearing as of yet.
  • IGT still has another 1,200 units in Alabama at tribal casinos which are not impacted by the current fiasco.

SG&A was materially below guidance:

  • I guess $95-100MM SG&A guidance is a good run rate when IGT makes its unit sales volume targets.
  • A large portion (but less than 50%) of IGT’s SG&A is tied to commissions and variable rate compensation plans. So until units pick up we will take a leap of faith and say that SG&A will be below their ‘target’ range
  • Another contributing factor to the decline in SG&A are lower legal fees. For those you who didn’t follow it closely, IGT has always been litigious – or as they like to say – defensive of their patents. The largest of the BYI/IGT lawsuits was resolved in late Oct 2009 when the US Court of Appeals for the Federal Circuit affirmed a Nevada court’s ruling that IGT’s Wheel patents were invalid.  While there are still open legal cases between IGT and BYI, the activity on those cases has been low of late. Below are the issues that are still outstanding – we suspect that the parties will quietly settle and these two cases will go away.
    • Bally’s antitrust and unfair competition suit against IGT, but no date has been set in this trial
    • IGT’s “bonusing” lawsuit against BYI claiming that certain BYI’s bonusing programs infringe on IGT patents.  IGT’s motion for a permanent injunction against Bally’s infringing products was denied.  A trial to determine the amount of damages incurred by IGT as a result of Bally's infringement has not yet been scheduled.

Come On Into The Water

“By a continuing process of inflation, government can confiscate, secretly and unobserved, an important part of the wealth of their citizens.”

-John Maynard Keynes 


You’d think with all the Keynesian government people running the world today that they might from time to time consider some of Keynes thoughts about inflation. What you’d think a politician should do and what they actually do are often two different things. It’s sad; it’s unfortunate; and it’s all part of the Bubble in Politics.


If you combine a Big Bailout Keynesian spender with local inflation of the borrowing cost of money, you get a politician who has a serious problem. After all, politics are local. Finally, that’s what the Prime Minister of Greece is admitting in front of YouTube cameras worldwide this morning. He is tapping the EU and IMF for immediate help. In the Kubler-Ross Model of Five Stages of Grief, they call this the “Acceptance” stage.


My friend Todd Harrison, who runs Minyanville, has been using The Five Stages of Grief as a metaphor for the storytelling your local politicians and investment bankers alike gave you in May of 2008. It’s two years later and it’s almost May again. Like the Bear Stearns credit default swaps that were blowing out to the upside back then, politicians and levered long only managers alike want you to believe that Greece is just a “one-off event.”


This morning, Greece’s PM George Papandreou will remind the world of a long standing saying that we Hedgeyes have here in New Haven, CT: markets don’t lie; politicians do. Yesterday we saw credit default swaps in Greece rocket higher by 158 basis points to 644, and this morning you are seeing yields on 10-year Greek bonds spike to over 9%, which is a massive spread of 575 basis points relative to German bunds of the same duration.


No matter what European and Western politicians tell you about short term resolve, we want to remind you that these are the very early innings of a long and protracted sovereign debt default cycle. Borrowing an old Goldman 2007 saying, “it’s going to be global this time”, indeed.


In the face of attempting to fund long term debt obligations with marked-to-model short term government paper, we are also seeing global spikes in inflation. Yes, I realize that every portfolio manager in America who bought the 2007 top, crashed, then sold the 2009 low, wants to tell you that your 401k is still 30-40% underwater because we are going to “double dip.” I guess all I have to say about that is swim in these incompetent Street macro forecasting waters at your own risk. As Quint said in Jaws, “The cage goes into the water... you go into the water... the shark is in the water...”


My favorite central banker in the world sees these waters for what they are – dangerous. This morning, this is what Glenn Stevens at the Reserve Bank of Australia had to say about monetary policy: “Our task is now to manage a new economic upswing… this will be just as challenging, in its own way, as managing the downturn.”


Interestingly, this global macro man made this comment at the University of Southern Queensland, in Toowoomba, Australia. Maybe that’s how far away you need to be from the Greenspan Groupthink ideologies of Washington, DC to have read South Korea’s announcement for a +25% price hike for hot rolled coil (steel prices) by May 3rd for what it is – inflationary.


South Korea’s Posco is Asia’s 3rd largest steelmaker and they, like most manufacturers, must mark its prices to market so that they can earn a spread. In the good ole USA, Ben Bernanke has a different ideology on that. He price fixes the rate of return on my savings account at ZERO percent and makes that the marked-to-model borrowing cost of his cronies in the US banking system. Nice!


Bernanke continues to miss the inflation that he missed in 2008 that absolutely crushed the US Consumer. He is a good natured historian, so we can’t get upset about this anymore. When it comes to being a proactive risk manager of global interconnectedness, he is simply incompetent.


It’s actually quite amusing to watch some of the sell-side analysts who work for the banks that get paid the Piggy Banker Spread tag along with Bernanke’s compromised and conflicted message that he sees no inflation.


Yesterday’s Producer Price Index (PPI) report gives us one more chance to reiterate one of our three Q2 Macro themes - Inflation’s V-Bottom. In an intraday note to our macro subscribers yesterday, this is what Howard Penney wrote about the report:


“Stagnating consumer confidence figures suggest that most consumers don’t trust the direction the country is going in.  We are in agreement with that sentiment and think that most politicians lie and Washington’s free money man, Ben Bernanke, can’t see inflation.  Or, at least, he doesn’t want to -- until he has to.


The PPI rose 6% year-over-year in March and was up 0.7% sequentially - more that the 0.5% consensus estimate on Bloomberg.  The PPI report recorded its largest annual gain since September 2008 and was up on the back of a 2.4% rise in food prices, its sixth straight monthly increase. The increase can be attributed to a 49.3% increase in prices for fresh and dry vegetables (meats and eggs also contributed to the increase in prices for finished consumer foods.)”


Now, we understand that Captain Sell-Sider doesn’t get paid as fat a margin on that Piggy Banker Spread if Ben Bernanke raise interest rates. That’s the joke about this entire inflation story. The stock market inflates every other day and “by a continuing process of inflation, government can confiscate, secretly and unobserved, an important part of the wealth of their citizens.”


If you are waking up in America this morning, and standing in the food stamp line like 11% of your countrymen, just look on the bright side. At least this isn’t Greece, yet… “come on into the water” and buy yourself some government paper.


My immediate term lines of support and resistance for the SP500 are now 1203 and 1214, respectively.


Best of luck out there today.



Come On Into The Water - vbottom



The Macau Metro Monitor, April 23rd, 2010



DSEC reported  the number of visitor and non-resident arrivals totaled 2,565,038 in March 2010. Visitors from Mainland China grew by 8.2% YoY to 1,057,395 (52.6% of total visitor arrivals), with 421,704 travelling to Macao under the Individual Visit Scheme, down by 5.8% from March 2009 (447,465).

Early Look

daily macro intelligence

Relied upon by big institutional and individual investors across the world, this granular morning newsletter distills the latest and most vital market developments and insures that you are always in the know.


The pattern of consolidation continues.  Down in the morning and up in the afternoon has been the pattern and it’s been most constructive with the Russell 2000 hitting a new high yesterday.  European sovereign concerns, some high-profile earnings disappointments in Technology (XLK) and Healthcare (XLV), along with lingering uncertainty surrounding a looming financial regulatory overhaul were the major headwinds. 


On the MACRO front, Greek funding concerns seemed to offer a more meaningful headwind for the risk trade early on.  Now Greece has formally called for the activation of a financial lifeline of as much as $60 billion in an unprecedented test of the euro’s stability and European political will.  Yesterday, an EU report showed that Greece's 2009 public deficit widened to 13.6% from the previous estimate of 12.7%, and could be revised even higher. In addition, Moody's downgraded Greece's sovereign debt to A3, and put it on review for a further possible downgrade.


Also on the MACRO front, housing-leveraged names outperformed again with the XHB up 3.8% yesterday and 7.9% over the past four days.  The economic calendar was the big driver of the move as existing home sales rose 6.8% month-over-month in March to a 5.35M annualized rate. The improvement in March helped reverse the declines seen in the prior two months. While the inventory of homes for sale rose 1.5% to 3.58M, supply still fell to 8 months from 8.5 months in February.


Lastly on the MACRO front, jobless claims for the most recent week, released yesterday, dropped 24,000 to 456,000 from 480.000 (revised down 4,000) in the prior week. This caused the rolling 4-week average to actually increase by 3k to 459.5k from 456.8k.


As our Financials analyst, Josh Steiner, commented yesterday “We hate to be the ones to take away the punchbowl, but consider this. As the charts below show, at 456,000, claims are at the same level they were at on 11/28/09 (457,000). In other words, claims have gone nowhere in almost five months. Compare this with the colossal improvement in claims from April 2009 through November 2009. In stark contrast to recent claims trends, the XLF has barreled higher some 17% over the last 4.5 months, with high-beta Financials rising by multiples of this.”


The broadest measure of support for the RESILIENCE trade can be seen in the consumer related sectors.  Yesterday the Consumer Discretionary (XLY) was the best performing sector closing up 1.8% on the day.  Over the past month, the XLY is also the best performing sector - up 8.9% versus the S&P 500 up 3.7%.   Some of the more upbeat results recently came out of the consumer discretionary space (NFLX +15.3%, CMG +14.2%, SBUX +7.3%, MAR +6.2%), while housing-leveraged names extended their rally on the back of a rebound in March existing home sales.  We took advantage of the consumer melt up and made a few sales.


SHORTING CMG - Now this is a world class short squeeze! Howard Penney thinks that headwinds start to develop in the quarterly earnings in the next 3-6 months. We'll short it for the immediate term TRADE up here. KM


SHORTING XLY - Today is another capitulation day for the short the consumer crowd. We are long names like SBUX, NKE, and FL, so we understand the pain some of the shorts are feeling. We'll hedge their fears up here, for a TRADE. KM


BUYING CIT - Josh Steiner and I have been waiting for the stock to correct and now it has. Josh has come full circle on this name as any analyst with an objective process should. KM


SELLING PSS - While McGough still likes the long term TAIL for PSS, it’s simply overbought here. We'll sell high and look to buy it back on a down day. KM


SELLING WFMI - We'd like to thank JPM for making a call on this the day after we got long. Levine likes their call, and I'll sell into it here. KM


The Financials (XLF) outperformed yesterday, with credit takeaways from the regional banks helping to underpin a positive sentiment.  In addition, overall takeaways from 1Q earnings seemed fairly consistent with the trends seen thus far during earnings season, including declining provisions and NCOs, slowing NPA formation and more upbeat management commentary.


The Chinese market continues to weaken of late, down 0.53% last night, and is now down 8.96% year-to-date.  The weakness in China and a stronger dollar has slowed the REFLATION trade.  The Hedgeye Risk Management models have levels for the Dollar Index (DXY) at:  buy Trade (80.96) and sell Trade (81.70).  We have no position in the VIX currently and it remains broken on all three Hedgeye durations.  The Hedgeye Risk Management models have levels for the VIX is: buy Trade (14.65) and sell Trade (16.85). 


Yesterday, Healthcare (XLV) was the worst performing sector for a second day in a row.  The sector has been dragged down over the last two days on concerns that the impact of healthcare reform has been bigger than expected for the companies that have reported thus far. Yesterday, BAX declined 13.3% as it became the latest company to lower guidance on healthcare reform, though the company also cited continued plasma market pressures.


Oil is trading above $84 after reports that Greece will request financial aid.  The Hedgeye Risk Management models have levels for the OIL is: buy Trade (83.74) and sell Trade (87.14). 


In early trading Gold may extend losses tracking a firm dollar overseas?  The Hedgeye Risk Management models have the following levels for GOLD – Buy Trade (1,130) and Sell Trade (1,163).


In early trading, copper is trading slightly higher on the bullish news from Germany.  The Hedgeye Risk Management Quant models have the following levels for COPPER – Buy Trade (3.51) and Sell Trade (3.63).


In early trading, equity futures are trading mixed to fair value having pared earlier losses as Greece formally asks for financial help from the EU as it tries to solve its acute funding needs.  As we look at today’s set up, the range for the S&P 500 is 37 points or 0.4% (1,203) downside and 0.5% (1,214) upside. 


Today’s MACRO calendar:

  • Mar Durable Goods
  • Mar New Home Sales
  • G20 meets in Washington to discuss global economy

Howard Penney

Managing Director















IGT was probably good enough. We'll have more on the quarter soon. For now, here are our "notes" from the release and transcript.


"Our second quarter results demonstrate real sequential progress at IGT.  An improvement in replacement units shipped, an increase in gaming operations yields and a decline in SG&A all reflect IGT's continued efforts to navigate our business through an operating environment which remains challenging."

- CEO Patti Hart



  • Gaming operations "revenues decreased primarily due to a lower installed base and the continued shift toward lower-yielding machines. Approximately $5.0 million of the decrease in revenues in the current quarter was attributed to property closures and the reduction of electronic charitable bingo terminals being operated in Alabama."
  • Reduced expenses, primarily depreciation and royalties, positively impacted [gaming operations] gross margins, which improved to 62% from 59% in the same quarter last year
  • Product revenues: North America revenues declines were largely driven by fewer new openings. International revenues increased 65% for the quarter, primarily due to the opening of Resorts World Sentosa in Singapore, improved sales in Europe, and favorable foreign currency exchange. Consolidated gross margin on product sales for the quarter was 46% compared to 48% in the prior year quarter, primarily due to higher obsolescence, including write-downs related to the closure of our Japan operations.
    • Excluding the write-down, international margins would have been 45% vs. 43%
  • As of March 31, 2010, IGT had approximately $85.5 million in development financing notes, $9.2 million in fixed assets, and $7.2 million in accounts receivables associated with their customers in Alabama.


  • Gaming operations was $51.70 average yield
  • Product sales:
    • Domestic shipments: replacements were 4,100. They are encouraged by the uptick in replacement demand
    • Increase in MLD: 51% of NA shipments in the quarter and led to higher prices, expect MLD's to continue to increase as a % of total mix
    • International benefited from increases in systems revenue for non-box sales
    • Going forward they expect 48-50% product sale margins
  • Operating expenses:
    • Excluding one time charges, their operating margins would have been 24% vs. 17% last year
    • SG&A declined 12% excluding bad debt, due to lower legal and compliance fees
      • no more BYI lawsuits
      • Still guiding to $95-100MM
    • Total D&A was $58MM - including game operations. The decrease was due to lower D&A on their WAP and Mexico games.  It should increase as they refresh their install base
    • $30MM of non-cash interest or $0.06 for FY2010 and $0.08 for FY2011
    • Tax rate was impacted by one time items - would have been 38%.  Going forward expect 37-39% tax rate
  • Balance sheet
    • Made a lot of progress with their WC cash flow
    • Saw their lowest inventory balance in 30 quarters (although i bet part of that is just due to low volumes)
  • Capex was $63MM this quarter.  Guidance of $65-75MM of Capex, although they continue to trend at the lower end of that range
  • Alabama bill to vote on electronic bingo games was not passed in the House
  • Gaming operations yields increased sequentially (as it should seasonally).  Mega Jackpots yields increased 11% sequentially.  Deployed 149 Amazing Race games and 93 Top Dollar games
  • New Products:
    • Wheel of Fortune - new center stage game, and Wheel of Fortune multi-play and WoF secret spins is coming out later this year
    • SB window solution for legacy games for 8960 footprint
    • Released 21conversion games for their legacy spinning reels
    • Sold 4017units under the Buy 1 AVP get 2 conversion kits program ("Dynamix" aka buy an AVP game and get 2 free conversion kits for other games)
  • Have 3,200 games in their backlog (participation), 2153 of which are for their top 3 games (Sex in the City, Amazing Race and Top Dollar)
  • Are encouraged by the performance of SB at Aria
    • Have had a number of successful trials internationals
    • Are in negotiations on 2 NA opportunities and several other Tier one opportunities
      • Cosmo?
    • Have closed 3 new advantage customers and are in talks with 5 more
  • Remain extremely focused on FCF generation
  • Central system provider for IL will be announced shortly. Expect to start shipping in the first quarter of FY2011
    • Expect a market of 35,000-40,000 units ( we expect a smaller market)
  • Remain cautiously optimistic to increased operator budgets allocated to slots
  • Adjusted their guidance to reflect risk of losing Alabama - new guidance is $0.77-$0.85 cents from $0.75-$0.85


  • Market share? 35-40% on replacements based on their internal estimates
  • Excluding Alabama, what would yields have been?
    • Saw a seasonal uptick but attribute part of that to their new products - Sex in the City and Amazing Race and also saw that in the WAP product
    • I personally think that looking at yields sequentially is not useful due to seasonality
    • And yes Alabama positively impacted yields since those games do about $24/day
  • Some of their backlog is due to jurisdictional approval of the games and some of that is due to waiting for a customer delivery date
  • Domestic ASP of $14.3k - due to Dynamix package (ie discounting)
    • Special pricing is ongoing - was initially through end of Feb and was extended by 3 months
    • Competitors are not responding with comparable deals
  • SG&A? They are budgeting for more but it's been coming in lower because of the variable compensation component
  • Customers want to replace units but it's a capital budget issue. They are focusing on how to help customers refresh their older games within their limited capital budgets. They are also focused on placing their new Jackpot games given the budget constraints
    • It's a strategic move to keep floor share
  • Italy- timing seems to have moved out given the multiple systems providers. Think that there may be shipments by the end of the calendar year.
  • "Other expense": Interest expense was $39MM, $1MM of other income, $15.7MM of interest income
  • They got 24-25% of Marina Bay Sands shipments
  • What will conversion kits sales do if replacements come back next year?
    • Unclear...maybe on legacy units.
  • Don't know when the entire floor of Aria will be SB - no hard stop date, expect by the end of IGT's FY year (Sept 2010)


CAKE reported stronger than expected earnings of $0.31 per share versus the street’s $0.25 per share estimate and management’s guidance of $0.23-$0.25 per share.  Same-store sales turned positive in the quarter at both Cheesecake Factory and the Grand Lux Café with blended same-store sales coming in +2.8% (better than management’s guidance of flat to +1%, including a 1% expected benefit from increased gift card redemptions).  This better comparable sales result implies a 370 bp acceleration in sequential 2-year average trends from the prior quarter, which the company attributed to continued improvements in traffic trends.  Operating margin improved about 250 bps YOY during the quarter.


Management does not provide guidance until the conference call, but based on these better than expected results, it would seem that the current full-year outlook for $1.16-$1.24 per share in earnings and -1% to flat same-store sales growth is going higher.  Based on the 1Q10 earnings beat, we would expect FY10 EPS guidance to move to at least $1.22-$1.30 (the street is already at $1.27).


The stock is initially indicating lower….Remember when less bad was good.  Based on 1Q10 earnings to date, the new question is how good is good?



Howard Penney

Managing Director

real-time alerts

real edge in real-time

This indispensable trading tool is based on a risk management signaling process Hedgeye CEO Keith McCullough developed during his years as a hedge fund manager and continues to refine. Nearly every trading day, you’ll receive Keith’s latest signals - buy, sell, short or cover.