Inspired Entertainment Inc (INSE) 2020 Q4 法說會逐字稿

Good morning, everyone, and welcome to the Inspired Entertainment Fourth Quarter and Full Year 2020 Conference Call. (Operator Instructions) Please note, this event is being recorded.

I'll begin today's conference by referring you to the company's safe harbor statement that appears in the fourth quarter 2020 earnings press release, which is also available in the Investors section of the company's website at www.inseinc.com. This safe harbor statement also applies to today's conference call. As the company's management will be making certain statements that will be considered forward-looking under securities laws and rules of the SEC. These statements are based on management's current expectations or beliefs and are subject to risks, uncertainties and changes in circumstances. In addition, please note the company will discuss both GAAP and non-GAAP financial measures. A reconciliation is included in the earnings press release.

With that completed, I would now like to turn the conference over to Mr. Lorne Weil, the company's Executive Chairman. Mr. Weil, please go ahead.

Thank you very much, operator, and good morning, everyone else, and thank you for joining our fourth quarter and year-end conference call. I'm joined, as usual, by Brooks Pierce, Stewart Baker and Dan Silvers.

At the risk of stating the obvious, let me begin by saying that the fourth quarter of 2020 tried our patients like no other quarter I can recall over the course of my career in this industry, and I'm sure Brooks feels the same. As those of you who might have followed us going back to our Scientific Games years or even before that to our total years, you will know that we have dealt with some pretty strange quarters.

We began the fourth quarter with a predictably very strong October, continuing the month-to-month ramp up that began in the third quarter of 2020, following the worldwide lockdown that had occurred in the second quarter. In October, we earned $6.8 million in EBITDA, a pretty healthy margin of 32% on revenues of $21.2 million. Most importantly, October EBITDA was nearly 20% above the EBITDA we earned in October 2019. And yet, as mentioned in the press release, the October performance itself was well below what we feel its potential was because we were dealing with pub curfews from the beginning of the month and then the introduction of the tiered system with U.K. closures in the latter half of the month, which significantly impacted both pub and betting shop revenues against which, unfortunately, there was very little cost offset possible.

So I think we can say with a very high degree of confidence that absent these factors, October revenue, EBITDA, and especially margins, would have been very considerably higher than the October actuals. And this begins to give us again some sense of the true earnings power of this business. And this is further underscored by the fact that at least 90% of our business is derived from recurring revenues, and therefore, sustains itself from month-to-month, except, of course, when there's a mandated government shutdown.

Yet despite the handicaps, just mentioned above, October performance was as strong as it was, and as I said, 20% above 2019, was largely because of the realization of increased synergies from the Novomatic acquisition, and most importantly, the tremendous growth in our online business, which, as mentioned in the press release, doubled between the fourth quarter of 2019 and the fourth quarter of 2020. And here, again, the vast majority of this growth was from multiyear -- is from multiyear recurring revenue contracts.

To refresh everyone's memory, we earned about $19-plus million at current exchange rate in EBITDA in the fourth quarter of 2019, and this is important because that was the first quarter following the completion of the Novomatic acquisition but before the issue of COVID had struck. So at that time, we talked about having a high degree of confidence that we had established a baseline annual EBITDA level of about $80 million. I think we referred to that at the time as our par EBITDA. And given the impacts of increased synergies you've seen since then, and of course, the tremendous growth in our own business that we had begun to see clearly over, we would have expected the fourth quarter of 2020 to come in well ahead of 2019. Just this October, we had been well ahead of October 2019, and so therefore, establish an annualized EBITDA baseline that was proportionately greater than that $80 million baseline.

But of course, this is where the strangeness of the quarter kicked in, and our one step forward was quickly followed by the proverbial 2 steps back. The month of November saw the U.K. go back into complete lockdown. And then in November, an increasingly complicated and disruptive tiered system was reintroduced, That despite significantly impacting revenues made effective cost management very difficult, if not almost impossible.

Notwithstanding the nature of the fourth quarter, we ended the year with about $47 million in cash and an undrawn revolver of nearly $28 million for total liquidity of about $75 million aided, of course, by the value-added tax refunds that we have discussed previously at length. I can say that our year-end cash balance would have been quite significantly higher had we not used a good part of the debt refund to repay debt.

So we entered the first quarter walk down with a strong liquidity cushion. And because the ground rules were clear and simple from the outset and aided by the continuation of the U.K. furlough scheme, which, I believe, now has been extended until September of 2021, we were able to get our cost structure well aligned with the shutdown. As was the case during the lockdown in 2020, we have, in the first quarter, continue to spend very heavily in support of our online business and the business continues to grow in response to this. Based upon the most recent announcement by the U.K. Government, we're planning on the reopening process beginning in April. And that our retail business will be back essentially to normal by the end of June, just as we begin the third quarter.

During the third quarter of 2020, which is seasonally by far the strongest quarter for our holiday park business, and actually, therefore, should be seasonally the strongest quarter for the whole company. Contributions from the holiday park business was minimal because of severe restrictions that were in effect throughout last summer. Conversely, we're cautiously optimistic that this number will be much stronger for the holiday park business with far fewer restrictions other than travel restrictions in the U.K., which ironically will be very beneficial to us, we think.

In addition, we project that synergies from the Novomatic acquisition will have increased further. And finally, as discussed at length previously, but will nevertheless be discussed in greater detail in a moment by Brooks, our online business, comprising both Virtual Sports and iGaming components will in the second and third quarters in 2021 be far ahead of comparable periods in 2020.

Taking all these factors together, the impact of the summer, the increasing synergies and the tremendous growth in the online business, I think this gives us a way to think about not only the second and third quarters of this year 2021. Once the lockdown ends end of this month, but also a way of thinking about an annualized EBITDA level, that will go far beyond the $80 million baseline we discussed at the end of 2019 prior to the COVID interruption.

And with that, I'll hand the program over to Brooks.

Thanks, Lorne. And I'll add some more details to your commentary in doing it in the new reporting format that we've outlined in the release, namely starting with gaming, then Virtual Sports, then Interactive and then Leisure.

So I'll update on the businesses that we're operating in the fourth quarter and are currently in the first quarter of 2021, which are our Interactive business as well as the online part of our Virtual Sports business, but also try to give some perspective on the reopening of our retail businesses in key markets like the U.K. wherein the government has laid out a very specific time line for segments of the industry to open and the operating conditions in which we will be able to open.

So starting with Gaming. The retail aspects of our business, as we talked about, have more or less been closed in our key operating markets, such as the U.K., Greece, Italy, and North America since November is more outlined and continue to be largely locked down as of today other than Illinois. The U.K. has announced that betting shops will be allowed to open as of April 12, albeit with some restrictions on the number of machines per shop that are open as well as the dwell times in the facility. Greece and Italy have yet to confirm when their betting shops will reopen, but we are projecting that during the second quarter and with capacity at full by the time we reach the second half of the year. As experienced in all territories after the first and second lockdowns in 2020, we expect that the turnover will return to prior levels quickly, and they will be at 100% going into the second half of the year.

As you all seen in the release, we're migrating our business in Italy into a recurring revenue model for game content and platform only and will not be providing service to this market going forward with CECL being the first customer to move to this new -- to the new model. We expect to increase our margins significantly by doing this and play to our strengths in providing leading content and an open platform. We will be working to migrate our Italian gaming machine business in total to this model. Please note that this will not change our operating models in Italy for both our Virtual Sports business and our Interactive business.

We're also pleased to deliver the first 100 terminals to our second North American customer, the Western Canada Lottery Corporation, and we believe that there are further opportunities in the Canadian provincial markets going forward, and we'll be pursuing these. Our games continue to perform well in Illinois, and we expect accelerating sales in that market going forward as operations there build back to a steady state.

Moving on to our Virtual Sports business, as Lorne commented previously, the Online segment grew dramatically and we grew that part of the business, our recurring revenue by 90% in the fourth quarter and 58% for all of 2020, due, in part, to retail virtuals being closed in most of our markets and real sports either being shut down or reduced. In this environment, we accelerated development on a key product initiative of ours, the launch of our virtual Plug & Play, or VPP, as we call it, and this is a product that seamlessly integrates into a customer's existing website with all 14 of our sports currently. This product went live with a number of customers in the fourth quarter of 2020 and will be going live in 2021 with the number of key new customers, including BetMGM, Caesars, FanDuel and others.

To give you an example, our launch in Turkey with this product, with our partners from both Sisal and Misli, has been very successful and is on a run rate of producing over $1 million in annual revenue to us. We just literally, yesterday, launched our Matchday product with them, which is on VPP, where players could bet on 8 simultaneous virtual soccer games all at once and create a number of interesting wagering options similar to what you would see with parlays and sports betting in the states. Obviously, the results are very early, but Day 1 was dramatically bigger than we had expected.

In terms of our land-based virtual customers, we've talked over the many of these quarters about the Pennsylvania Lottery. We are very happy to report that the PA Lottery has shown dramatic growth in 2020 with sales increasing by 255% compared to 2019, even with sports bars in Pennsylvania closed for a large part of the year and also after normalizing for promotions from the PA Lottery. We believe that those outlets will start to reopen the sports bar as it is, and we're looking to launch an updated football product, so the second channel, with our Horse Racing product in the market later this year.

We're also very happy to be launching our second North American lottery with the DC lottery, and we'll go live with that in the second quarter. And interestingly, it will be the first installation in North America, where we will be replacing an existing product. So we'll have a measuring stick to base against.

And finally, we signed an agreement with Larry Collum, who is the announcer for all the Triple Crown races and did our virtual Kentucky Derby race this summer to be the voice of our virtual horse racing product in North America, which is really part of our strategy to localize our content.

So moving on to the Interactive segment. This segment has shown, obviously, tremendous growth, as we discussed in the release, basically doubling in size in 2020. And we're continuing to see the strength of that segment in the first quarter of the year thus far. And this really comes down to a strategy that we have consistently articulated on these calls and is based on a few key drivers, which include the following: number one, successful integration, we had 42 new customers and 5 new aggregators in 2020 across multiple geographies; an increased pipeline of delivery of new content to our customers by increasing our game releases by 55% in 2020 and adding some very successful titles, including Centurion Megaways, Reel King Megaways, our entire line of cashback games and gold cash-free spends. We have a number of new titles that will be released this year, including Cops and Robbers Megaways, and we're building bespoke new content specifically for the North American, Greece, Belgium and Italian markets.

Speaking of Greece, this is one of the new geographies that really grew substantially, and it really validates our omnichannel strategy, as we've talked about many times about how we're positioned in the retail side in Greece. This was really borne out with the #1 online game being the same as our #1 retail game, namely Super Hot Fruits.

Lastly, a pipeline of new markets to come online in 2021 that we're obviously very excited about will be Michigan and West Virginia. And upon successful completion of our licensing in Pennsylvania, that one will come onboard as well. We've also recently just gone live in both Spain and Germany and see key new international markets like the Netherlands, Romania and Columbia, all being added this year.

So in summary, the combination of our online business really is a key focus of the strategy of the company and growth going forward, even as we expect our retail businesses to rebound quickly in 2021.

Last but not least, talking about our Leisure business, which includes the pub side, the holiday parks and motorway services, which have been, as we've talked about, the most impacted by the restrictions in the U.K. as they rely completely on football traffic. So we showed in the third quarter last year, even with some of the restrictions Lorne mentioned, the power of the earnings of this business between the lockdowns and would expect these to benefit the most with the lifting restrictions in the U.K.

The U.K. government has advised that indoor hospitality and Leisure can open from May 17. And advanced bookings are extremely strong with most locations already actually sold out for peak holiday weekends and the phrase that they use staycations, so folks staying in the U.K. Travel is expected to be very robust through 2021. We've rightsized the business through the integration process in 2020 and would expect margins in this business to improve substantially with the increased demand across a significantly lower cost base.

So in summary, all indicators are leading us to forecast internally that the second half of this year will be a clear demonstration of the earnings power inspired with significantly growing online businesses combined with the recovered. And I think this is key locals based retail business.

So with that, I will pass it back to -- I think it's going back to Lorne.

Thanks, Brooks. That was great. I think, Operator, now we can turn the program over to Q&A, please.

(Operator Instructions) And the first question comes from David Bain with B. Riley.

Congratulations on what looks like an excellent run rate as we normalize. First -- my first question would be some of the checks that we're speaking what they are citing, the potential online restrictions in the U.K. that could actually come in tandem with sort of a pruning of gray area sites. And our assumption would be that, that would boost traffic to regulated sites, the carrier content. Understanding there could be headline risks and other risks to consider, can you discuss your view as to what we may see out of the U.K. as it relates to regs?

Brooks, do you want to talk about that?

Sure. I think your thesis is right in terms of directing more business to the regulated markets and that, I think, will benefit us. In terms of the potential regulations, the U.K. Gambling Commission has sought our input as they are forming what will be probably a revision of the Gambling Act coming some -- at some point in summer. So we've had a voice in doing this. And obviously, we are very mindful of responsible gaming, but we don't think that the changes that we believe are going to come down will materially impact our business going forward in terms if there's any stake limits or game design theories because many of these things we've already incorporated. So we are not expecting a big impact from any of the changes that might come down.

I would just add to that slightly. If you look at the pattern of the match's bets on our businesses online, let's say, in particular to our tools, what tends to happen is players place very large bets on a few number of live events. So like this one soccer game that takes 90 minutes, they might bet $1,000 or $5,000 on that. And then they will play a bunch of virtual soccer games at $1 or $2, while that game is playing out. So I think if -- at least what we've been reading, one of the main things they are thinking about is lowering the maximum bet on online betting.

I think certainly, it could impact the segment of the business where people are betting very large amounts of money on live sporting events, but not only not impact ours, but again, we might benefit because we could see some switching from those large bets to the small-sized bets that people typically make on virtuals.

Okay. Great. That's very helpful. I guess my next one would be just to better understand the forward strategy on route penetration domestically. So as you are well aware, Pennsylvania distributed gaming could arise from budget negotiations. Are there strategies for partnering and prepping for new routes as the primary plan? Or is the primary plan to penetrate existing or more mature routes? What do you think we'll see as we go through '21, '22?

So while we'll certainly be going after the existing routes aggressively, as we talked about going into WCLC will help us, and we'll have some performance data that we'll probably be able to report on next quarter. And certainly in Canada, everyone knows what everyone else is doing. So it will be very interesting to see how we stack up live, similar to when we went into Illinois and have our games performing at kind of the first or second and pretty much every venue we're in. So if we get that kind of performance in Canada, we feel very confident about that.

In terms of the new markets like Pennsylvania, it will be interesting to see how it develops. I mean, if it develops like Illinois, where it's the route operators like an SL and a J&J., and if it happens to be operators that are already in Illinois and go into Pennsylvania, then certainly we have a relationship with them. But if it ends up being the existing casino operators, the Penn nationals, the parks, whoever it may be, they take it over, we certainly borne an eye from our experience being in the business 25, 30 years, know all of these folks very well. And obviously, they will take a look at the Illinois and Canada experience.

And I think, David, as you know, this market has been pretty much 2 of our competitors have had this space to themselves for a long time. So I think everyone in the -- from the operator side is quite happy to have kind of a new entrant who's proven performance to kind of make it a bit more competitive.

The next question comes from Ryan Sigdahl with Craig-Hallum.

Congrats on all the customer wins and execution, a challenging quarter, to say the least. I want to start with the U.K. market. So we now have visibility to reopening, what are you hearing from your key customers when we come back online? Are you expecting kind of steady state going forward, potentially new business, operators looking to slim down operations, et cetera?

Well, I would say that they have had experience with this from the prior lockdown, and we were very happy, and as I think they were, to see how quickly things rebounded. And certainly, what you read in the U.K. papers is the whole country has been locked down for quite a while, and there's this -- as they term it in the U.K., the coil effect that they are expecting, which will -- people will get let out and have lots of money in their pockets. So we're looking very positively towards the return of retail.

I think, as you would know, there's the whole issue of the William Hill side of the business and who may buy that part of the business and still yet to be determined, but we feel very good about the return of the retail business.

Then just shifting over to the online piece, really nice sequential growth, new wins. So looking at October, November, December kind of the sequential growth, how do you think about that potentially continuing to grow in 2021? And then if I just kind of run rate exit trends on 2020, it indicates another near triple-digit type growth here in 2021. Is that reasonable to think what there is?

Well, I'll give my version and if Stewart wants to either give his version or say that my version is too aggressive, we'll give him the chance to do that. I mean, all I can tell you is from what we're seeing in January and February is that the pace is continuing to accelerate.

Certainly, what we don't know is when retail comes back. We're expecting that there will be some softening, but obviously, not nearly down to the rates where we were before. And I think we're encouraged by the number of new markets that we're going into and some of the new markets that have just come on, like Greece, for example, but you would see the numbers you've seen out of Michigan thus far. We're obviously not participating in Pennsylvania at this point, which is a very big market.

So Spain, as I mentioned before, I just think we have -- any softening that may happen by having retail come back, I think, will be probably more than mitigated by the potential of the new markets that we're going into, and obviously, we've made great games. We still have a bunch of great games to go, and we'll continue to increase our pipeline to produce more and more games. So that's -- I don't know if that answers your question, but that's my view of it.

Yes. And I don't have much to add. I think -- sorry, just to jump in to it as Brooks asked to add. But no, I think you hit all the right points there, Brooks.

And then last one for me, just point of clarification. I guess, Lorne, I thought you mentioned significant debt pay down within the proceeds. I guess it looks like debt was relatively unchanged sequentially. So I guess, were you talking after quarter or am I missing something there?

Stewart, do you want to clarify that just exactly when we paid the debt and the revolver?

Yes. Sure. I think that's the key point. It was on the revolver, which we paid down in the quarter. So we now have not have the revolver utilized. And then there was also a -- effectively a 6-month interest payment right at the start of the quarter in question, which, again, reduced the liability paying to -- owing to lenders.

(Operator Instructions) The next question comes from Chad Beynon with Macquarie.

This is Aaron on for Chad. I appreciate the comments on the holiday park business and the recovery in the second half. Can you just give any details about your recovery in your other markets? And how you're thinking about seasonality there?

If you -- are you referring to -- no, just to clarify the question. Are you talking about just the leisure part of the business? Or are you talking about the return of all parts of the business in other markets? I just wasn't sure about the question.

Yes, sorry. I mean, all parts of the business.

Yes. Well, I'll take a shot at and then Lorne, obviously, will add in. I think the dynamic is probably less about seasonality than it is other than the Leisure business, which clearly is about seasonality. But I think the rest of the business is really more about when retail comes back, how strongly does it come back? We do -- we have a thesis for that, and we've seen it from the past lockdown, and then, obviously, what impact that has on both the online Virtual Sports as well as online slot content. And we expect that there will be some softening, but coming from a significantly more than double, as we've talked about, baseline case.

And really, in terms of the Leisure business, it really is a very -- I think Lorne mentioned the third quarter in the Leisure business is where we get the lion's share of our revenue. We haven't really -- since the acquisition of this from Novomatic, we haven't really had a clear, clean season where we've had the holiday park side of the business not impacted. So we're looking forward to that.

Brooks, do you want to talk about what you think -- what we think is likely the timing or the trajectory, say, of Italy or Greece or other -- in other words, the geographic part of the problem or the issue rather than the market segment issue?

Yes. I mean, I think what we think in Greece and Italy, as you probably remember, Greece was the first country that came back in the lockdown last time. And we're kind of word we're getting is that -- we expect Greece probably to come back before Italy. But as we've mentioned, we expect that both of them will come back at some point in the second quarter. And if the history is any indicator, it should be back to kind of 100% run rate by the second half of the year.

This concludes our question-and-answer session. I would now like to turn the conference back over to Lorne Weil for any closing remarks.

Thank you, Operator. I don't have too much to add to what Brooks and I have already talked about or through the Q&A. I think you can sense from our comments that from what we're seeing across the business and trends that we're seeing that we are -- I think it's probably fair to say, had never been more positive or optimistic regarding -- again, what we're talking about, we referred to as the earnings power of the business. And as the retail part of the business reopens along with this continued tremendous growth we've seen in the online business that we're going to reach levels of income that are considerably beyond not only anything we've ever done before but even that we've talked about.

The other point I'll make and then I'll wrap up is, one of the things that we're seeing clearly in the industry now is this idea of the omnichannel or multichannel strategy where major operators are both in the retail channel and the online channel, I think, is becoming a more and more and more powerful phenomenon. And if you look at the results that most of the major operators had been reporting, you can certainly see this in their revenue growth and you can really see it in the profitability.

So while we talk a little bit about, maybe there will be some attenuation in the growth of our online business as the retail business comes back on. I actually see it differently that because so many of our major customers are omnichannel players that and where their retail footprint is a tremendous driver of traffic to their websites where we supply the content that as the retail business comes back, I actually think it will help the online business, not attenuated. Obviously, we won't know this until it happens, but I have a strong suspicion that actually we're going to see an acceleration.

So anyway, I think that's about all we want to say today. We're, again -- we are as a (inaudible), you should pardon the expression, as we've ever been. Notwithstanding the lockdown, we are continuing to spend really as much money as we can, driving the growth parts of our business. And obviously, we appreciate all of you sticking with us, and we look forward to talking to you in another quarter. Thanks. And thanks, operator, you could wrap it up now.

The conference is now concluded. Thank you for attending today's presentation. You may now disconnect.