Published:
January 27, 2008
International Game Technology (NYSE: IGT, $39.56) is the
world's leading slot machine manufacturer. In addition to basic
slot machine design and sales, the company generates more than
half of its revenues by leasing machines to casinos in exchange
for a percentage of the net win. This gaming market provides the
firm with a recurring stream of high-margin revenues. Thanks to
steady expansion in recent years, IGT now draws income from
about 60,000 machines installed throughout casinos in key gaming
markets across the globe.
Competitive Advantages: Thanks to a stringent regulatory
environment, IGT enjoys high barriers to entry and must contend
with only a handful of rivals, including WMS Industries (NYSE:
WMS) and Alliance Gaming. And among this triumvirate of
manufacturers, IGT has a towering lead, producing more than two
out of every three slot machines found in North America today.
Given the fact that slot machines have exploded in popularity --
and that they are generally more profitable than traditional
table games -- it is not surprising that row after row of
machines have taken over considerable floor space in today's
casinos. Furthermore, slot department managers usually don't
hesitate to try out the latest models, considering a successful
machine can pay for itself in a matter of weeks. At the Wynn
Resort in Las Vegas, for example, each machine is generating
average revenues of around $250 every single day.
As the market leader, no one stands to benefit from these trends
more than IGT. With deep pockets and steady cash flows, the
company has been able to spend nearly twice as much on research
and development (R&D) activities as its closest competitors.
This commitment has led to creativity and innovation that have
connected with the average slot player. In a recent poll
conducted by Casino Player magazine, seven of the top ten
most popular video slots were introduced by IGT -- including
longtime favorites such as Wheel of Fortune. In a similar
poll of video poker players, all five of the top spots were
awarded to IGT products.
With a commanding lead, a well-respected reputation, and a knack
for developing games that resonate with players, IGT should
remain the clear leader in this high-growth industry for years
to come.
Growth Drivers: IGT is benefiting from a number of
positive growth drivers. For starters, many states are warming
up to the idea of allowing gambling within their borders to take
advantage of the additional tax revenue. The introduction of
gaming in Pennsylvania alone resulted in an initial market for
around 35,000 new slot machines. Even bigger has been the huge
gambling boom in Macau, China. This former Portuguese colony has
now surpassed Las Vegas as the largest gambling market in the
world. Gambling revenue in Macau increased +22% from 2006 to
2007, and this market should continue to grow thanks to a number
of new casino developments, as well as strong growth in
surrounding Asian economies.
More importantly, IGT is the mastermind behind what many predict
to be the next great gaming industry product cycle -- the
introduction of server-based games. Instead of having hundreds
of individual, self-contained slot machines, the idea is to have
one giant computer control all slot machines within the casino.
This new technology allows the casino to cut down on labor
costs, change games rapidly to increase profits, and monitor
revenue in shorter time frames.
The advantage to IGT is that in addition to new casinos
purchasing this new technology, the older casinos will also have
to retool their old equipment. Industry experts are predicting
that 80% of domestic slot machines will be replaced before 2012,
leading to a surge in revenues for the #1 player in this market
-- IGT. Furthermore, players' tastes can change quickly, and the
life span of the average game is shrinking, meaning newer games
(like the increasingly popular multi-line penny slots) must
continually be rolled out.
Of course, as we noted earlier, product sales account for just
under half of IGT's total revenues. The firm generates the rest
via its extensive "gaming operations." IGT has leased tens of
thousands of slot machines -- many of which are linked to
wide-area multi-million dollar progressive jackpots -- to
casinos in exchange for a share of the proceeds. IGT receives a
cut of every coin pumped into these slots, resulting in
recurring revenues of more than $1.3 billion per year. As IGT's
industry-leading installed slot machine base continues to
expand, this segment of the business should help drive the
company's top and bottom lines sharply higher.
Valuation and Outlook: After delivering sensational
returns of more than +20% annually over the past decade, shares
of IGT have stumbled in recent years due to sluggish domestic
slot machine sales. Going forward, however, we believe the core
North American market is poised to grow substantially thanks to
the rollout of server-based games. Add to this the impact of
strong international sales and growing gaming operations, and
IGT's overall earnings are expected to increase at a healthy
+15% annual clip going forward. Moreover, even with a modest
slowdown in top-line growth in recent years, the company has
still managed to generate record cash flows of $820 million per
year.
This well-managed and shareholder-friendly company has been a
portfolio jackpot for many over the years, and odds are
excellent that the firm's winning streak will continue
throughout 2008 and beyond.
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