Everi Holdings Inc (EVRI) 2016 Q4 法說會逐字稿

Welcome to the Everi Holdings Incorporated fourth quarter 2016 earnings conference call. Today's conference is being recorded. At this time, I would like to turn the conference over to Mr. Mark Labay, Senior Vice President, Strategic Development and Investor Relations. Please go ahead, sir.

Thank you. And welcome to the call. Joining me today are President and Chief Executive Officer, Mike Rumbolz, and Executive Vice President and Chief Financial Officer, Randy Taylor. Before we begin, I'd like to remind everyone that the Safe Harbor disclaimer in our public documents covers this call and our webcast.

Some of the comments to be made during this call contain forward-looking statements and assumptions that are subject to risks and uncertainties, including but not limited to those contained in all of our SEC filings, all of which are posted within the Investor Relations section of our corporate website.

These events could cause actual results to differ materially from those described in our forward-looking statements, and as such, we would like to caution against undue reliance on these forward-looking statements. They should not be considered an indication of future performance. We do not intend to assume no obligation to update any forward-looking statements.

You are cautioned not to place undue reliance on forward-looking statements which speak only as of today. In addition, this call may refer to certain non-GAAP measures, such as adjusted EBITDA and adjusted EBITDA margin. We reference these non GAAP measures because management uses them, in part, to manage the business and enhance investor understanding of the underlying trends in our business and to provide better comparability between periods in different years.

We also make certain compensation decisions based, in part, on our operating performance as measured by adjusted EBITDA. and our credit facility and outstanding bonds require us to comply with consolidated secured leverage ratio that includes performance metrics substantially similar to adjusted EBITDA.

For a full reconciliation of non-GAAP measures to GAAP results, please see our earnings release and related 8-K, both of which are available on our corporate website within the section captioned Investors.

Finally, this call is being webcast, which may also be accessed within the Investor Relations section of our corporate website and a replay of the call will be archived. With that, I'm pleased to introduce our President and Chief Executive Officer, Mike Rumbolz.

Thanks, Mark, and good afternoon, everybody, and thank you for joining us. This afternoon we reported 2016 fourth quarter revenues of $217.5 million and adjusted EBITDA of $49.4 million. Full-year revenue was $859.5 million and adjusted EBITDA was $198 million.

The key takeaway from our fourth quarter and from the majority of 2016 is the continued progress that we've made in executing against these strategic priorities that we began to implement late in the first quarter of 2016. Since then, really over the final three quarters of the year, we brought needed stability to the organization and have positioned the Company on a much stronger footing to execute on our growth initiatives.

So let me begin by providing you with a few highlights of the progress that I've already seen. In our Games segment, during last three quarters of the year, we sold more units on a quarterly basis than in the comparable year period prior periods, while still maintaining our ASP. In addition, despite the removal of over 1,200 third-party Class III units from our installed base in 2016, we were able to finish the year basically even with the size of our installed base at the end of 2015.

Our Payments business also continues to perform very well; both revenue and adjusted EBITDA have grown year over year for the last three quarters of 2016. This growth includes favorable same-store comparisons for every quarter in 2016. Also, although we had a slow start with our compliance product sales, the sales momentum for these products picked up in the second half of the year.

We believe that we have built the industry's best compliance solution and it is tailored specifically to meeting the unique needs of our gaming customers. We expect this trend of improving compliance sales momentum to carry forward into 2017.

Now, while there are many reasons for our progress, the most important one is our people. Last year, across the entire organization, we challenged everyone to focus on our key objectives, to commit to strengthening our Company, and to put in the effort necessary to set Everi on a better trajectory.

I think the progress that we achieved over the last nine months of 2016 and the momentum that we're carrying into 2017 is a testament to how effectively our team has pulled together to address our challenges, to stabilize the Company, and to begin to address our many opportunities. These efforts strengthened our Game and Product Development initiatives to the point where I can confidently say that we entered 2017 with our strongest and, by far, our most diverse portfolio of gaming technology solutions in our history.

We've also made important initial strides in enhancing the efficiency of our manufacturing process and in bringing increased discipline to our expense management. Though we still have challenges that need to be addressed in 2017, I believe our ability to meet these challenges head on while taking advantage of our many opportunities will result in a year of growth for Everi.

One of the challenges that we previously discussed is the removal of third-party Class III games from the customers' facilities in Oklahoma and we faced this challenge head on in 2016 and in fact, saw our overall installed base decline by only 76 units when we left the year 2016 even though 1,221 third-party Class III games were removed from our installed base over the course of 2016.

As of year end, we had 1,333 third-party Class III units remaining in our installed base, of which we believe approximately 530 are subject to removal in the first half of 2017. Now in addition, we expect a number of our California tribal customers will move from Class II to Class III units as their tribal gaming compacts with the State are renegotiated.

We believe we could lose between 100 and 300 of our Class II games from our California installed base this year and we would expect that these units will come out in the first half of the year. We do expect to benefit from some unit sales as customers purchased Class III units from us to replace some of the Class II units that are removed.

The removal of the third-party Class III units and the Class II units in California will impact our daily win per unit in the first half of 2017 but having said that, the positive news is that we expect our installed base to grow in 2017. We expect to replace a good percentage of the third-party Class III units in Oklahoma with our proprietary Class II games and continue to grow our installed base outside of Oklahoma.

In fact, our focused and continued innovation in Class II helped us to grow our overall Class II installed base by over 800 units in 2016. We also have new Class II growth opportunities that we are executing upon in 2017. We've now deployed our first wide-area progressive platform. We recently went live in four casinos in Oklahoma with our Class II Jackpot Lockdown wide-area progressive featuring two of our more popular three reel mechanical games.

Jackpot Lockdown has a base jackpot of 100,000 and combines our popular Mega Meltdown and High Voltage games with the large-linked progressive platform and a unique math model that heightens player excitement and engagement. And beginning next month, we will introduce Jackpot Lockdown to additional casinos in Oklahoma and Texas as well as casinos in California, Arizona, and Wisconsin.

While it's still early in the roll-out phase, our initial feedback has been highly encouraging. Early in the second half of this year, we will expand our Class II wide-area progressive offering to feature video reel games based on the Casablanca and Penn & Teller licensed brands. Both of these games were very favorably received at G2E and they will be offered on our new Empire MPX cabinet.

We are extremely optimistic about the growth potential of these new products and I could not be any prouder of our team for accelerating and executing on our strategy to continually expand our product portfolio. Our ability to successfully launch our wide-area progressive platforms is an important factor in our expectation that our installed base will grow this year.

I expect that as we increase placements, our daily win per unit will also benefit in the second half of the year. We are also making progress with our efforts to optimize the yield from our over 13,000 unit installed base. Today, we're starting to see the benefits from the success of our newer games and our core HDX cabinet but just as important, for the first time, we have allocated dedicated resources whose sole focus is the management and optimization of our installed base.

We're very early in this process but I expect t hat we'll have some very positive data points to report on this effort as we move through the year. I firmly believe that these steps will help us reach our goal of both growing the installed base this year versus year-end 2016 and improving our yield while moving toward our longer term goal of growing our installed base to over 17,000 units.

Turning now to our Payment segment. We continue to show growth in revenue and adjusted EBITDA. We continue to invest in our products and our services to ensure that we remain the market leader. For anyone that was a G2E last September, you know that we are not content with simply resting on the success of our current solutions.

We are constantly looking for ways to enhance our ability to assist our customers in driving more cash to their casino floors and helping them operate more efficiently and effectively. We have continued the expansion of our competitive position through our disciplined approach to maintaining appropriate expense levels when entering new markets and through the introduction of new products.

In early 2017, we went live for the first time with ATM services in Canada, across 29 properties, in three provinces. While this will provide some relatively modest financial benefits for us in 2017, the larger opportunities will be to integrate our ATM services with our proprietary cash access products as well as introducing a fully integrated kiosk solution. I believe this can be a growth driver for our Payments business later in 2017.

And as we've noted the last several quarters, our suite of compliance solutions continues to gain interest and we expect they will contribute at a higher level this year when compared to 2016. Now, these are just some of the highlights of where we're poised to continue to make improvements in growing our business.

At the same time, we expect to effectively manage our cost structure while enhancing our product engineering and manufacturing processes. Reflecting these and other factors, we expect revenue and adjusted EBITDA to grow in 2017 and Randy will provide additional commentary regarding our guidance in just a moment. Longer term, our goal is to drive improved cash flow.

While we expect some incremental improvement in 2017, we do expect to make a great deal of progress throughout the year in strengthening our ability to accelerate our cash flow generation going forward. I'd now like to turn the call over to Randy.

Thank you, Mike and good afternoon, everyone. For the fourth quarter of 2016, total revenues were $217.5 million comprised of $54.6 million in Games segment revenues and $162.9 million in Payments segment revenues. Games revenue increased approximately 8% year over year and Payments revenue increased approximately 6% year over year.

Our reported operating loss, net loss, and net loss per diluted share for the fourth quarter of 2016 includes a non-cash impact of $146.3 million goodwill impairment charge. The impairment charge is the result of our annual assessment of the carrying values of our tangible and intangible assets.

Based on our current analysis, we determined that the carrying amount of our Games reporting unit exceeded the estimated fair value. Reported net loss and net loss per diluted share also includes the non-cash impact of a $59.6 million increase in our valuation allowance recorded on certain deferred tax assets relating to our net operating loss and tax credit carryforwards.

Under US GAAP, we are in a cumulative loss position, as we have reported net losses over the last three years. As a result, the accounting guidance requires that we utilize historical results without any benefit of growth assumptions for the future years and projecting future taxable income to determine our valuation allowance.

The establishment of a valuation allowance does not impact our cash taxes nor does it preclude us from using our tax credits, loss carryforwards and other deferred tax assets in the future.

Adjusted EBITDA for the fourth quarter 2016 increased $3.5 million, or 7.6%, to $49.4 million compared to $45.9 million a year ago. Adjusted EBITDA for the 2016 fourth quarter adds back approximately $1.4 million and separation costs related to our former CEO. This is in addition to the $3.3 million in separation costs recorded in the first quarter of the year.

Adjusted EBITDA for the Games segment was $28.4 million compared to $26.5 million a year ago. Adjusted EBITDA for our Payments segment was $21 million compared to $19.4 million last year. In our Games segment, gaming operations revenue decreased 3% year over year to $37 million.

The year-over-year decline primarily reflects lower daily win per unit of $26.35 compared to $27.68 in the fourth quarter 2015. Installed base at December 31, was 13,264 units, which was essentially in line with the installed base at the end of 2015. We report our daily win per unit net of the impact of accretion. Some of our legacy replacement deals have renewed at placement rates that are slightly higher than the original placement fee rate, resulting in an increase in the total accretion of approximately $0.6 million over the prior-year period.

Increased accretion spread across our slightly lower installed base is responsible for approximately $0.46, or 35% of the quarterly decrease in daily win per unit. The remaining decline is primarily the result of the dynamics we have discussed before, in which we are managing the removals of high-performing third-party Class III units and replacing a portion of the units with our Class II units.

We expect this dynamic as well as some Class II removals as a result of compact changes in California will continue to impact daily win per unit at least through the first half of 2017. Ongoing placement of units outside of Oklahoma should partially offset this impact. In addition, the introduction of our new Class II WAP and licensed product that Mike discussed earlier should also help to mitigate this decline in daily win per unit with an expectation that in second half of 2017, we will begin to see improvements on a year-over-year basis.

In the fourth quarter, our install base declined 76 units year over year and by 23 units on a quarterly sequential basis to 13,264 units. We provide additional details in this afternoon's Press Release in regards to composition of the installed base. One thing I wanted to highlight, however, was that while the installed base at 2016 year-end was down slightly from the prior-year period, the 76 unit decline is net of the removal of 1,221 third-party Class III units that occurred throughout 2016.

2016, we clearly grew our installed base in other locations, both inside and outside of the Oklahoma market. At December 31, we still had 1,333 third-party Class III 'm units installed and we currently expect that approximately 530 of these units will be removed from the installed base. As Mike had mentioned, we expect these removals to take place in the first half of 2017 and we expect to replace approximately 70% of these units with our proprietary Class II units.

Revenues from electronic game sales grew approximately $5.3 million, or 43%, to $17.6 million for the 2016 fourth quarter compared to the prior-year quarter. We sold 920 units at an average price of $17,548 compared to 645 units sold in the fourth quarter of last year at an average price of $16,648. Unit sales and ASP benefited from our higher-price Core HDX units, which made up almost 65% of fourth quarter 2016 unit sales and also comprised approximately 61% of our full-year sales of 2,954 units.

Unit sales were up 17% on a quarterly sequential basis, even though we shipped 200 units to Alberta in the third quarter, which represented our highest-ever quarterly new unit sale to a single customer. Overall adjusted EBITDA margin for the Games segment was 52% in the fourth quarter of 2016 compared to 52.5% in the prior-year period.

For Payments segment, the fourth quarter represented a third consecutive quarter in which we have grown revenue and adjusted EBITDA. The 6% year-over-year increase in revenue to $162.9 million was driven primarily by growth from our cash advance and ATM revenues, partially offset by a decline in our kiosk sales and service revenue.

This quarter was the ninth consecutive quarter of both -- of growth in both same-store transactions and same-store dollars processed. Additionally, ATM growth benefited from surcharge increases, initiated by several large corporate casino customers. Overall, adjusted EBITDA margin for the Payments segment was 12.9% for the fourth quarter of 2016 compared to 12.6% for the year-ago quarter.

The main drivers of the margin improvement was lower operating expenses, primarily legal and EMV costs compared to the prior year. This was partially offset by higher ATM commissions, in part, due to increased surcharges by certain casino customers, which negatively impacted adjusted EBITDA margin in the fourth quarter of 2016.

As expected, sales of our fully integrated kiosks were down in the fourth quarter of 2016 compared to the prior-year quarter. In past years, we have done a great job selling our kiosk to our larger corporate customers.

With many of these large customers locked into long-term cash access arrangements with us, our new kiosk placements are now focused on smaller customers. This trend will continue until the kiosk we placed in prior years need to be replaced.

Compliance revenue in the fourth quarter of 2016 was the highest recorded revenue of any quarter in 2016. We actually generated sequential quarterly improvements in revenue for compliance in each quarter of 2016. We believe this trend is indicative of the increased interest in our compliance solutions as customers increase their focus in the need for AML and tax compliance products.

Moving on to the balance sheet. Our long-term debt was $1.15 billion as of December 31, 2016. During the fourth quarter, we repaid $2.5 million on our term loan and for the full year, we repaid $24.4 million on our term loan. Weighted average interest rate on our long-term debt was 7.68% as of year-end. The three months ended December 31, 2016, we amortized approximately $1.7 million of capitalized debt issuance costs into interest expense.

We had no amounts outstanding under our revolving Credit Facility at year-end and the Company was in compliance with its debt covenants as of December 31, 2016. Our senior leverage ratio, under the definition of the credit agreement, was approximately 3.8 times adjusted EBITDA as compared to our maximum senior leverage ratio of 4.25 times adjusted EBITDA.

As a reminder, for purposes of the credit agreement, interest expense related to the provision of cash and our ATMs, is treated as an operating expense and is therefore, not excluded from the credit agreement's definition of adjusted EBITDA. As of December 31, 2016, our outstanding balance of ATM cash, utilized by us from our Wells Fargo cash solution agreement was approximately $285.4 million.

Capital expenditures were approximately $13.8 million for the fourth quarter of 2016 and $92.1 million for the full year. Net capital expenditures for 2016 were approximately $85.5 million and reflect $4.6 million in proceeds from the sale of the aircraft and $2 million in reimbursed tenant improvements.

Games segment capital expenditures were approximately $13 million in the fourth quarter, of which approximately $9.4 million was associated with replacement units for our existing installed base, through expansion units into our installed base and trial units not yet converted to either an installed base unit or a unit sale.

Capital expenditures for our Games segment reflect a higher percentage of payroll and related development costs being capitalized and the impact of Core HDX which continues to drive additional leased unit replacements and expansion units. CapEx for our Payments segment was $0.8 million in the fourth quarter.

This afternoon, we provided our initial outlook for 2017 adjusted EBITDA. We currently expect revenue and adjusted EBITDA to grow this year with full-year adjusted EBITDA expected to be between $204 million and $209 million. Let me provide a few key additional metrics we are modeling for the full year. We expect unit sales for 2017 will exceed the 2,954 units we sold in 2016 by at least 10%.

In the timing of the current quarter, I can provide a little color on our first quarter unit sales. With the benefit of a new casino opening and other expansions that will occur in the first half of 2017, which we have already shipped units, we expect first quarter unit sales will be up on a year-over-year basis and fairly consistent with the unit sale that we experienced in the fourth quarter of 2016.

I mentioned earlier that we expect approximately 530 third-party Class III units will be removed from the installed base in the first half of this year and that we anticipate replacing approximately 70% of those units with our Class II games. Despite the net impact from these removals, we do expect our installed base, at the end of 2017, will be higher than the installed base at the end of 2016.

As the year progresses and we complete the removal of these third-party Class III units, we should be in a better position to give additional clarity on the level of overall growth we expect to achieve in 2017. These expectations will also rely, in part, on our visibility into the initial expected benefit from the future expansion of our new proprietary Class II WAP, which as Mike indicated, is live now in four casinos.

Early in the second half of the year, we will expand our Class II WAP offering to feature video reel games based upon the Casablanca and Penn & Teller licensed brands. In addition, our expectations for growth in our installed base in 2017 is net of the impact of what we believe will be the removal of between 100 to 300 Class II games from our California installed base.

We currently expect a majority of the class -- the third-party Class III units in Oklahoma and Class II units in California that we expect to lose will occur in the first half of 2017. As a result, we expect the installed base at March 31 will be less than the installed base at December 31. With that, we expect the install base to grow over the balance of the year.

Core cash access products of our Payments business should continue to benefit from the ongoing trend of improving cash to the floor. We expect to see the interest in our compliance products translate into improved sales in 2017. We believe that the successful launch of the new kiosk products that we demonstrated at G2E in 2016 which is our cash recycler and [cash] dispensing units and service contracts on these products could provide some opportunity for growth in the kiosk business.

Our Payments segment will also benefit from the recent expansion of our cash access capabilities in Canada, to include for the first time ever, ATM services. We also provide some color as to how we think about a few other modeling metrics for 2017. We expect cash interest expense will be approximately $92 million to $94 million, which includes interest on vault cash of between $3 million to $4 million and approximately $6.7 million in non-cash amortization of capitalized interest costs.

Our forecasting of interest assumes interest rates will rise in 2017. And the increase in LIBOR will impact our interest on the cash used in our ATMs and not provided by our customers. If LIBOR exceeds 1%, then the interest on our term loan will also increase. We are subject to a 1% LIBOR floor on this variable debt. Because LIBOR has been below 1%, we have not had interest rate variability in 2016 with regards to our term loan.

We estimate capital expenditures in 2017 will be $85 million to $95 million. CapEx related to the refreshment of replacement of units in the installed base is expected to be between $38 million and $40 million. We also expect to incur between $5 million and $6 million in placement fees. CapEx for our Payments segment should be $9 million and $11 million.

The success of our new wide-area progressive products and new premium licensed content could result in increased capital expenditures as we accelerate new placements of these products. Amortization expense is expected to decline significantly from the 2016 reported amount of $94.6 million and should be $68 million to $71 million. This decline is due to certain intangible assets that were recorded as part of our purchase price allocation from the merger, becoming fully amortized in 2016.

Depreciation expense is expected to be between $44 million and $46 million. Finally, we expect to record a tax benefit of less than $4 million for 2017, which is net of approximately $2 million in cash taxes that we expect to pay related to state and foreign income taxes. With that, I will now turn the call back over to the operator for questions.

(Operator Instructions)

We'll take our first question from John Davis with Stifel Nicolaus.

Mike, just wondered if you had -- if you guys could touch on what's driving the pretty significant increase in game sales. Obviously, fourth quarter was much better than we expected. It sounds like Q1 is going to be similar. I think G2E, the games launched there are impacting yet. So is it Core HDX, maybe just comment what's driving the strong Games sales growth?

Yes, it's not really -- I mean you're right, John. It's not really the licensed branded games that we were showing at G2E but it is some of the games that we were showing at G2E which are newer games that are on the Core HDX and as we have a head -- a new games business leader who has now been working in our development side for a few months, we're getting better at games that we're putting out on the Core HDX and the Core HDX itself is also a better video box for us and obviously is showing that through its sales.

I would also say we've also seen -- we still continue to see good sales, John, in the mechanical reels, our steppers, so it's just, I think it's just a continued effort in that area with our sales force. We just think that over time, we'll continue to have success there.

And the tribal event is still being sold. It hasn't gone away, by any means.

Okay, perfect. Maybe Mike, just touch on quickly, the Canadian licenses that you mentioned in the third quarter call, what's the status there? Have they been approved? Are they -- have you started shipping games to those in providences? Any update there?

We haven't, to my knowledge, we've only just started to explore the other provinces other than Alberta. We have done the ATM agreement that I mentioned in my prepared remarks that will put us into three provinces and I would expect that this year, we'll start seeing more game sales in other provinces as well.

Okay, and then quickly on the debt side, maybe Randy, obviously some of your peers have been successful refi'ing some of their high cost debt recently. Maybe just generally talk about what potentially could be refi'd, and how you think about it? I think results, now three quarters in a row, puts you in position to potentially go back to your lenders and get better terms. So just any comments there as to how you guys think about the refi opportunity going forward?

Sure. I will say this, John. We have been probably non-stop for the last couple months in touch with our [administrative] bank and other advisors on -- we, obviously, saw what happened with the -- one of our competitors. We're in a little bit different situation just because we're just not as big and really, you have to have some things that you bring to the table to improve the credit from the term loan lenders.

But we are looking at all opportunities and options, to be honest with you. So I really can't say that we've got anything right now but I would tell you that it's something that Mike and I have been focused on as well as Mark over the last couple months, so it's a little bit dynamic. But obviously, it's a little dynamic with our one holder, the secured notes which has kind of the same covenant so we've got a little bit of challenge in there as well.

Okay, thanks and last one for me, if I can. Randy, the CapEx, I guess, range of $85 million and $95 million, is fairly wide. I guess what drives it to the high end and longer term, is there potential for that to go down? $I'm even saying 90 million for a few quarters now on a go-forward basis but maybe just talk about what could result in an even higher in 2017?

Look, I want to give a little bit of a range there, John, because if you look at the wide-area progressives really do take off if the licensed -- the branded games on our new cabinet take off, then I think -- I want to have the ability to -- and we will need the ability to put more out there. I think that will be a good thing so gain a little bit wider range there. But I think -- I did that because if this goes well and we just are at the beginning of it, this will be one of the things where we will put out as many as we possibly can to beat that need or demand.

Okay, that's it for me. Thanks guys.

Next we'll move on to George Sutton with Craig-Hallum Capital.

So since G2E, we've heard some pretty encouraging things from the field relative to some of your newer games which, again, haven't really affected the numbers yet. Can you give us a little bit of an updated thought in terms of what you're hearing from the casino operators and perhaps, as we're looking out to later this year with new product, how some of that might be getting influenced from what you're hearing from the operators?

Yes, I mean, we put a pretty extended -- I'm happy to give sort of some high-level color to that but we put together a very intense Customer Advisory Board after G2E, brought some of our better customers from tribal from commercial and from multi-location operators down to Austin and spent several days with them really digging into the heart of what were they seeing with their customer base?

What were the customers looking for, what kind of enhancements and features did they see that they felt were going to be important going forward on the slot floor? And part of what I can tell you is that we have been, since then, we have been designing -- first of all, we listened very carefully to what they had to say and then we started designing around that.

And then as we designed around that, we found that there were certain principles that we needed to keep in mind as a development house and some of those principles are things like what is the customer looking for? Customer -- let's look at the customer's desires but also what kind of mathematics can we use to really make excitement while the customer is sitting at the game?

So we've started embarked and Dean Ehrlich, our Head of -- our Business Leader in Games, is emphasizing that quality is going to be key going forward and customer reaction is going to be probably our best barometer for judging quality. And I think you're seeing, even though he was only consulting with us last year, I think you're starting to see some of that in our games as we go forward.

I appreciate that perspective. So flipping over to compliance, I'm encouraged that, that has picked back up. I think one of the challenges that you had seen was the spending of CapEx versus operating expenses. I'm just curious, can you give us a reason why you think compliance has picked back up?

I would say two things, George. One, it was just getting the sales team also up to speed on the product and how to sell it and to really meet with the customers and explain what the products could produce. And I think second of all what we talked about at the beginning of last year, or throughout last year, is you don't hit them early enough, they don't get in the capital budget. And I think that the casino operators understand they have risk here and that our product can really reduce their risk and so they are allocating dollars towards it.

Perfect. Got you. And lastly, as you have contemplated guidance for the year, I'm curious does it include any large new customers on the Payments side or are you assuming a fairly static customer base?

I would say a fairly static customer base, really. No big hits other than, as Mike talked about, some of the Canadian stuff that we picked up and again, fairly modest but it will drive some topline. Nothing really major in that projection.

We didn't assume any big steals.

Okay, perfect. Thanks guys.

(Operator Instructions)

Next we'll move to David Katz with Telsey Advisory Group.

So I wanted to ask about the Games sales, because if we think about the first quarter being comparable to 4Q, that obviously implies a big year-over-year gain but we're finishing off the year in the 10% uprange, which implies there's going to be some down quarters. Can you talk about what you can share about what that curve looks like as the year progresses?

Well, I mean the way that we have looked at it, we expect it to go -- if you'll recall, last year, the first quarter was a disaster. So growing over that was a given. We had to be able to grow over that in order to prove out the thesis for our ability to operate the Games business, but putting that aside, I think we're anticipating a more normalized purchasing throughout the course of the year from our customers.

So you would expect that we'll see when the capital budgets come out, they will start looking at their slot floor and looking at their refresh numbers, figuring out what they intend to spend. They will start allocating that over various quarters. I would expect that we'll see some seasonality, again, in the numbers especially in the third quarter and so if you look back to I think what a normal sort of year would look like is where we have basically modeled this going forward.

So 3Q being a little bit weak-ish seasonally; is that what we're suggesting?

Right.

Okay. The other question I wanted to ask is really around the installed base and specifically around the WAP product. Now my understanding of the way those are -- those deals are structured is as a percentage of coin in, and my experience with other WAP products around the industry is that they generally will garner a significant multiple to traditional, even regular participation games but certainly big multiples of the floor average.

If you could talk about what you're seeing so far or what qualitative expectations you have for that product having seen how it compares with what else is available out there, and what kind of feedback you're getting on it? And whatever you can tell us about how those deals are structured because as they roll into the installed base, my intuitive reaction would be that the yield would go up -- could go up significantly.

Well -- and I'm with you in that regard. Intuitive or otherwise, I think you're right. I think that's correct and you've correctly identified the way most of these deals are struck with respect to one of the metrics that's being used for pricing is the coin in. You're also,, of course, looking at your win per unit per day and you're looking at your number of devices across the entire WAP platform so you're looking at your ability to increment and garner moneys for secondary jackpot potentially in future.

But at the end of the day, it comes down to this. We've only seen one wide-area progressive in the Class II market to date and so we really, unlike the Class III where we've seen wide-area progressive for decades, this is really a fairly greenfield for wide-area progressives so how these perform is going to be, I think fairly telling.

Our early indications is that we are getting exactly what you would expect. We're getting better performance from these devices, but having said that, again, it's new to the space. We have a limited number of devices out there and we're only in four locations, so I think even though we're getting very good comments back, we're getting anecdotally good news, I wouldn't, at this point, I think it's too early for us to declare victory and get off the field.

I think this is going to require us to prove ourselves out on the mechanical Jackpot Lockdown and then prove ourselves out yet again when we move to the video reels but you basically -- you have the correct outline for how we'd be pricing a wide-area progressive. We're expecting to follow the Class III model and then ultimately, presuming that we can prove out our ability to excite players and get them interested our wide-area progressive Class II offerings, we have the ability to move these offerings into Class III as well and into other commercial markets so you should expect that from us in the future as well.

Right, and if I can just follow that up quickly. What do -- how should we be thinking about these units? And I believe the commentary, whether it was qualitative or specific is you're up to -- you should be up to several hundred games by the end of, right, in the near term. What does that do to your cost structure and your margins as those roll in? And presumably, they -- and Randy commented on the capital, but on the cost side of things, does that weigh on your margins?

I don't think on a -- again, it should be positive to our margin if the yield improves, David. I don't think the way they are structured, you really -- you get a little bit extra to cover obviously the major jackpot. The dynamic that we have that I'm trying to make sure everybody understands is we're still looking at those third-party games.

So what I'm really hopeful of and what we really expect is that we get enough of the WAP out there, that will start to offset that and then into the second half of the year, once we've grown over that issue, start to bring it up slowly so a little bit (inaudible) because I don't know, right?

We've only got very little data yet on it but to Mike's point, it's positive but I don't think there's any significant margin impact because it's kind of built into the model and therefore, if we get the bigger play we should get the bigger win per unit which should help us overall.

Understood. One last one, if I may. With respect to tournaments, which has been such an important driver, I recall at G2E, we saw some updates to capabilities on that product and content on that product and I think the quarter reflected just a little bit better sales in that product.

What can we reasonably expect from tournaments going forward? Is it going to peter out, stay the same, or do you think you -- based on what you know so far, can get better?

It can definitely get better, David. There's no question and you're right. You didn't see it falling off in the fourth quarter, which was a good indicator that through G2E, we've been able to show our customers that we're not abandoning the product. It's not going to go end-of-life. We're not going to quit supporting it.

We're going to bring more games to it. We're going to bring hopefully more excitement and more features to it. And as a result, it will become a more valuable asset to have on their properties and the existing customer base and then also, convince some of those that haven't taken a bank with these yet that this is a great marketing tool for their casino that it can earn revenue when it's in revenue mode.

And it can be used by the marketing department to run tournaments and create excitement so I would expect you'll see that, as we introduce the improvements that we first premiered in G2E and some of the new games we premiered there, you should see it at least growing slightly, if not growing better than it has previously.

And really, don't forget, David, that those older units around the older box with the new cores, we are hopeful and should expect, at some point in time, some people want to upgrade. There's more functionality and features that can be utilized at the core. So I'm not saying that we're going to start selling right into that base but over the next year or so, we should have some ability to sell back to people who have a tournament banked that's six or seven years old.

Perfect. Thanks very much. Well done.

Next we'll hear from Olivia Mauro with Brookfield.

Thanks for taking the questions and congrats on a good quarter. I had a couple quick ones on California to start. So first I was wondering the 100 to 300 units that you're expecting to come out in 2017, can you give us a sense for what percent of your total California units that is?

I would say it's about 4% of our overall installed base so it's pretty small and in California, I have to go back and look but again, I think it's -- that 300 is probably 25% to 30% of that overall installed base, and again, this depends on what they do. But again, I think overall installed base is not a big impact; in California itself, it's a little bit bigger.

And recall, we intend to sell them -- at least some portion of that to replace with Class III that we'll be selling and obviously, we're going to look to California to expand our wide-area progressive footprint in Class II. Okay, that's very helpful and just following up on that. You mentioned selling some units, some Class III units. In fact I guess, they are converting off Class II from lease. Is that a significant portion of your expectations for game sales in 2017 or could you quantify what portion of your expectations are coming from this lease sale conversion?

I don't know we would quantify it but we certainly -- it's not a large part of our expectations for the year, no.

Okay. That's great and then maybe just a bigger picture question for Mike. On the gaming side of the business, the gaming tech industry is coming off some substantial consolidation over the past couple of years. So I was just wondering if you could talk a little bit about how you see your overall competitive positioning in the industry and then your views on potential further consolidation in that space?

Sure. As you know, the gaming manufacturing side of the gaming industry has consolidated pretty significantly over the last several years, including the Global Cash Accesses acquisition of Multimedia Games so our Company was built as part of that consolidation effort. As we look at the players in the industry now, and one large player that wants to be in the North America, and I'm speaking specifically of North America, it doesn't appear to me that there would be significant amounts of consolidation left to do.

It certainly is possible that you could see some of the players banding together to create more specific gravity, if you will, but I don't see a lot of opportunities around further consolidation in the industry. I know that some of the groups that have been consolidated may be looking to shed some assets.

That's part of what we seen in cycles of consolidation in the past in the gaming manufacturing space, but right now, my -- I believe that there is sufficient competition both large, medium and small within the space that we can all be healthy and I, for one, quite frankly like our position both in ship share and installed base, because I think it's going to be much easier for us to grow this both installed base and grow our ship share than it going to be for most of our competitors.

Okay, that's very helpful. Thank you.

Thank you for your questions. If there are no further questions at this time, I would like to turn things back to Randy Taylor for closing remarks.

We appreciate everybody joining us on the call and we look forward to an update after Q1. Have a good day.

Thanks, everyone.

That will conclude today's call. We thank you for your participation.