International Game Technology PLC (IGT) 2015 Q3 法說會逐字稿

Good day and welcome to the IGT 2015 third-quarter results ended September 30, 2015 conference call. Today's conference is being recorded. At this time, I would like to turn the conference over to James Hurley. Please go ahead.

Thank you for joining us on IGT's third-quarter 2015 conference call. Marco Sala, our Chief Executive Officer, will provide an overview of the quarter and comment on broader strategic initiatives. Then Alberto Fornaro, our Chief Financial Officer, will provide operational and financial perspective on the third quarter, in addition to reviewing our revised outlook for 2015. After the Company's prepared remarks, we will open the call for your questions.

During today's call we will be making some forward-looking statements within the meaning of the federal securities laws. Forward-looking statements are not guarantees and our actual results may differ materially from those expressed or implied in the forward-looking statements. The principal risks and uncertainties that could cause our results to differ materially from our current expectations are detailed in our SEC filings.

And now I'll turn the call over to Marco Sala, CEO of IGT.

Thank you, James. Good morning or good afternoon to all of you. I'm pleased to welcome you to this call. Overall, our third-quarter performance matched our expectations in this year of transformation and integration for the new IGT. It reflects the diversity of our revenue streams which are mostly comprised of stable, recurring revenues.

Product sales, which are a much smaller portion of our overall revenues, are, by their nature, more variable from one period to the next. And, as we had anticipated, our global product sales did not match the level of the previous quarter, partially a function of industry seasonality. When we take a closer look at gaming replacement units, excluding conversion, over the last two quarters we have a more stable picture.

Reflecting the third-quarter dynamics I just talked about, our comparable revenues were down 10% in the quarter and adjusted EBITDA declined 17%. We reduced our SG&A and corporate overhead expenses in the period, even as we make further investments in R&D. And our absolute profit level was robust. Adjusted EPS was $0.41 per share. Our financial condition is solid and we are particularly pleased with the strong free cash flow we generated in the quarter at $132 million.

In the year-to-date period, our global lottery operations have delivered nice same-store revenue growth. Our land-based performance has been stable, and social gaming has done well. We are delivering in the areas that are under our control. This is a direct result of our commitment to constant innovation and to disciplined operational management.

Our focus on innovation is evidenced in the sustained same-store revenue growth of our lottery operations. In North America, as well as in our international segment, same-store revenues were up nicely thanks to continued momentum for instant tickets and draw games. In Italy, excluding late numbers, Lotto wagers were up, supported by the sustained growth of 10eLotto and Numero ORO.

Success in lottery is about driving the business with innovative content and technology. This is what has enabled us to grow a mature market like Italy over the years. We are constantly looking for ways not only to support our lottery clients but also to enhance and grow it. One example is the introduction of exciting new mobile player applications in Rhode Island and Tennessee during the quarter.

In October, at the NASPL lottery trade show, we introduced Aurora, the next generation of our leading central system and back office applications for lottery customers. It is an open, flexible suite of services designed with the customer first mentality that is our hallmark. Aurora enables operators to rapidly integrate the new systems, games and applications, including capabilities for iGaming and iLottery, sports betting and mobile application, making it a perfect convergence platform. The operators who tested Aurora at the show saw its potential to drive growth and profitability. It is a clear demonstration of our commitment to leading the global lottery space.

We also showcased our instant ticket capabilities at NASPL, emphasizing our product development and marketing expertise as well as our printing capabilities. Instant games are the fastest growing segment of the lottery market. It is another priority growth area for us, one where we have a lot of expertise from Italy and certain US jurisdictions to leverage elsewhere. We are investing in this opportunity in North America and in our international lottery operations. We have the right leadership and strategic vision to move ahead. And we have hired new management to step up the pace of our development.

Turning to gaming, our performance was more mixed this quarter. As I noted, product sales were below the second quarter's high level, illustrating the quarter-to-quarter variability of shipping timing. Our installed base at casinos worldwide has shown signs of stabilization in recent quarters. WAP yields have improved and new titles, like Quartermania and Gong Xi, are doing great. Sphinx and Ellen, as well as the Wheel of Fortune franchise, continue to be among our best-performing titles.

Our gaming organization is now fully integrated. We have combined not just the sales forces but also the marketing and product development teams. In September, we brought on board two industry leaders with substantial experience and proven track records. Ken Bossingham now leads our casino core product team, and Dallas Orchard is responsible for all aspects of our premium product portfolio. We told you that securing talent is a key priority in our gaming strategy, and it will remain a focus.

On the innovation and content sides, which are the other key drivers of the gaming turnaround, we've completed a lot in a short period of time. At G2E in September, we presented a complete, diversified offering, including new titles, new versions of existing titles and new system capabilities. The benefits of the merger were tangible, the clearest example being the combination of our groundbreaking True 3D technology with market-leading content, resulting in Wheel Of Fortune 3D. Plants vs. Zombies 3D was another show favorite that also builds on proven title, as was TMZ, with its highly innovative in-play camera and social functionality. The response from customers, including a growing contingent of international operators present at the show, is encouraging.

I want to make a special mention of our casino systems solution. In late September, we renewed and expanded our casino management systems at Wynn in Las Vegas. And we won the systems business at their future Macau and Massachusetts casinos. This is a significant endorsement of our ability to support our customers as they optimize floor efficiency and drive player engagement. Casino systems are a real priority and a real opportunity for us, where we can truly leverage the complementary strengths of the two legacy businesses, GTECH's systems integration skills and IGT's commercial gaming presence.

At the G2E, we presented our Spinferno tournament solution, which takes full advantage of our casino systems know-how. We also showcased our mobile, OnPremise offering, a solution that leverages the best-of-breed technologies of our legacy organizations, enabling an operator to extend sports betting and game play beyond the casino floor. The cross-platform content and distribution capabilities of OnPremise were recently recognized by Global Gaming Business Magazine as the Best Consumer Service Technology at G2E.

Turning to Italy, our performance was resilient in most core activities. As you know, Italy is a large, important market for us. The scope of our activities in the region is broad and deep. Broad in the sense that we have a highly diversified mix of businesses, from the traditional draw-based lottery to instant tickets and gaming machines, as well as interactive, sports betting and commercial services. Deep because, in many instances, we operate as a B2C provider, meaning we have complete oversight of the value chain. The scale and scope of our Italy operations is a competitive advantage for us, not only in the local market but also as we develop products and services for lottery and gaming customers around the world.

During the third quarter, we experienced a drop in Lotto wagers entirely due to the very low late number activity. This was a function of game dynamics rather than the sales, marketing and distribution strategies that we execute to drive business. We were also affected by a 6 percentage point increase in sports betting payout, up from the unusually low level of the prior year. Excluding the impact of the Stability Law, machine gaming revenues were stable. Apart from these external factors, it was a satisfactory quarter in Italy, underscoring our ability to continue performing at a high level even in developed, mature markets. This resilience is also visible in our Italian profitability again this quarter.

Earlier this week, the Italian Council of State provided its opinion to the lottery regulator on the parameters for the upcoming Lotto tender. This is important progress. The regulator is now able to prepare the documentation to issue the RFP. We are on track to deliver the synergy we discussed since the announcement of the IGT transaction, as well as the asset disposal programs we've highlighted.

I am also pleased to announce that the manufacturing integration in North America has just been completed, ahead of schedule. We are now manufacturing all North America gaming and lottery machines at our Reno facility. And we expect to complete the European consolidation by year end, which is also ahead of our original plans. I want to offer a special thank you to the many teams that worked diligently to make this milestone a reality.

A word on our outlook, which Alberto will detail later. While our third-quarter revenue shows the impact of natural variability in some of our businesses, the diversity of our operations and our financial and managerial discipline enabled us to deliver strong free cash flow and profitability in line with our plans. On this basis, we are confident in ending the year towards the top half of the range of our EBITDA outlook. I will now turn the call over to Alberto.

Thank you, Marco. On slide 8, we are showing reported figures that represent IGT plc in the third quarter of 2015, but only Legacy GTECH in the third quarter of 2014, according to US GAAP. As a result, the change between periods is quite significant and the comparisons are not meaningful. Similar to last quarter, most of my commentary today will focus on pro forma adjusted figures, which you can see on slide 9.

As you can see from the charts, foreign exchange continued to have a significant impact in the third quarter. This is primarily due to the translation into US dollars of those revenues and profits we generate in euros and, to a lesser extent, other currencies. The average euro/dollar exchange rate was 1.11 in the third quarter of 2015 compared to 1.33 in the prior-year period. Foreign exchange will have a material impact in the fourth quarter, too, but become less of a factor in 2016.

As a reminder, the items we have adjusted for include purchase price accounting, transaction expenses and restructuring costs. A reconciliation of the adjustments we've made to the reported GAAP figures is provided in the appendix to this slide show and also in the press release. Generally speaking, the drop you see in these chart is a function of the extremely good quarter legacy IGT had in the prior year, as it was their fiscal year end, and also to lower gaming product sales. Importantly, we achieved the EBITDA we were expecting. As we described on the last call, the $414 million of adjusted EBITDA in the third quarter is only modestly below the second quarter, as synergies begin to materialize. We also achieved $0.41 in EPS on an adjusted basis.

Let's move to a high level overview of the operational driver of consolidated revenue and operating income during the quarter, which you can find on slide 10. Recurring lottery service revenues were up, supported by same-store revenue growth in our North America and international segments. DoubleDown was also up, returning to growth. Gaming service revenue was down on a decline in the installed base and taxes related to the 2015 Stability Law in Italy, but was helped by improved WAP yields in North America and higher machine productivity in Italy. Product sales reflect the comparison with the significant Oregon VLT program, a large conversion sale in Mexico in the prior year, and in addition to the weaker casino opening calendar in North America.

Operating income dynamics effectively follow the revenue trends. There is a negative leverage impact on lower product sales volumes, and IP flows straight through operating income. Embedded here is also a $5 million net impact from a revised termination agreement with the Illinois lottery. You also see positive contribution from lower SG&A due to synergy benefits and disciplined cost management.

Let's move to our four segments, beginning on slide 11 with North America Gaming & Interactive. Here, we're pleased by the relative stability in gaming operations, notwithstanding the lower installed base. DoubleDown was up, supported by a 14-point increase in mobile penetration and improved player conversion. Higher WAP yields in the period, the strongest in 12 quarters, mark a distinct change in trend and helped mitigate the contraction in the installed base. The casino installed base of more than 25,000 machines has been relatively stable since the beginning of the year. It compares to 28,500 in the prior year, reflecting closures in Atlantic City and Mississippi, in addition to large Maryland lease conversions.

Product sales reflect lower unit shipments compared to the prior year, which had benefited from the sales of nearly 1,900 Oregon VLT units and from higher new casino openings. Year to date, total replacement unit sales are up 4%. We recorded strong demand for our newer cabinets during the quarter, which represented about half of the total casino unit sales. Average selling prices were also higher than the prior year, mostly due to mix. Revenues were also impacted by lower IP licensing, which was anticipated. We expect the IP comparison to moderate beginning in the fourth quarter. Operating income for the North America Gaming & Interactive segment reflects revenue dynamics and overall mix impact, especially since IP is 100% profit. It also includes further investment in R&D.

Moving on to the North America Lottery segment on slide 12, the same-store revenue growth of 8% in the quarter represents an acceleration from the year-to-date trend. Instant tickets continue to post the strongest gains, although we achieved nice growth with draw games and multi-state jackpots, too. The results are even more impressive when we consider double-digit gains in several large markets, including California, North Carolina and Indiana. Wins in Colorado and Ontario also contributed to total revenue growth in the quarter. Lottery Management Agreement revenue includes a $10 million impact related to the Illinois lottery termination agreement. Operating income for the North America Lottery segment was up significantly on strong same-store revenue growth and disciplined operational management, and despite the Illinois termination settlement.

Turning to slide 13, you see that revenue from our international segment was mostly affected by machine unit sale and currency translation. We sold over 3,000 gaming machine units during the quarter. Keep in mind that in the third quarter of 2014 we had large Mexican conversion units and Asia-Pacific sales. Average selling price were higher due to the mix impact of the conversion sales in the prior period.

Gaming operations revenue was modestly below the prior year. We are pleased by the growing interest in the Crystal Dual and S3000 cabinets. Lottery same-store revenues rose 2% in the quarter, led by strong instant ticket growth across most jurisdictions. We also experienced continued jackpot growth in Eastern Europe, which was partially offset by weaker trends in Latin America. International operating income reflects the impact of lower machine sales, especially the high margin Mexican conversion sales of the prior year.

Our results in Italy are found on slide 14. You see a substantial impact from currency translation here, but the resilience of the core business is noteworthy. In the third quarter, we experienced relative stability in most of our core activities, and did a good job controlling the controllable, although that is somewhat masked by three outside factors -- the impact of the 2015 Stability Law on machine gaming, a 6 percentage point increase in sports betting payout, and a significant decline in Lotto late numbers. These items affected both revenue and operating income in the period.

Total Lotto wagers were 4% percent below the prior year, entirely due to late numbers. Excluding late numbers, Lotto wagers were up low single digits, supported by continued strength of 10eLotto and Numero ORO. The successful introduction of new instant ticket products helped improve the year-to-date trends for Scratch & Win. Machine gaming revenue was stable excluding Stability Law impacts, as higher productivity and mix offset a 12% decline in AWP units. The revenue dynamics essentially flow to the operating income line. As a reminder, we had an $18 million gain on the sale of our Italian sports and events ticketing business in the third quarter of 2014, which also affects comparability across periods.

On slide 15, we have the income statement with reported figures. Here I'd like to focus on interest expense, where the increase is attributable to our higher debt, which you can see detailed by instruments to the right. Net debt was down from the second-quarter level, about half of which includes proactive measure to reduce debt, with the remainder a function of natural cash generation. At the end of the third quarter, our debt continues to be split approximately 50/50 between dollars and euros.

Moving on to slide 16, you can see that we generate a significant amount of cash, with $471 million in cash from operations year to date. This is after a third quarter with heavy concentration of cash out flows from interest and taxes paid, together in excess of $300 million. Year to date, cash from operations was also impacted by approximately $150 million in one-time transaction-related expenses, and it does not include the $83 million in cash from operations generated by legacy IGT in the March quarter, which preceded the acquisition.

Capital expenditures were $289 million in the first nine months of the year, which we would mostly characterize as maintenance CapEx. Free cash flow, which we define as cash from operations less CapEx, was $182 million, using reported figures, which is also after the approximately $150 million in one-time items, and does not include $57 million in free cash flow from legacy IGT in the first quarter of 2015.

I will conclude now with our outlook for the balance of the year, on slide 17. We have revised our outlook for 2015 pro forma adjusted EBITDA to a range of $1.605 billion to $1.705 billion. For clarification, the new outlook adds $30 million to our prior range of $1.575 billion to $1.675 billion.

As we noted in this morning's press release, we have harmonized the methodology used to calculate pro forma adjusted EBITDA in the first calendar quarter of 2015 by adding back certain legacy IGT items that had not previously been included. This change is better aligned with how we assess performance, and, based on the feedback we've received, is also consistent with the way many of you in the investment community have adjusted our historical numbers. I repeat, this is simply an inclusion of items not previously included.

Our EBITDA outlook includes an FX headwind of approximately $200 million. There is an additional approximately $30 million headwind related to US GAAP conversion. Based on everything we've told you about the quarter and our performance since the beginning of the year, as well as our prospects until the end of December, we are confident that we can reach the top half of our revised 2015 adjusted EBITDA outlook, to be clear of the new $1.605 billion to $1.705 billion.

We have also updated our CapEx plan, which is now estimated at $400 million to $450 million, compared to our prior outlook of $450 million to $500 million. A reason for the reduction is a shift in the timing of certain growth and maintenance CapEx earmarked for lottery and VLT, Greece in particular. This year's capital plan includes increased investment in gaming operations as we support new cabinet introductions. We remain on track to achieve $280 million in total synergies by 2018, with two-thirds of the $230 million in cost synergies to be secured on an annualized, run-rate basis by April 2016. As of the end of the third quarter, which means six months after the merger, we are more than halfway towards our April 2016 target.

Finally, a word on debt -- on the August call, we mentioned we expected to finish 2015 with debt substantially in line with the second-quarter level of $8.4 billion. Since the Italian Lotto bid will not be concluded by the end of 2015, the EUR350 million first tranche of the concession payment due at the close of the bid will be postponed to 2016. In addition, the better cash generation in Q3, coupled with lower CapEx, lower taxes paid, and several initiatives in the pipeline to maximize cash, will result in net debt falling below $8 billion by year end. We maintain our medium-term leverage target of 4 times EBITDA.

To conclude, EBITDA we achieved this quarter reflects the resilience of our business model. We met our profit objective despite the lower product sales, and we are beginning to benefit from our synergy plans. Free cash flow generation was strong, a result of disciplined operational management and lower than expected cash taxes and CapEx. With this performance, we are confident in achieving the top half of our EBITDA outlook for the full year and reduce our net debt below $8 billion at year end.

At this point, we'd like to open the call for your questions. Operator, can you assist with that?

(Operator Instructions)

We will now take the first question from David Farber from Credit Suisse. Please go ahead.

I had a couple questions. First, just on the cost front, numbers were a touch better than we had expected. I was curious what you guys think you've achieved in the third quarter from the $230 million goal on the cost side and then from the $50 million of revenue synergy, what you think actually has been realized in 3Q. And then I had a couple follow-ups. Thanks.

It is very simple. Our synergy program plus our other cost savings that we are planned are coming a touch better in terms of timing, and therefore it's positively impacting our overall profitability. And regarding the second question, again, what we provided you, our goal is in terms of annualized cost savings by the anniversary of the merger. And, again, the first six months we are more than 50% of it so we are very confident to reach our goal for April next year.

Right. And did you discuss what's actually been realized versus what programs have been run out? I'm just curious what you think has been realized in this particular quarter as it relates to the number you provided.

No, we prefer to talk about the growth we have done because, otherwise we will go into very detail every quarter on what we have done and what not. But, basically, as Marco mentioned, just to give you some color, certainly the consolidation of the manufacturing footprint has helped. There were some costs, head count and corporate costs taken out at the beginning, right after the merger and this is helping our profitability.

Okay. Very good. And then just can you update us on the Italian contract? You talked about it a little bit in the prepared remarks. It looks like it's going to be a 2016 event. What's driving that? What's your best expectation now on timing there?

And then a follow-up question to that is maybe just some very broad expectations for 2016. No guidance but obviously the comps get a lot easier. So, update us please on the Italian contract, just for timing, and then maybe just some broad thoughts around 2016. And then I had one last question. Thanks.

Regarding the Lotto bid in Italy, I think there is good progress there because the state council indicated that this week that the regulator is permitted to issue the RFP with a revised requirements. So, the good news is there are not changes to the structure of the tender. And for now it is up to the regulator to issue the RFP that at this point in time we expect by the end of this year. Regarding the 2016, we have not anticipated guidance.

Can you just confirm, you see net debt falling below $8 billion for the balance of the year and that's driven by the EBITDA as well as less CapEx, is that sort of what got you there? And that's it from me, thanks.

No, what I said is we are targeting to be below $8 billion at year end. And the reason is because there is some cash generation in the fourth quarter and overall for the full year. This is driven by the fact that we are lowering the CapEx. We are a touch better in terms of taxes to be paid. And also we are evaluating and planning some activities in order to, particularly in the [treasury adding all in], in order to reduce the debt.

Very good. Thanks.

Thank you. We will now take the next question from Barry Jonas from Bank of America. Please go ahead.

Hi, guys. Just a follow-up on the synergies. I noticed R&D was a little bit higher in North America. I think your original synergy targets talked about a $20 million reduction. Is anything compositionally changed in that synergy guidance? (technical difficulty).

Lisa, we're ready for the next question.

This is Barry Jonas again. Sorry, must be some technical issues. I just had a follow-up question on the synergies. R&D is higher now in North America, so I'm just wondering, relative to your original synergy guidance, which had a $20 million reduction in R&D, if anything compositionally has changed.

No, Barry, I was saying that there is no change. We still target to achieve the $20 million. And obviously the R&D you can imagine it's an area where we are very careful and, therefore, particularly in a moment in which we are doing a lot of evaluations related to the integration of cabinets and to evaluation of the content. So, I wouldn't draw any conclusion based on the results in this quarter. And naturally I will tell you we will confirm the fact that we will achieve the $20 million in R&D synergies.

Okay. Great. And then just shifting over to Italy, is there any update on the litigation to reverse the Stability Law?

No, we are still waiting for the merit of the discussion. The judge rejected the suspension of the payment, but they didn't discuss the merit yet.

Great. And then just in terms of North American product sales, you've got one large competitor who's reported so far. Do you have a sense if your market share has stabilized at this point?

Let me answer in this way. I think there is a natural variability to our results in any given quarter due to the timing of orders, industry seasonality and other factors. As we didn't overly-emphasize our results in Q2, I'm not overly focused on our results in Q3.

If you look at the results of the last six months that we've been managing IGT, our replacement sales are actually up slightly as compared to the same time frame in prior year. So, at the end of the day, if I combine the two things in the sequential improvement we've seen, we should talk about stability.

Great. Okay. Thank you very much, guys.

(Operator Instructions)

We will now take the next question from Chris Jones from Union Gaming. Please go ahead.

Great. Thank you. A couple quick questions here. First, talking about your gaming ops, obviously the best performance you've seen in 12 quarters. Can you talk about when you think you're going to see some stability in the installed base there? And my next question is, we've seen a lot of discussion here in the United States about fantasy sports coming from a lottery casino operator. Any thoughts about how you think that could be something that you guys could somehow get involved with? There would be my next question and then two follow-ups. Thank you.

Talking about gaming operation, we are pleased to report that in the North America part of the business the casino installed base is only down 1%. This is due to the improved performance in the legacy IGT titles. Quartermania, Gong XI, and the continued expansion of True 3D games.

In addition to that, looking forward I think this is a content-driven business, so we are creating a portfolio of high-performing games that we will launch over time. But, on the other hand, some customers might challenge this segment with their EBITDA target. So, we have to consider the two things at the same time in order to draw a conclusion on that, and we will see over time. But so far, we are pleased about the performance we are having in our installed base in the North American business.

Having said that, if you tell me about the daily fantasy sport, we are not a company that will enter that segment as a B2C operator. That is not in our strategy. We might support customers that according with the local regulation might think to enter in that space. In that case, it's clear that we can support some of our technology and some of our know-how in the sports betting.

Great. Thank you. Just two quick follow-ups to some previous questions. First, is there any reason, outside of the Italian lottery, to think your CapEx would change materially in 2016 versus 2015? And then, secondly, you mentioned briefly about an increased focus on systems. Maybe you could just expand on that. It's not something we hear IGT talking a lot about relative to some of its competitors. And that's all from me. Thank you.

Regarding the maintenance CapEx, I would say that at the moment -- and again, I'm not trying to guide into 2016 because we have not done all the analysis yet, but I would say that normally what we are targeting for this year in terms of maintenance CapEx, the guidance we are giving to you includes the growth CapEx. Normally what we are targeting for this year will be more or less the same. Next year, we have only one important contract next year which is Florida, which is quite important in terms of size for rebid. But we have a lower number of other contracts.

So overall, my answer would be yes, and it's very directional. But we will provide you the full answer when we prepare the outlook for 2016.

Regarding systems, since the completion of the acquisition we anticipated that center system would be a focus for the new IGT and I'm just saying that we will continue investing. We are very pleased about the winning. And we will move forward investing and trying to satisfy our customers' needs in that area that we consider strategic.

Great. Thank you.

Thank you. We will now take the next question from David Katz from Telsey Advisory Group. Please go ahead.

Hi. Good morning. My question is really around the guidance. And if I'm looking at it correctly, it does imply a sequentially stronger fourth quarter. If you could just talk about some of the underlying assumptions that are driving that, that would be helpful. And then I have one other question.

Not really, it doesn't necessarily imply a stronger fourth quarter. Certainly it's a qualitative improvement because we are telling you that on the new range we will be in the higher up, which, given the fact that we are 10 months into the year, we were willing to clarify. And the second question, sorry, you asked, David?

So, in other words, we're not implying a sequentially stronger fourth quarter than what we reported today?

Not necessarily. It's implied. But you do the math.

Okay. We can perhaps go through it. I wanted to ask about the North American installed base, which the number of units appear to be going down but the commentary is certainly confident. Can you paint us a qualitative little longer-term picture of what you expect out of that installed base and the yield generation and how you expect to drive that and when those units might actually stop going down?

Talking about the gaming operations -- as I was saying before, here is a matter of content. We are relying to stabilize our business going forward on our ability to bring new content and new innovation in this segment -- as, by the way, we did at G2E because if you look at the offer we brought to the show, was, let me say, much more comprehensive than in the previous year. I think that the combination of our 3D technology and our Wheel of Fortune will be very much important in our ability to improve our performance in this segment, but also the new licensed product, an extension of the launch of our products will help us very much in continuing this journey.

By the way, if now we are stabilizing our position in that segment of the market, it's because of the product we recently launched. So, we have to continue in this direction. On the other hand, as I was commenting before, we must be aware that some operators are looking at this part of the business to improve their EBITDA. So, we have to balance those two forces in making an assessment going forward. But from our side, we will continue investing in it.

One more question, if I may. Just thinking about free cash generation for next year, irrespective of any that may be allocated for the Italian lottery, should it occur, and operating improvement, should that occur, are there any other factors or items we should be contemplating as we model out free cash flow for 2016 that we can identify?

Not at the moment. I spoke about the CapEx, so I think there is nothing to add at the moment.

Okay. Thanks very much.

Thank you. We will now take the next question from Oriana Bastianelli from Kairos. Please go ahead.

Hi. Good afternoon to everybody. Thank you for taking my question. The first one is related to synergies. If my understanding is correct, you said before that you have put in place already 50% of the measures in terms of -- in order to realize the cost synergies. Can you currently clarify how much of your 2015 EBITDA guidance is included in terms of synergies?

Second question is related to the underlying trends of profitability of the business. Probably Q4 implied in your guidance is talking about underlying EBITDA flat versus Q4 last year which is more or less in line with the second-quarter trends. Can you offer some qualitative comment on the state-of-the-art of the fixing of the underlying profitability of your business excluding synergies, 2016 expected versus 2015?

And last question from my side is related to the new proposal for tax slot machine in Italy. My understanding is that this is not a final proposal yet. If you can offer your comment on the potential impact on your business and then on the potential reshape of the markets that these kind of measures can imply for the Italian market. Thank you very much.

Okay. Regarding the synergy, let me recap what we have said, is we are not going to give quarter-by-quarter synergies. Focusing on the most important target that for us is complete the action by the first quarter of [2016]. Two-thirds of the $230 million cost savings is more or less $156 million, in terms of an annualized rate by one year from the merger. That is the target. It means that from there we will see the benefits of this two-third that partly will be really reflected before.

We said also today to give a sense that we are progressing toward that goal, that more than half of it has already been on an annualized basis reached at the end of the third quarter. So, it means that more than $78 million on an annualized base has already been reached. And this is what we are communicating to the market. The second question, Oriana, frankly speaking, can you please reformulate a little bit?

Yes, sure. Basically excluding the synergies kicking in in 2016 versus 2015, are you confident that you have now stabilized the underlying profitability of the business, excluding synergies?

Again, you're asking a question regarding the outlook on next year. What we know for sure is that we're going to achieve the synergies because we are very confident. Regarding the outlook, there is a component, as you know, that is quite volatile related to the gaming market and it needs to be fully assessed. When we will provide guidance for the year, we will obviously give you what is in terms of synergy and what we think about the stabilization of the gaming market.

Okay. Thank you.

Oriana, I'll take the question on the Stability Law in Italy. As you know, that is not a final decision. As of last year, they start discussing based on a proposal. The proposal is, as you know, of an increase in the taxation. We will see over the next weeks, the final decision regarding bet.

It's clear that in the current state this increase will be a challenge for the industry where margins are already quite narrow, and many of the smaller concessions operator who lack scale or diversity in the scope of their business might choose to exit the market. This move might accelerate a consolidation in the industry and create additional opportunity for larger players. But it is really too soon to say there might be a silver lining.

I guess that we have to work providing our point of views to our natural counterparts to help them in defining a good Stability Law for next year. And after we will comment at the end of the process. But I want to elaborate also on your request. If in this moment the law should be approved as it stays, we would have an incremental $30 million, $35 million impact on Italian P&L because that is an increase in the taxation of VLTs. But, having said that, I would suggest that to wait until the end of the year before taking the conclusions.

Okay. Thank you.

Thank you. We will now take the last question from James Kayler from Bank of America-Merrill Lynch. Please go ahead.

Just one. I know you're not giving guidance for next year, but more broadly, when you're talking to your casino customers, particularly in North America, what is your sense for what slot budgets are going to shape up to be like next year? I'm trying to get a sense for what you think about replacement sales in 2016.

I can tell you immediately. Apart from the debate, some of them are more optimistic regarding the future but they have capital constraints. So all in all, I tell you, as I'm factoring the replacement for next year being flat at this point in time, that is in my view the best way to approach the 2016 planning. We have some expectations in terms of new end expansion that very likely will be slightly better than this year, driving an overall better outlook for the market. But when it comes to the replacement rate, I'm guiding my team to plan a stable replacement rate.

Okay. Very good. And then just following up, I think the Wheel of Fortune 3D was probably one of the most talked about machines at G2E. Can you give us a better sense for when that actually might be ready to ship? Is that a first half of 2016 or second half of 2016 event?

First half of 2016.

Okay, very good. Thank you, guys.

Thank you. That will conclude today's Q&A session. I would now like to turn the call back to Mr. Sala for closing remarks. Thank you.

Thank you very much for your questions and for your interest in IGT. Before closing I'd like to share with you some take-aways from our participation this past quarter in the two most important trade shows in our industry, G2E in gaming and NASPL in lottery, which I mentioned in my introduction. This has given all of us the opportunity to measure with clients and other industry participants the progress we have made in establishing our new group in such a short time. We have tangible evidence that we rolled out a brand that is relevant across all channels, that our name is associated with industry leadership in both segments, and that our commitment to innovation as well as our focus on the customer is recognized and appreciated.

We still have a lot of work in front of us, but we can do it from a position of strength and with unique industry experience and appreciation. I wish you a good day and we all look forward to talking to you again soon. Good-bye.

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