International Game Technology (IGT) reported third quarter 2011 earnings of 26 cents per share, outpacing the Zacks Consensus Estimate by 4 cents, 23.8% higher than the earnings in the year-ago quarter.
The strong results were driven by higher revenue growth and lower operating costs in the quarter. Revenues in the reported quarter surpassed the Zacks Consensus Estimate of $487.0 million.
Based on strong results in the first nine months, IGT raised its fiscal 2011 earnings per share guidance.
Operational Performance
Non-GAAP gross profit was $288.6 million, up 7.7% year over year. Gross margin increased 260 basis points (bps) to 59.0% in the third quarter, primarily due to strong performance in the North American gaming operations and growth in international selling prices.
Gaming gross margin increased 380 bps over the prior-year quarter to 61.6%, due to improved gaming performance and lower jackpot expenses.
Product sales gross margin increased to 56.0% in the third quarter from 54.6% in the prior-year quarter, attributable to an increase in higher-margin international machine sales.
Adjusted EBITDA (including stock-based compensation) was $196.1 million, up 9.7% year over year.
Operating expenses were $147.8 million, flat year over year. Selling, general and administrative (SG&A) expense increased 1.2% year over year, while research & development (R&D) expense was flat in the quarter. Depreciation & amortization (D&A) decreased 6.7% on a year-over-year basis in the quarter.
Operating income increased 17.2% year over year to $140.8 million. Operating margin expanded 350 bps on a year-over-year basis, primarily due to lower operating expenses and higher revenue growth in the quarter.
Net income on a non-GAAP basis was $77.7 million, up 21.8% year over year. Net income margin shot up 250 bps to 15.9% on a year-over-year basis. A 28.6% decline in interest expense contributed to the significant growth in the quarter.
Revenue
Total revenue increased 3.0% year over year to $489.0 million in the third quarter. Gaming Operations contributed 54.7% to the total revenue whereas Product Sales accounted for the remaining 45.3%.
Segment Details
Gaming Operations revenues dipped 0.6% year over year to $267.4 million in the third quarter, primarily due to a lower installed base. Average revenue per unit (ARPU) per day in the third quarter was $55.55, up from $54.08 in the year-ago quarter; driven by strong performance by the MegaJackpots brand.
At the end of the quarter, the company’s Gaming Operations installed base totaled 53,300 units, down 1300 units from the year-ago quarter. The year-over-year growth was due to additions in international lease operations.
Product Sales were up 7.6% year over year to $221.6 million, primarily due to higher domestic replacement and Latin America sales.
The company shipped 8,900 machines during the quarter, up from the prior-year shipment of 8,300 units.
Average revenue per unit (ARPU) in the third quarter was $24,900 versus $24,800 in the prior-year quarter. Average machine sales price was $15,400, up 8.5% year over year from $14,200 in the prior-year quarter.
Balance Sheet
As of June 30, 2011, cash and investments (including restricted cash) were $401.4 million versus $373.4 million, as of March 31, 2011. Long-term debt was $1.57 billion versus $1.55 billion in the prior quarter.
During the quarter, IGT’s Board of Directors authorized a share repurchase program of $500.0 million. The company repurchased 1.5 million shares at an average price of $16.25 for a total cost of $25.0 million.
In the third quarter of 2011, cash flow from operations was $185.0 million compared with $147.1 million in the prior quarter.
Acquisitions/Divestitures
During the quarter, IGT completed the previously announced tender offer to acquire Entraction Holding AB. The acquisition is expected to significantly enhance IGT’s online gaming portfolio by adding poker, sports betting and bingo offerings.
IGT has agreed to sell the Barcrest Group to Scientific Games Corp. (SGMS). This transaction is expected to close in the fourth quarter of 2011.
Guidance
IGT expects EPS in the range of 89 cents to 93 cents (up from the previous guidance of 84 cents to 90 cents per share), excluding a gain of 8 cents from certain discrete tax items and investment gain.
Recommendation
We believe that international expansion, an innovative product pipeline, international expansion, cost-cutting initiatives, lower debt obligations (over the last two years IGT reduced contractual debt obligations by nearly $600.0 million), focus on reducing dependency on the domestic machine replacement cycle and strong growth from the interactive business will drive growth over the long term.
However, sluggish macroeconomic conditions, lack of visibility on replacement sales, very few new openings and increasing competition particularly will keep the stock range bound in the near term.
We have a Neutral recommendation on the stock over the long term (6-12 months). Currently, IGT has a Zacks #3 Rank, which implies a Hold rating on a short-term basis.
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