A challenging consumer backdrop and slowing casino development have negatively affected sales of gaming products, including new slot machine sales and replacement sales, says a new report from Wells Fargo Securities LLC in New York.
The industry headwinds and uncertain outlook are driving the recent industry consolidation, added the investment bank.
“We believe the gaming technology sector is attractively priced as a subsector on a yield basis and expect free cash flow generation and recurring revenue streams to offset near-term industry challenges,” said the Wells Fargo team led by senior analyst Dennis Farrell Jr.
According to the report, gaming systems, table game technology and social/interactive gaming are industry revenue drivers “that have shown resiliency and growth”.
While gaming expansion over the past two decades provided strong profitability for gaming technology companies, “recently, weak gaming trends and limited near-term expansion opportunities have weighed on the technology industry,” Wells Fargo said.
At the Global Gaming Expo (G2E) Las Vegas in October, Jamie Odell, chief executive of Australian slot machine maker Aristocrat Leisure Ltd, said it was “responsible” of gaming technology suppliers to consider consolidation in the face of reduced orders from casino operators.
He said that replacement orders for machines in the U.S. market were “50 percent lower” in 2013-14 than had been forecast by the industry three years earlier.
Mr Oddell added: “It really hasn’t recovered since the global financial crisis [of 2008-09]. So what that led to is that you have such great product coming through, but not the scale of [gaming] industry to support that.”
Aristocrat Leisure in October completed the acquisition of U.S.-based gaming machine manufacturer Video Gaming Technologies Inc, in a deal worth US$1.28 billion.
Wells Fargo said it expects total unit sales in the U.S. to be down approximately 35.2 percent in 2014 and 10.4 percent in 2015. “We expect replacement sales to decline 1.9 percent in 2015 as industry demand stabilises at around 46,000 replacement units,” it added.
But sales of gaming products should rebound after 2015 given the pipeline of new projects in the U.S. and other markets, including Macau, said the investment bank.
“We expect 2015 to mark the bottom in product sales as 2016/2017 should show improved growth with Maryland, Massachusetts, New York, Pennsylvania and Macau [opening] new gaming offerings,” it said.
The investment bank started its coverage on the gaming technology subsector with an outperform recommendation on Aristocrat Leisure, and a market perform recommendation on GTech SpA and International Game Technology’s (IGT) notes. It maintained its outperform recommendation on Scientific Games Corp.
Wells Fargo said the “weak slot industry results” have been a catalyst for consolidation with the “growing lottery technology segment,” citing the examples of GTech and Scientific Games.
Italy-based lottery equipment specialist GTech is to acquire slot machine maker IGT for US$6.4 billion in a deal expected to close in the first half of 2015. Scientific Games, a U.S.-based specialist in lottery equipment and management, in November completed the US$5.1-billion acquisition of Bally Technologies Inc, a global slot machine maker.
In Wednesday’s report, Wells Fargo said the lottery industry “has been underfollowed by the Street given modest growth opportunities and being a capital-intensive industry”.
“A key driver for successful merger integration will be achieving stated labour expense reductions. In addition, revenue synergy opportunities can also be achieved through cross-selling and mobile expansion,” it added.
The investment bank said lottery sales and systems remain a long-term opportunity, adding that existing players, “coupled with an arsenal of new game content, should continue to see favourable secular growth”.
“The online and mobile lottery market is a strong, long-term opportunity for the industry,” it added.
While the consolidation of the technology industry likely points to higher product pricing, Wells Fargo said it is possible that one of the larger industry players could discount prices to drive share gains.
“This dynamic could also drive incremental replacement sale demand, while sacrificing profit margins,” said the report, adding: “We don’t believe the industry will commence a price war.”
Growing interactive market
Casino operators and gaming technology companies have also been trying to diversify their revenue base by expanding their reach into interactive gaming, with social and real money gaming websites for both desktop and mobile devices.
This is a sector with “compelling growth opportunities,” said Wells Fargo.
According to Transparency Market Research, global mobile/online gaming sales could show an 18.2 percent compound annual growth rate from 2013 to 2019, growing from a US$6 billion market to a US$17.4 billion market.
In a report this week, research and consulting firm Spectrum Gaming Group LLC said that the convergence of gaming would continue in 2015, with casinos, lotteries, igaming and social games “offering products that cross into the others’ traditional space”.
Spectrum said more gaming operators and suppliers would acquire social gaming companies and capabilities “as they seek to engage millennials as the future generation of gamblers”.
But while growth opportunities remain attractive, “barriers to entry are quite low and technology content could be short-lived,” Wells Fargo warned.
“It is so early in its maturity that sustainable leaders in the industry have yet to be established,” it added.
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