Earnings Call: Q1 2021

May 11, 2021

Ladies and gentlemen, thank you for standing by, and welcome to the IGT 2021 First Quarter Results Conference Call. At this time, all participants are in a listen only mode. After the speakers' presentation, there will be a question and answer Please be advised that today's conference is being recorded. Thank you. It is now my pleasure to turn the call over to Mr. Jim Hurley, Senior Vice President of Investor Relations. Sir, the floor is yours. Thank you, and thank you all for joining us on IGT's Q1 2021 conference call, which is hosted by Mark Osalla, our Chief Executive Officer and Max Chiara, our Chief Financial Officer. After their prepared remarks, we'll open the call up for your questions. We are again presenting results from multiple locations, Forward looking statements within the meaning of 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 based on a number of factors and uncertainties, including those related to the effects of the COVID-nineteen pandemic. The principal risks and uncertainties that could cause our results to differ materially from our current expectations are detailed in our latest earnings release and in our SEC filings. During this call, we may discuss certain non GAAP financial measures. In our press release, slides accompanying this webcast and our filings with the SEC, each of which is posted on our Investor Relations website, You will find additional disclosures regarding these non GAAP measures, including reconciliations of these measures with comparable GAAP measures. With that, I'll We had an outstanding quarter. Strong player demand drove improved momentum across all our main activities In Q1, this translated into 25% revenue growth from the prior year period and a 6% increase from Q1 2019. Lottery The land based slot business nearly recovered to prior year levels, thanks to strong yields on the active installed base and a 40% increase in machine units sold in the U. S. And Canada. Growth accelerated for our digital and banking activities where revenues nearly doubled in Q1. We continue to monitor costs as the top line recovers and we are making excellent progress on structural cost reductions with the OPTIMA program, which Max will discuss later. You can see these in the over 70% increase in EBITDA and 44% EBITDA margin for the first It was an outstanding performance and among the highest levels ever achieved. With such strong Q1 results and an expectation of progressive recovery for land based gaming As we move through the year, we believe we can return to pre pandemic revenue, profit and leverage levels this year. This swift recovery from the impact of the pandemic is due to the unique and resilient nature of our business model I'd like to spend some time on Q1's Lottery performance. The 32% same store sales increase was fueled by 52% growth in Italy and 28% in North America and the Rest of the World. Even without the benefit of Compared to 2019, global same store sales were up 24%. The sustained strength in Lottery same store sales for the last three quarters confirms a complete recovery from the pandemic. This is supported by the highest segment revenue and profit levels we have ever achieved. And the momentum continues. Global same store sales are trending up over 20% for the Q2 to date period compared to the Q2 of 2019. We must acknowledge that some of the recent strength comes from the relative lack of Adar Entertainment alternatives. In the U. S, higher disposable income, which includes the benefit of government stimulus is another factor. Patalote as always maintained a steady growth profile. This is because it is a content driven business. Add on and progressive jackpot games are fueling double digit growth in the U. S, while the new 10 and Lotto Extra is an important driver in Italy. Instant ticket sales are benefiting from higher average ticket prices as well as player interest in 2nd chance and free ticket games. Multi jurisdiction Jackpot games were almost double the prior year, thanks to a 1,000,000,000 Mega Millions and 750,000,000 Powerball jackpot in the U. S. And strong EURO Millions sales in Europe. I'm more widely available, especially in Italy. We believe we will see a return to more Normal, steady increases after we cycle through the pandemic related peaks and valleys over the next several quarters. Our expectation is that when the restriction of the pandemic will be largely over to see some stickiness to the recent increased particularly in North America and the market will resume a more normal growth rate mid single digit in the U. S, but starting The recovery for our global gaming segment is progressing well in the U. S, which accounts for about 70% of the segment revenue. U. S. Casinos are open for business as the pace Vaccination is driving confidence among players and operators. This has led to a substantial improvement in slot GGR since January, Not only in the regional U. S. Markets where most of our business is conducted, but also in Las Vegas. Core players have returned and new players, mostly younger, are entering the market as other Recurring revenues are improving month over month, thanks to a stable installed base and more of those units being activated. Even as more units are powered up, yields on active U. S. Units were up high single digits sequentially. New multi level progressive such as Dragon Lights, Gong Chifakai along with Wheel of Fortune franchise are driving these strong results. We also had good unit sales in the quarter, fueled by a 40% increase in the U. S. And Canada units, including double digit growth in replacement, which were not far from Q1 2019 levels. The resilience speaks to the diversity in our Customer mix across regional, tribal and commercial casinos as well as VLTs. Rigal Riches and Lion Dance We're among the top selling core video titles, Wild Life Extreme and Big City V were the best We expect continued progressive improvement throughout the year across all aspects of our Global Gaming segment. It is clear from our meetings over the last few months that Digital Embedding is of great interest to you. It is for us to as IGT plays an important role in the iGaming, Sports Betting and iLottery Ecosystems. During Q1, GGR across the portfolio was 2 to 3 times the prior year levels. Most of that growth We are investing to support this growth and maintain leadership positions in all three verticals. The games and those developed with 3rd party studios. There is additional opportunity for IGT to act As a distributor of 3rd party content and this is an emerging area of focus for us. All these should result in IGT having 20%, 30% share of the North American iGaming market. Outside North America, there is also opportunity to penetrate emerging international markets such as Germany, Greece and the Netherlands. We intend to maintain a leading role in the iLottery industry, leveraging the long standing relationship we have with the world's leading lottery Today and through our commitment to investing in 3 main objectives. 1st, expand the portfolio of games 2nd, to enhancing our platform capabilities and third, by increasing marketing and other activities to support player acquisition and retention for our customers. As we look out over the next 3 to 5 years, we see the potential Since the launch of our in house trading team last summer, we have made good progress signing customers Including Maverick Gaming, Snow Quality and Emerald Queen among others, we have many more bills in the pipeline. There are 17 states where legislation is pending this year and 4 more where legislation has been passed, but Sports betting is not yet operational. We are proactively securing a partnership in jurisdictions where regulatory Our first quarter results Mark a strong start to the year and illustrate the compelling foundation IGT can build on over the next Several years. This is especially true for our global Lottery segment, where record sales and profits confirm The fast recovery in our land based U. S. Gaming activities is accentuated by accelerating the momentum for Life Growth Digital and Betting Businesses. Stronger revenue trends are further enhanced by significant Structural cost reductions that improve our outlook for profit margins and cash flows. Our leverage profile should be significantly improved by year end. Now, I'll turn the call over to Max. Thank you, Marco, and hello, everyone, on the call today. Similar to our last call, in my prepared remarks, I will be speaking primarily to continuing operations due to the recent sale of our Italy B2C Gaming business. The financial performance exhibited in the Q1 of 2021 displays the strength of the IGT portfolio with our Lottery business running at a fast pace, Both on a core basis and supported by exceptional jackpot activity in the early part of the period. Our gaming unit is on an accelerated path to recovery with contribution from our OPTIMA program as well as a sustained robust growth in our digital platform verticals. This trend brought a performance of over $1,000,000,000 in revenue and $450,000,000 in adjusted EBITDA. Our profitability showcases the dynamic margin leverage of our Lottery business as well as disciplined cost saving actions throughout the company. As gaming volume gradually improved throughout the year, we expect to see an increasing benefit from our operational excellence Initiatives, compared to the prior year, we saw the expected reoccurrence of certain normal running expenses in the Q1, primarily employee related Continued healthy cash conversion and CapEx discipline drove over $200,000,000 in free cash flow, which is high for the Q1 performance. Interesting to note, we returned to profitability at net income level this quarter generating $0.38 per share. Turning to our Lottery segment on Slide 13. Revenue increased over 40% to $749,000,000 Global same store sales across instant tickets, Draw based games, multistage jackpots and iLottery. Same store sales grew double digit in January February is showing an astounding 20% plus growth. Part of the same store sales growth includes roughly $20,000,000 in revenue from higher multi stage jackpot And outside of same store sales, lottery service revenue includes approximately $60,000,000 in performance driven incentive accruals from our U. S. Lottery Management Agreement. This $80,000,000 in total in Q1 benefits flow through almost entirely to profit. Product sales, which are naturally lumpy and represent about 5% of annual lottery revenue, were down $10,000,000 on large software license sales in the prior year, partly offset by an increase in instant ticket printing revenue. The margin leverage from Lottery's largely fixed cost structure is new items indicated before, operating income more than doubled from the prior year period to $337,000,000 with adjusted EBITDA growing 74 percent to $447,000,000 So all in all, an excellent performance by our vibrant and pandemic resilient lottery business. Turning to Global Gaming, revenue of $266,000,000 was down 14% over the prior year. We continue to see sequential improvement in this business with higher revenue and adjusted EBITDA and lower operating loss compared to the 4th quarter. KPIs are improving and the contribution from digital and betting continues to accelerate with revenue growing over 80% from the prior year. Sequentially, the global installed base was stable. Over 75% of our U. S. Casino installed base was active And service revenues close to prior year levels due to higher productivity on the active machines. In North America, yields 4,400 units globally in the quarter, up 20% over the prior year and up 2% sequentially. Unit shipments were driven by VLT replacement sales in the U. S. And Canada and the casino openings at Resort World Las Vegas and Hard Rock Indiana. Overall product sales are down due to a multiyear strategic agreement booked in Q1 last year and AWP upgrades in the prior year as well. Operating loss and adjusted EBITDA reflect a lower base of revenue, partially offset by the benefit of cost savings actions. Margin leverage improved in the quarter as expenses have come down. On Slide 15, you can see that the recovery of top line trends and diligent cost savings initiatives Driving strong cash flow in the quarter. Cash from operations was $251,000,000 despite the concentration of interest payments in Free cash flow was $204,000,000 and you can see the direct impact to net debt and leverage, which was down a full turn versus We now expect leverage to return to pre COVID levels by the end of this year, highlighting the unique resilience of IGT Business. On the next slide, we can see our debt maturities. In the last year, we have made significant improvements to our capital structure as we have paid down debt, Extended maturities and reduced interest costs. Each of our most recent debt transactions in euros and dollars were at the lowest coupon rate in company history. Since our last earnings call, there have been 2 additional improvements. First, in late March, we successfully refinanced approximately $1,000,000,000 of notes Due in 2022 with a combination of new notes and bank debt and extended maturity date to 2026. 2nd, the €630,000,000 plus in net proceeds from the sale of the €630 €1,000,000 in net proceeds from the sale of the Italy gaming business will contribute to the full redemption of our euro denominated 2023 notes through the exercise of the make whole. As you can see, these two changes meaningfully reduce our net near term debt maturities and will allow us to save going forward about $60,000,000 in annual interest cost with the full run rate of savings starting to materialize in Q3 this year. In summary, our strong Q1 performance was driven by a combination of global lottery growth, Progressive recovery in U. S. Gaming and Optima cost savings initiatives. We are on track to structurally reduce our cost structure by more than $200,000,000 this year With each segment contributing according to plan, we continue to convert adjusted EBITDA to cash flow at a healthy rate And the free cash flow we generate is used primarily to reduce debt, allowing us to reach pre pandemic levels of leverage by the end of the year. Now, I'd like to share our perspectives on the Q2 of Slide 18. Quarter to date, Global Lottery same store sales growth is over 20%, So our 2nd quarter revenue should be higher on a year over year basis, though we do not expect the $80,000,000 in Q1 lottery revenue benefits Related to jackpot activity and LMA contract incentive to recur. We expect continuous sequential improvement in the gaming business in line with what we have seen in the last few quarters. While second quarter profitability will be lower sequentially, we expect 2nd quarter operating income and adjusted EBITDA will be higher than prior year even without the benefit of the drastic temporary reductions in cost savings during the Q2 of 2020. Depreciation and amortization should be relatively stable. And for the full year, let me reiterate that we expect all relevant key financial metrics to return in line with 2019 trends. The meaningful progress on vaccination campaigns in our core markets and overall has convinced us It is time to update the market on our long term targets in line with sentiments echoed by several market participants we have interacted with recently. I'm excited to announce we will be hosting an Investor Day later in the year where we can elaborate and update you on our strategic priorities, long term financial targets and capital allocation plans. We will have many opportunities to connect before that, including 2nd quarter earnings in early August, G2E in early October and our normal conference and road show participation. Then on November 9, we will report our Q3 earnings as well as host That concludes our prepared remarks. Operator, can you please open the call for questions? Your first question comes from the line of Carlo Santarelli from Deutsche Bank. Hey guys, good morning. Max, maybe this one's best for you as you kind of talked about it a lot in your prepared remarks. But as you guys have started to see kind of the revenue tick back And obviously acknowledging that the $200,000,000 run rate that you set forth for expenses, clearly when you guys put those targets There was probably some ambiguity as to what costs would need to return as revenue started to ramp. Given the result here, it doesn't look like a lot of them Have returned and obviously a lot of it's on the lottery side and you spoke to some of the incremental flow through drivers. But have you noticed Perhaps maybe that estimate of cost that we're returning could perhaps be lower than what you were previously articulating as you've seen revenue start to ramp across the Hi, Carlo. Look, at the end of the day, we have been able to bank on actions that We have executed throughout 2020 in the early part of the year. So we are continuing to enjoy the same kind of benefit in nature than last year in terms of Reduction on discretionary cost. As the year will unfold and eventually revenue, particularly on the gaming side, will start to pick up, We'll probably experience a shift into cost saving programs away from those discretionary cost savings More into structural permanent long term savings as we have been announcing since the beginning of the year with this operational excellence initiatives and the product So we expect to still be able to beat our $200,000,000 target For the full year, but the mix of the savings will change over time. Great. Max, that's super helpful. I appreciate that. And then Secondly, acknowledging there is some seasonality in the business, but when you look at the digital and embedding revenue business Right now, I mean, you're kind of run rating $230,000,000 to $240,000,000 if we were to just annualize the $58,000,000 in the Q1. Given the attention paid to kind of those streams, obviously, iLottery, iCasino and your OSD platform business, How much do you guys contemplate perhaps maybe breaking that business out even further down the road to give investors? Obviously, with the revenue disclosure, That's great, but obviously that business is profitable for you guys as well. But how much have you thought about kind of featuring that a little bit more And maybe providing a little bit more granular color on kind of exactly how that business is doing from a profit perspective as well. So this is a very good question, Carlo. Obviously, we enhanced the visibility of our fast growing digital activities since we launched the new organization back in Q3 of last year. And we have also dedicated more time to talk about our Business activities in digital and betting over the last few earnings calls based on the success that we have been able to track across the In iGaming, iLottery and Sports Betting, which is driving, as you mentioned, phenomenal revenue growth. The number we generated last year Italia betting revenue of $170,000,000 is in front of everyone and the further growth experienced in Q1 is very speaks by itself. Obviously, if the business continues to expand at the rapid pace we expect, at a certain point, it may make sense for us to consider breaking out as a standalone segment. Great, Max. Thank you very much. Take care, guys. Your next question comes from the line of Chad Beynon from Macquarie. Hi, good morning. Thanks for taking my question. Wanted to start on the gaming improvement. Max, So the Q2, you'll start to see this business start to come in. Wanted to focus on your installed base. I believe you said 75% of the units are Currently active, and I'm sure this differs across many jurisdictions where you have units. But how should we think about when more of these Units will be turned on. And then by the end of the second quarter, do you think we can get closer to 100%? And then finally on that, How should we think about the incremental costs that are needed as this comes back on? Should this mostly flow through to the bottom line? Thanks. Good morning, Chad. I think while speaking in April, we had already 80% Our installed base active and we think we will progressively grow till the end of the year when we believe we will reach almost the totality of our installed base Active. And we do not anticipate much additional costs in order to get it done. Perfect. Thank you. And then just now that the free cash flow picture and your recovery To previous free cash flow levels is in sight. How are you thinking about inorganic Lottery growth opportunities, are there other opportunities, that you have your eye on or tuck in acquisitions, either on the digital side or any of your other segments that could help position you guys for the future. Thank you. No. For the time being, we are not working on any acquisition. I think we have All we need to grow on all the digital verticals and regarding lottery in general, we do not expect Anything to be acquired short term. Thanks, Marco. Congrats on the quarter. Thank you. Thank you, Chad. Your next question comes from Barry Jonas from Truist Securities. Hey, guys. So if you think you'll get back to 2019 EBITDA levels, and I guess that's with cost cuts netting with the Sal of the Italy Gaming B2C, I have you a bit lower than your historical ForEx net leverage target by year end. So I guess the question is, how are you thinking about capital returns like share repurchases and dividends here? Take this, Marco. Obviously, returning capital to shareholders is an important objective for us. For now, although the priorities for capital Having said that, since we expect leverage to return to pre pandemic levels by the end of this year, there is potential for the Board to reconsider restarting dividend payments As those results materialize towards the end of the year. Got it. Got it. Okay. And then just a quick one on the New York sports betting market. We've gotten a couple of inbounds from clients. Just curious how you're About potentially bidding there as a platform provider? For New York, you said? Yes. For the New York sports Mobile sports betting market. Yes. No, I think the visibility on New York is not as big as you know, But we are preparing ourselves to take advantage of any opportunity we might have there. So we will learn More details on the potential opportunity, but we are still thinking that there will be compelling opportunities For us. Got it. All right. Thanks so much, guys, and congrats on a great quarter. Thank you. Thank you. Your next question comes from the line of Domenico Malappe from Equita. Hi, good morning. And couple of questions. The first is on the Italian lotto. If you can give us the Contribution of Sketch and Wind because it's not that strong, that's been extremely, extremely strong. And so I if And second question is on the savings. I'd like to And how much of the savings have been flowing to the P and L, in particular to the gaming compared to the lottery business? Hi, Domenico. I will take the first question and Max will elaborate on the second one. The first question, we do not see any mismatch on scratch and win in Italy. It's doing great and we have great sellout and of course we are taking advantage by the closure of game goals and sports betting shops, but the business It's doing very well with a high level of satisfaction from players accordingly to our research. So it is continuous or basically we can take it as a sustainable level at least for this part of the year? Yes. I think the trend is continuing. It's quite solid and I think we can Expect a very solid performance till the reopening of the point of sales I've just mentioned. Okay. On the second question, Domenico. Hi, this is Max. So as I was elaborating before with Carlo, Our OPTIMA program combination of initiatives will shift over time. Right now, we see a little bit more contribution Coming from lottery, then what should be the run rate and a little bit less from gaming in terms of the total, but we are ahead of our we are in line and slightly ahead of our target so far. The gaming will ramp up as As soon as these operational excellence initiatives will come to fruition, starting with the 2nd part of the year and more so going forward. And just a follow-up, a clarification on the guidance on the indication of being back to 2019 level. So should I take it on a reporting number, not on adjusted for pro form a for the disposal? We have recast our historicals to run the continuing ops through all the financial, Thanks. Okay. Thank you. Your next question comes from the line of Katz from Jefferies. Hi, good morning, everyone. Max and I guess everyone. I appreciate all the commentary. I wanted to I'm looking at Slide 16, which has the maturity schedule out there and trying to think about the degree to which There could be more opportunities in there, given how well you did on the most recent raise. Clearly, there's some bank debt and some Bonds, the next few years, have you gone through any sort of thoughts or math as to what those opportunities might look like To save some interest and drive some cash flow. Yes. So thank you for the question, David. I would first acknowledge The fact that with the 2 significant actions that we have taken and the second as of today with the May call on the Euro 2023 debt, We're basically taking away towers fundamentally public market towers we had in 2022 and 2023 now for good. The next chapter is probably looking more into the bank situation, the bank debt situation. We have a term loan that will come due in 2022 and 2023 and then obviously we have the revolver expiring in 2024. On the bonds, obviously, we can always opportunistically look at tendering some of those bonds. We actually are now a couple of years out in terms of early calls that we started to Create into the structure as we mature our issuance program in the last few years. So I would say Long story short, bank debt first and then bonds later on. But I think we're pretty happy now with the situation That we have achieved by lowering the total amount of debt by a significant amount and also Reducing the leverage by one full turn versus a year end. Yes. Yes. Okay. And I mean, is it a fair I mean, maybe this is not the right form, but is there a fair sort of thought that those Interest costs are going to wind up being lower than where they were directionally at least on the bank debt? Definitely, the bank debt is the low cost liability financial liability for us. So Changing in the mix definitely improves our average cost of debt, which has come down probably a quarter point In the last year or so, obviously, we continue to look opportunistically At the Capital Market to see if there is any chance to construct a transaction that is effective. But again, I would really bank on the $60,000,000 that we have now generated throughout the last two actions that will Start to come to fruition on a quarterly basis, obviously, 1 quarter of that amount starting with Q3 of this year. Okay. Thank you very much. And we'll take our last question from John DeCree from Nynaeun Gaming. Hi, everyone. Thanks for taking my questions. Hi, John. Mark or Max, I wanted to ask a question on the iGaming business and where you're seeing your revenue lift. Obviously, you have a lot of content to provide. So I'm curious if you could help us Unpack that revenue a little bit. Is mostly your slot content available on Igaming or are there other B2B services that you're providing iGaming customers, I guess, specifically in the U. S. Related to technology. And the follow-up question is, is that business, iGaming in general, tied to revenue in terms of getting a revenue share? Or is it Maybe fixed fee cost of services, how do we think about as the market, the iGaming market grows, How should IGT grow with that market? John, I think I can elaborate On this question, let me start by saying that over 80% of our iGaming is in North America, where we enjoy a 25% share in the U. S. Based on the Q1 and That we expect will be maintained as the market grows stays on our Game offering, because our success is driven by the success of our games. For the time being, our Share is driven by our proprietary games. We are working on our strong franchises Cleopatra, The point is that you cannot adjust Significantly to better attune them to the digital space and that is where we devoted a lot of effort and energy In order to build up from solid brand and franchises, a Very good digital games. In some cases, we have to change the mechanics. So in some cases, We changed the payout because we need to make them stronger digital content. Sometimes in order to develop some specific feature, we ask the contribution From 3rd party studios, a recent example has been a collaboration for Wheel of Fortune Megaways that we have launched in New Jersey in Q4 and now is in Michigan, Canada And it will be launched in Italy too. It means that we take features, we work the product with the 3rd party studios in order to enhance the quality of our offering. 3rd, we are also thinking about Distributing to become a distributor of 3rd party contents. This is an emerging area of focus for That can also bolster our market share. So it's all about content. And with that said, we are very well prepared to waive the solid growth profile of this business, Considering the number of jurisdiction that might decide, especially in the United States, to regulate this segment. And the business model is revenue sharing. So you have to look at that to think about this business in Excellent. Thanks, Mark. I think you answered a number of my questions in there. So I appreciate all of the help. Congratulations on the quarter. Thank you very much. And I show no further questions at this time. I will now turn the call back to management for any closing remarks. Thank you for joining us today. Yes, outstanding Q1 results we delivered give us confidence of our business model across products and regions and the tremendous efforts of the IGT team around the world. We are building for The future of a stronger foundation of each of our core business activities. We look forward to speaking with you about this over the next weeks.