Q3 is shaping up to once again prove that PNK is a secular growth story in an otherwise dismal space.
PNK should beat Q3 estimates for EBITDA, again. Investor sentiment isn’t great for the US gaming operators. In fact, it sucks. For different reasons, PNK and PENN are the two bright lights in an otherwise dark and dreary sector. PENN because of new development in new markets and PNK because it is playing catch up on cost cutting and marketing.
PNK looks inexpensive on estimates it will probably beat, starting with Q3. We calculate a 6.5x 2011 EV/EBITDA multiple using the current stock price and a free cash flow yield of over 14%. In terms of our estimates, we are at $54.4m for Q3 EBITDA versus the Street at $51.5m. We are also higher for Q4, $48.3m vs. $46.3, respectively, and for 2011, $244.3m vs. $228.2.
You’ve heard of the phrase “victims of their own success”. For PNK it’s more like “beneficiaries of their own failures”. By failures we mean the poor operating performance of the prior management team. New management began the cost cutting process in late 2009, about 18 months later than everyone else. In our 07/07/10 note “PNK: MOVING INTO OVERSOLD TERRITORY,” we showed that PNK maintained some of the worst margins in the markets in which they operated. We think PNK will continue to narrow that gap and be at maximum efficiency by mid next year. Including Q3 2010, that is 4 quarters of secular margin improvement not available to the other US gaming operators.
Cost cutting is only part of the secular story. PNK should be naming a new Chief Marketing Officer shortly – probably someone with Harrah’s ties. The prior marketing head was let go earlier this year and he was a disaster. As we've previously written, PNK not only lags its peers in margins, but also win per gaming position. With former Harrah’s executive Anthony Sanfilippo now in charge of PNK, we expect significant marketing improvements both in terms of efficiency and effectiveness. Look for the introduction of a serious database marketing effort. The tail on that improvement is even longer than the margin story.
We acknowledge that the hurdles facing US gaming are high and we remain negative on the long term outlook for regional US gaming, but at least PNK maintains two levers of EBITDA growth not available to other operators. We saw good results in Q2 and we think Q3 will be a repeat of that estimate beating quarter.