A note from Fitch Ratings Inc says there is a “healthy dose of scepticism” among investors about the cost savings likely to be generated from the current round of mergers and acquisitions in the casino technology supply sector.
There is also concern about “uncomfortably high” leverage for the consolidated supply companies post-acquisition, added the ratings house.
In August Fitch had said consolidation in the casino technology supply sector was “arguably overdue”.
Many of the merger deals involve considerations that include use of borrowed money as well as cash reserves held by the acquiring companies.
The credit rating firm gave its latest analysis in a round up of what it called “takeaways” from the Global Gaming Expo (G2E) 2014 casino trade show and conference in Las Vegas last week.
At a keynote session for industry bosses during G2E, Jamie Odell (pictured third from left), chief executive of Australia-based slot machine maker Aristocrat Leisure Ltd, mentioned a publicly quoted aggregate figure – for cost savings from mergers and acquisitions already announced – of US$600 million. He added it “could be higher”.
His company announced on July 7 that it was to acquire U.S.-based slot machine maker Video Gaming Technologies Inc for US$1.28 billion in cash.
But Fitch said in its note: “There was a prevalent view among investors Fitch talked to that pro forma leverage of the suppliers was uncomfortably high post-acquisitions, particularly for Scientific Games Corp, and there was a healthy dose of scepticism about the synergy estimates provided.”
On August 1, Scientific Games said it would acquire all of the outstanding shares of slot machine specialist Bally Technologies Inc for US$83.30 per share in cash, for a total transaction value of approximately US$5.1 billion, including net debt of approximately US$1.8 billion. The acquisition would be financed with debt and cash on hand, it said.
Analyst Christopher Jones of Telsey Advisory Group in New York said in a note on August 1 regarding that deal: “Pro forma leverage should be the primary concern with ambitious synergy estimates amidst challenging operating environment.”
He added: “We estimate the pro forma company will be 8.3 times leveraged and 6.3 times after an estimated US$220 million of cost synergies and US$100 million of unrealised cost synergies remaining from the prior WMS and SHFL acquisitions.” Mr Jones was referring to Scientific Games’ absorption of Chicago-based slot machine maker WMS Industries Inc in a US$1.5 billion leveraged deal announced in March 2013; and indirectly of SHFL entertainment Inc, which Bally Technologies announced in November 2013 it had acquired in a US$1.3 billion leveraged transaction.
Fitch said in its latest note: “Scientific Games defended the synergies by providing examples, including needing R&D [research and development] for only one operating system, using the same licence across multiple platforms and consolidating the content library.”
David Baazov (pictured second right), CEO of Canada-based Amaya Gaming Group Inc, said during G2E that he saw the current round of mergers driven primarily by the state of the capital markets.
He stated: “There’s been a period of time when the lending rates became so low and everybody was sitting on so much capital – and in the U.S. there was a lot of tapering in terms of the bond markets etc – [so] it created these possibilities.”
Amaya in June announced it was acquiring privately held Oldford Group Ltd, ultimate parent of the online poker brands PokerStars and Full Tilt Poker, for US$4.9 billion.
Mr Odell of Aristocrat had said during G2E that consolidation in the slot machine segment was driven in part by casino operators responding to the global financial crisis of 2008 and the subsequent recovery period by ordering fewer new machines.
He said 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.
Nonetheless the equity prices of some of the target companies have clearly benefited from the courtship process, creating challenges regarding the current share prices of target firms versus their potential earning power.
Bally Technologies’ share price closed at US$60.17 on July 31, the day before the announcement of Scientific Games’ intended acquisition, according to data from Nasdaq.
The next day the price jumped 29 percent to close at US$77.70. It was thereafter supported by the prospect of Scientific Games offering a significant premium to Bally Technologies stockholders to entice them to accept the deal.
When judged by market capitalisation Bally Technologies, is currently and historically speaking, a much bigger company than Scientific Games. Bally Tech had a market capitalisation of US$3.08 billion at the close of business in New York on Thursday. Scientific Games’ market capitalisation that day was just under US$784.7 million – nearly four times smaller.
Fitch said in its latest note: “[Casino] Operators seemed somewhat agnostic on the consolidation, with one saying they will continue to invest in games only to extent they produce the necessary return on investment (ROI), which will keep the suppliers in check.”
The credit rating firm added: [U.S. casino operator] Boyd Gaming Corp did express concern that there could be a decline in total R&D spending and competition among suppliers to innovate, which could be detrimental to the overall industry.”
But Patti Hart (pictured third right), CEO of International Game Technology (IGT) – a company soon to be acquired – said during G2E that the technology suppliers were currently absorbing investment risk on behalf of the whole casino industry in terms of R&D for new games.
“We are the only industry you can think of that spends all of our R&D dollars before the customer can experience our game [product]. And so the risk profile of that is pretty high,” said Ms Hart.
IGT on July 15 said it was being acquired by Italy-based lottery specialist GTech SpA for US$6.4 billion, comprised of US$4.7 billion in cash and stock, and the assumption of US$1.7 billion of IGT net debt.
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