International Game Technology PLC (IGT) 2013 Q2 法說會逐字稿

Good day, and welcome to the Gtech 2013 First Half Results Ended June 30, 2013, Conference Call. Today's conference is being recorded. At this time, I would like to turn the conference over to Mr. Marco Sala, Gtech's CEO. Please go ahead, sir.

Good evening, and welcome to Gtech's second quarter earnings conference call. Joining me today is our CFO, Alberto Fornaro. As you might be aware, we have changed our format for these calls to align with a new organizational structure and reporting scheme. In that regard, let me begin by giving you an update on the reorganization of the company.

Since our last call, we have formally completed the change of our name and stock market symbol. The new structure for the Americas, international, and Italy regions, as well as the new centralized products and services organization, has been instituted. I think it's fair to say that we are completing the transition phase and rapidly evolving into one unified customer-facing company.

As I have stated previously, synergy were not a focus of the reorganization, but we expect that will be a natural outcome of the effort. We are evaluating those impacts and should be able to better quantify them on future calls. Overall, we have adopted a more streamlined and efficient structure that should also give greater transparency to the reporting of our results.

As you can see from the redesign of our presentation, we have also gone through a rebranding exercise that is being rolled out throughout the company. Gtech is one of the most respected brands in the gaming industry, and we are confident that the rebranding activities will sustain and enhance its value.

Our operations in Italy will continue as Lottomatica. That brand has strong local value. It will now have the valuable endorsement of the Gtech brand, as it has been redesigned to better align with the corporate brand architecture.

Turning now to our performance, we achieve solid results in the second quarter, with growth in revenues, EBITDA, and operating income, in spite of difficult economic conditions in Italy. The results from our Italian region were stable year over year and generally in line with our expectations. An increase in the number of deployed gaming machines and lowest sports betting payout helped to offset the impact of increase in taxation.

In the Americas and international regions, we are experiencing healthy growth, mainly driven by the increase of same-store revenues, jackpot activity, and probable sales in Canada.

From a strategic perspective, we have established a leading position as a global operator to complement our status as the leading operator in Italy. During the past quarter, we were successful in signing the New Jersey outsourcing agreement, launching new operations in Indiana and Costa Rica, and strengthening our operations in Illinois, Colombia and the Caribbean.

Specifically, in Illinois, the lottery recently announced that the funds it provides to the state to support good causes was the highest amount ever transferred. We are still working with the lottery to determine performance calculations for our first year of operation, as Illinois is the first private manager contract that we anticipated that there would be a period of transition and adjustment, and we are getting through that.

As Alberto will describe, we have estimated a potential $32 million for shortfall payments to the state. Going forward, we are confident that the business plans we have developed will deliver the kind of the results we anticipated.

In Indiana, our management during the transition phase, which ended July the 1st and we took over operations, is achieve results that are above the previous year and our expectation. We are encouraged by the progress there.

In Costa Rica, where we began operation in June, we are experiencing a healthy week-over-week growth and very good acceptance by the local players. Sales have surpassed $1 million per week, and we see strengthening momentum. And New Jersey is moving aggressively to start its agreement with us. We are experiencing to begin operations there in October of this year, earlier than was originally anticipated.

Along with our partners, we have invested $120 million to secure the opportunity, and we are excited about the potential of having a meaningful role in operating one of the world's best lotteries. Overall, we are pleased with the result from our operator activities. We are making good progress towards solidifying our leadership in these aspects of the lottery business. New opportunities in Greece undeniably will come into better focus in the second half of the year.

And we continue to win new business and extend existing relationships. Notably, in the US state of Colorado, we were able to win a new contract with favorable pricing in a jurisdiction in which we were not the incumbent. As often happens, the award is being protested, but our selection was a very gratifying validation of the quality of our offer.

I'd like to conclude with a few words about our guidance. We have had a solid first half of 2013. I think it is important to note that we are confident that we will achieve our full-year guidance and reconfirm that for year to date.

Now I'd like to turn the call over to Alberto for his review for our performance under the company's new operating reporting segments, after which we will take questions.

Thank you, Marco. As was mentioned earlier, the new organizational structure for the Americas, international and Italy region is in place with the new centralized product and services organization supporting the regions. The former Gtech and SPIELO International revenues are now being split by geography into Americas and international. The former SPIELO VLT revenues in Italy have now been moved to the Italy segment. And certain costs previously included in the Italian operation segment were reclassified to corporate.

As we announced on July 15, we will continue to report consolidated EBITDA for 2013 in line with our guidance previously provided. We also intend to gradually migrate the key profitability metric from EBITDA to operating income before certain items, such as asset impairments, restructuring expenses, and step-up, to better align our external financial communication, internal management reporting, and incentive structure.

Now, let's turn to slide eight, which shows the consolidated results. We will see into more detail of each segment later in this presentation. We had solid performance in our key financial indicators for the second quarter, led by results of the Americas region. Consolidated revenues were up 3% to EUR762 million. EBITDA and operating income grew by 5% and 6% to EUR273 million and EUR161 million respectively.

Net income attributable to the owners increased over 5% to EUR67 million, resulting in EPS of 39 euro cents. The net financial position at the end of June was EUR2.67 billion compared to EUR2.55 billion at the end of December.

Let's move to the second quarter business performance by region starting with the Americas. Total revenues for the America region were up 27% to EUR262 million from EUR206 million last year. Product sales were up EUR42 million, driven by the sales of VLT system in Canada.

From the start of the cycle between 2012 and 2013, we have delivered the system and machines in line with our schedule, and some cases ahead of schedule. There is still some potential upside from machines yet to be awarded.

America's lottery since the revenue were up 10%, driven by the record Powerball jackpot in May, as well as significant improvements in eastern ticket sales in Texas, North Carolina, California, and Illinois.

When we remove the impact of the change in multi-state jackpot activity, same-store revenues were up 5.2%. The Powerball launch in California during the second quarter has significantly contributed to 19% increase in total sales in the second quarter in the state.

In Indiana, Gtech became managing day-to-day lottery operation on July 1st. With Gtech working closely with the Hoosier Lottery, the lottery closed out its fiscal year 2013 with record sales and record surplus revenue. All transition and ramp-up milestones were met, and Gtech investment during this period will be fully reimbursed by year end.

In New Jersey, Gtech portion of the net upfront payment was EUR38 million after the contribution of EUR54 million from our partners in the joint venture. As part of our new 15-year contract, we will operate under more favorable rates beginning October 1st.

In light of the completion of the state of Illinois financial statement for fiscal year 2012, and based on preliminary information for its fiscal year ended June 30, 2013, as of June 30, 2013, we have estimated a net shortfall payment obligation to the state of approximately EUR32 million, to be absorbed over the remaining term of the contract. We expect at a minimum to be in a net incentive compensation position for the state fiscal year ended June 2015 through the end of the contract.

Total revenues for the international region in the quarter were EUR79 million versus EUR87 million last year when we recorded product sales in Turkey and Switzerland. International lottery same-store revenues were up 3.5% versus last year, driven by sales from the Czech Republic, as well as a solid instant ticket performance in the United Kingdom. EBITDA was impacted primarily by lower product sales.

In Italy, lotto and scratcher [win wages] were stable at 1.53 billion and 2.37 billion, respectively. We benefited from higher wages for late numbers [and ten a lot]. The impact on revenues from lower sports betting wagers was offset by lower payout partly deriving from market trends, and machine gaming revenues were mostly impacted by the increase VLT taxation from 4% to 5%.

Our 2013 EBITDA of EUR191 million, which included the net effect (inaudible) approximately EUR4 million were substantially in line with our prior year performance. Lottery EBITDA continued to show stability, despite the macroeconomic environment. EBITDA from gaming machines benefited from the pass-through of a share of the increased taxation to the operators, timing and certain costs, and a reversal provision recorded in 2011 for litigation [resolved] in our favor.

Spot betting performance in Italy is also benefiting from a cost management program. As you know, the (inaudible) market in Italy is down, though the rate of decline was low, significantly in the second quarter. We have been able to partly offset the drop in poker with strong gain in casino games.

Now let's look at the P&L below EBITDA. Depreciation and amortization is likely higher due to capital investment in 2012. As we expected, the effective tax rate was 40.8%. Net income attributable to the owners were -- grew 5% to EUR67 million. Net interest expense was in line with last year at EUR40 million. As we said, EPS grew to EUR0.39. Pro forma EPS may be found in the appendix.

On slide 13, you will see the year-to-date revenues in EBITDA grew 2% and 6% respectively. As we anticipated, the NFP was higher at EUR2.67 billion at the end of June, compared to EUR2.55 billion at December end of 2012.

Cash from operation of EUR354 million (inaudible) capacity to (inaudible) majority of CapEx, interest, dividend, and minority payments. We expect the NFP to improve in the second part of the year, and we remain on track to achieve our NFP target by year end.

Summarized, our second quarter results were solid, and we remain on track to achieve our full-year guidance for EBITDA and NFP. Now I would like to open up the lines for Q&A, after which we will hear the closing statement from Marco.

Thank you. (Operator Instructions). We will take our first question from [Vahi Lewis] of Morgan Stanley. Please go ahead.

Hi, guys. I have a few questions, if that's okay. The first one, can you give us a bit more detail about the -- the machine replacement cycle in Canada? There's a few figures on the slides there, but can you let us know how many machines you've actually done so far and how many there are contracted in total?

And then the second one, just following on from that, really, it looks like the drop-through to profit from those machines is very low, so you've got an extra EUR42 million of product revenues in Americas, but EBITDA from that only up EUR12 million, which seems like a very low contribution margin from those machines, particularly if you look at international, where product revenues are down EUR6 million and EBITDA from that's down EUR5 million, so you know, nearly 100% drop-through on the international segment. So why is the profit so low on those Americas machines?

And then, thirdly, could you just give us a bit more detail on the cost base on Italy? Revenues are down 29 million, so how is EBITDA only down EUR2 million in Italy? Thanks.

Okay, let's start with the machines -- this is Alberto -- with the machine replacement cycle in Canada. Overall, we were projecting a number of units to be sold in excess of 13,000 machines, and almost a fourth of it was in the fourth quarter of 2012.

And the remaining will be in the next -- between the first half and the next two quarters. So we will have a small tail in 2014, but it is very small, because we have been able to anticipate part of the delivery of the machines in Q4 2012, basically last year.

Regarding the machines, regarding -- regarding the impact of the -- on the profitability, here you find also in this slide not only the impact of the Canadian replacement cycle in Canada, but also all the other -- the impact of all the other revenues coming also from the product sales that impacting negatively, mostly related to mix, and also of the other services. So in reality, the profitability of the sales in Canada are in line with our expectations.

Regarding -- regarding the Italian EBITDA and the link to the revenues, I think it's quite important to link the reduction in the revenue to two main product areas. First of all, the sports betting, where actually our profitability improved, given to the lower -- to the lower payout, but the lower payout is impacting revenues, too. That's the first item.

The second one is regarding the overall performance in the gaming machine. Now, there -- as I mentioned, there is a reduction in the revenues that is in excess of EUR20 million. However, as you probably are aware, part of it -- around [alphabet], a little bit more than alphabet is passed through to the network and the remaining impacts our EBITDA. And we have been partly to some additional cost reduction in the quarter, as well as the impact of the run-off to neutralize the negative impact of the revenues on the EBITDA.

Great, thank you.

Thank you. We will take our next question from [Stadio Pavan] of Mediobanca. Please go ahead.

Yes, hello. Good evening to everybody, and thank you for taking my question. First -- I have a couple of questions, if I may. The first one relates to Italian lotteries. Wondering if you could provide us some update on the formats and beginning of the third quarter.

Second question is related to the privatization of Ireland contract. So I was wondering some update -- or in this case will we welcome. Thank you very much.

Okay. Regarding the Irish lottery, we are working up, because there is a submission that you mid-September. So as always, we are approaching very seriously and we are reviewing all the aspects related to that privatization. And what I can say is that the submission is due, I think, the 16th of September. That is all I can say.

Since I'm talking, I'll tell you also regarding lotteries, lotteries are performing exactly in line with our expectations, because at the end of the day, we are aligned with last year. You were asking regarding July. July, we are experiencing a very good month, because lotto is very slightly above last year, while scratch and win is registering a very positive month that is bringing the comparison between December 2012 up to July year to date, totally aligned with the same period of the previous year.

Thank you very much.

Thank you.

Thank you. We will take our next question from Domenico Ghilotti of Equita SIM. Please go ahead.

Good afternoon. I have two questions. The first is on the project that is -- I read there is a project under discussion between gaming machine operators in Italy and the regulator for reducing the number of AWPs, so if you can elaborate a little bit on the discussions. And the second question is related to the shortfall in Illinois, and I wonder if you can help us in understanding how it will affect the P&L and the cash flow?

Okay. I take the first question, and Alberto will answer the second question. No, there is a debate, because as everybody knows, I mean, there is some concern at the political level also related to the media talk against AWPs in Italy. We are constructively, as company and also the association of gaming operators, is working in order to provide some inputs, some advices to our regulator.

Yet the point is related to the distribution, and I think there are possibility in our view to reduce the distribution of AWPs in Italy, because there are some part of this distribution that is not very well controlled and, by the way, is rather marginal.

But having said that, I do not intend to enter in the details of what we advised our regulator with, because it's up to them -- it's up to them now to make an assessment regarding our inputs and decide what they want to do.

Are they providing any indication on the potential timing for any decision?

No, not yet.

No, okay.

Dominico, Alberto. On the short fall in Illinois and the impact on our P&L and cash flow, at the moment, we have booked the liability in our -- in our balance sheet. And this liability will be released at the time that a payment will be assessed, and you are aware that on the first year there is a disagreement on the methodology to calculate the net income with (inaudible) and then we are basically following what is the process that is described in the [PMA], after having had with them some conversation that I've clarified as a little bit better the difference in the methodology.

We will follow the process so that we'll probably, at the end, might require a third-party neutral to take a decision and then, at that point, eventually we expect to make a payment, if any.

For what is related to the P&L, at the same time, we have booked -- the liability have booked an asset -- non-current assets in our balance sheet, and we will amortize over time. The impact will be more or less a reduction in terms of -- in terms of operating income around EUR4 million per year.

Okay, so it is amortized along the contact duration? Okay.

Yeah, for the remaining life of the contract.

Okay. Thank you.

Thank you. As a reminder, please press star, one on your telephone keypad to ask a question. We will take our next question from Richard Stubor of Nomura. Please go ahead.

Yeah, hi. Good evening. Just a couple of questions, please. First of all, on sort of the SPIELO and the replacement cycle, in Canada, that's coming to an end, end of this year. Could you just give some color in terms of where you see future VLT product sales and whether you think that should -- and you should be able to sort of see out of a flat revenue profile going forward for the old SPIELO division?

And, secondly, I know it's very early days, but in terms of the 2016 contract expiry for the lotto, could you give any indication in terms of what sort of timetable you expect in terms of when that will start -- you know, when sort of details on that will start to emerge? Thank you.

Look, let's start from the second question, because it's the easiest to answer. We do not have any visibility on when the government will decide to launch the new tender. According to our experience, it should be the previous year, because it should be in 2015, because it takes time for the replacement of the entire network. But we do not have other visibility than this one that is based -- that is not a visibility, but is only our experience. So nothing should happen before 2015.

Regarding the question on VLTs, it's clear that we are working up in order to see how we can continue developing this business over time. I have to tell you that there are several opportunities, especially in North America, because there are many -- many jurisdictions that could enter in a replace phase. It's difficult to predict when it will precisely happen, but we are talking about Louisiana, we are talking about West Virginia, Montana, South Dakota, and Illinois, that by the way is progressing. We are deploying some machines there, as well as Oregon.

We have also to mention in Europe, Greece, because we expect that sooner or later also OPAP will undertake the project on VLTs. So we feel that we have opportunities in front of us, always difficult to say when they are going to materialize, but after this period we did in Italy and in Canada, we feel ourselves -- ourselves are quite equipped in order to try to get a share in those opportunities.

Thank you.

Thank you. We will now move to Andrea Randone of Intermonte.

Thank you, and good evening to everybody. My first question is, again, about Illinois contract. Just a clarification. You mentioned that, according to your plan, you are expecting a positive incentive from this contract starting from 2015. I'm wondering if I understood correctly this information.

And the second question is about the privatization of OPAP in Greece, if you can give us an update of the situation. Thank you.

Okay, regarding Illinois, I said that at the minimum we will expect starting in 2015, so -- but let me also say that when we look at the contract, over the -- we always evaluate over the entire life. We are in total considering the shortfall that we have estimated. We still provide a healthy IRR on this contract based on our current estimate.

Regarding Greece, we expect in the next month the execution of the contractor because the consortia and this data for getting the government a stake within OPAP. But I can -- I cannot say something more detailed than that.

Thank you. Thank you very much. But just -- if I may follow up on Illinois, what has changed in -- from the previous agreement you had with the state of Illinois, if you can give us this information?

Well, very simple. There are a couple of things that have happened. Most importantly, they have published the financial statement, so we're able to understand based on what they were making some estimate regarding the net income shortfall and also the second year, at the end of June, finished, so we were able to draw some conclusion not only on the first tier, which is currently, as you know, under discussion in terms of final results, but also on the second year. These two events led us to do these valuations and, again, still -- for the first year, we're still debating.

Thank you again.

Thank you. We will take our next question from Vahi Lewis of Morgan Stanley.

Hi. Sorry, it's another follow-up on Illinois, I'm afraid. If you do end up having to pay the $20 million that they're asking for, for the first year, does that get added on top of the estimated EUR32 million for year two, then? Or does -- does the figure you've given include an assumption for the first year?

And then just looking at the business in total, I mean, EBITDA is up 6% in the first half, and your guidance for the full year is up 2% to 4%, so what are the headwinds in the second half that -- that mean that you're expecting a sharp slowdown in EBITDA growth in the second half? Thanks.

Okay, regarding the first question, we need to look at the entire life of the contract, instead of different years, keeping in mind that we have a couple of issues. One is the methodology that is impacting the first tier that is different, but also there are still a couple of areas where we do not agree in -- with the lottery regarding the net income target, because, for example, on the Internet sales that were at the time of the signing of the contract, they were supposed to start right away the beginning of a contract. In reality, the start of the Internet sales happened later on.

So based on this uncertainty, we have basically drawn different scenarios for the years related to the contract, and then through a methodology, we have weighted average in this scenario, and that's the result of the -- of the liability that we have booked. So in reality, it's a little bit more complex and is coming from a weighted average evaluation of the different scenarios.

Regarding the -- your second question on the performance, let me just elaborate a little bit regarding the guidance and where we are today. First, the guidance initially was structured for the business we had before, Gtech SPIELO in Italy, and we said that related to Italy, we were targeting a stable profitability, saying that there were some challenges, but still targeting a base profitability. Based on the new reporting, for Italy, nothing has changed. But for the other two, the EBITDA growth should come basically from Americas this year.

So going to the first alpha and second alpha, the profile of the profitability is a little bit different than what we anticipated, because, first of all, the replacement cycle in Canada is more -- is weighting more in the first half than in the second, compared to what we expected, so there is some favorable timing in the first half compared to the second.

The sports betting payout was very favorable in the first half. We're not assuming the same favorability in the second -- in the second half, and on the VLT, we need to take into account when we do first half of this year against first half of last year, we had an additional 10,000 -- sorry, additional 1,000 more or less machines and, in the second half, we will not have that impact.

So what I would say to summarize is a different distribution due to mostly timing between the first and the second half durable conditions are good, as you have seen from the results of the same-store sales, for example, and for the fact that on the Canadian replacement cycle, we are on target and, therefore, that's the reason why we are confirming the guidance without revising it.

Great. Thank you.

Thank you. As a final reminder, to ask a question, please press star, one on your telephone keypad at this time. Please do not ask more than three questions per person. We will take our next question from Domenico Ghilotti of Equita SIM. Please go ahead.

I have two questions. The first is related to the international lotteries. I would like to understand if you are happy with Q2 performance that was slightly positive and no more than that. And the second question is on the synergies from the reorganization. I read in a slide that you have quantified the slides by (inaudible) so I didn't catch the quantification, if you have provided it.

No, we didn't disclose synergies for the group going forward. We said that we're working on it, and as soon as we will finish our work regarding synergy, we will disclose it to the market.

Regarding lotteries, we had a very good quarter. I mean, in the jackpot activity in US, the same-store sales -- our international -

Yes, I was looking at international performance (inaudible)

No, international -- international, we had an unfavorable competitor in U.K. And what we can say that is we can -- let me check on number -- the primary drivers, the -- no, this is negative -- sorry, let me check. We're doing quite well, as far as the Czech Republic is concerned, and the comparison with U.K. was not positive because of a previous jackpot. That is what I remember regarding -- but...

In general, you are quite happy with overall performance than your international markets, apart from the US? You don't see any challenge, any particular disappointment?

No, I do not see a major disappointment. I think there are good initiatives in the second half of the year. And the U.K. could contribute for our growth quite significantly going forward, because they have solid programs both in lotteries, as well as in the instant tickets.

I think that the Czech Republic development is strong and is supposed to continue over time. I think we have good opportunities to grow our business in Poland and Slovakia and we are devoting quite an important amount of time to understand how we can develop our business in China.

So -- and if we look also, the privatization I mentioned regarding Ireland, I mentioned -- I didn't mention, but there is -- we are still waiting for Turkey, as a lot of the opportunity, so overall, I -- notwithstanding a soft second quarter, I think our perspective, also internationally going forward, is positive.

Okay, thank you.

Thank you. As there are no further questions, I would like to turn the call back over to Mr. Marco Sala for any additional or closing remarks.

Okay. It seems to me that the takeaways from today's call are straightforward. Our strategic objective of remaking the company into one unified customer-facing [organization] under the Gtech brand is well underway. The synergy that should result from these activities are becoming more clear to us as we complete the reorganization, as importantly we are now aligned with customer and market expectations in the evolving gaming industry.

We have leveraged Lottomatica and Gtech's experience to become a leader in the lottery operator space and see good opportunity for growth in near term. And finally, we have had a good second quarter and remain on track to achieve our full-year EBITDA and net financial position guidance. Thank you for joining us, and enjoy the remainder of the summer.

Thank you. That will conclude today's conference call. Thank you for your participation, ladies and gentlemen. You may now disconnect.