Gaming analysts divided on direction of IGT stock

David Strow

Wednesday, Jan. 12, 2000 | 10:56 a.m.

Two analysts have cut their ratings on International Game Technology, citing doubts about the company's ability to grow sales substantially and the end of the IGT's tender offer for its stock.

But Robertson Stephens gaming analyst Harry Curtis maintained his "buy" rating on IGT, saying the future of the Reno company's progressive, revenue-sharing slot market remained bright.

In a Monday report, Deutsche Bank Alex. Brown gaming analyst Robin Farley lowered her rating on IGT from "buy" to "market perform." Separately, McDonald Investments' Dennis Forst lowered IGT from "buy" to "hold."

The negative reports had little effect on IGT's shares. IGT rose 25 cents Monday, to $20.25, and gained another 88 cents Tuesday, closing at $21.13.

In her report, Farley lowered her 2000 earnings projection on IGT from $1.56 to $1.52 per share, and set a 2001 target of $1.72. Farley's report puts IGT's potential sales from the California market at 15,000 units per year -- essentially the same amount as the number of slots purchased by new casinos in 1999. In 1999, IGT's earnings per share rose just 4 percent, Farley noted.

"Even if a California referendum (legalizing Indian gaming) passes successfully in March 2000, the impact on IGT would not provide sufficient incremental earnings growth to warrant a buy rating," Farley wrote. "We continue to remain constructive on the stock, as management addresses the issues affecting the company, and we hold that there are scenarios where EPS growth could come in higher than forecast."

Farley didn't expect considerable sales growth from existing casinos, saying she expected casino operators to use cash flow for stock buybacks and debt payments, rather than replacing their slot inventory.

Farley also expressed concern that IGT's traditionally dominant market share may be declining. In 1999, IGT's market share of new orders was in the 65 percent to 70 percent range, down from expectations of 75 percent.

"The growing popularity of video platform, multi-line, multi-coin games meant that some of IGT's competitors were able to take market share," Farley wrote. "The company did miss this video segment in an important year. Going forward, the company may also likely face new competition in Nevada soon from slot manufacturers outside the U.S."

Farley also expressed concerns regarding losses at IGT's Australian subsidiary. IGT's Australian operations recorded a loss of $16.3 million in fiscal 1999, and Farley said the division may lose money again in 2000.

By comparison, Forst's downgrade report was minimal, citing a lack of an upside to the company's stock with the end of its share repurchase program.

But Harry Curtis, gaming analyst at Robertson Stephens, remains bullish on IGT, reiterating his "buy" rating on Tuesday.

New slot sales is essentially a flat business, Curtis said, but he noted that 60 percent of IGT's business now comes from progressive, revenue-sharing machines.

"The progressive business is a growing business, with cash flow growing at 15 percent a year," Curtis said. "IGT should throw off in excess of $140 million annually in free cash. The best use of that cash is reducing their share count."

Curtis is estimating IGT will experience EPS growth above 20 percent through a combination of sales growth and share buybacks. Since the stock now trades at 13 times earnings, this represents considerable upside for the stock, Curtis said.

His 12-month target for the stock is $27, a 28 percent premium over its current levels.

"California could add 10,000 to 20,000 units over the next two years to IGT's sales," Curtis said. "But we're not factoring that much into our estimates, because voters in California don't vote until the 7th of March. We think it's more likely (to win approval) than not."

Farley and Curtis disagreed on the impact new Nevada regulations would have on IGT's growth. Early last year, the Nevada Legislature passed a bill that required revenue-sharing slot manufacturers to share in the payment of gaming taxes with casino operators.

Curtis did not cut back his estimates because of this legislation, saying it had already been factored into his projections.

Farley said the new law will reduce earnings per share by less than 5 percent, but said "the legislative brouhaha does give some insight into issues between IGT and its customers, the casino operators that fought for the legislation."

"Nevada is making steps toward additional regulation that will prohibit new game themes that may be construed as appealing to children," Farley wrote. "While IGT does not design its games to appeal to children, this regulation could affect some of IGT's new games, such as the one based on the cartoon South Park, regardless of the general view that it is not a children's cartoon."