Churchill Downs Incorporated Form 10-Q Summary
Business Context and Reporting Period
Unaudited quarterly report for the three and nine months ended September 30, 2016. Churchill Downs operates racing, casinos, TwinSpires online wagering, Big Fish Games, and other investments. Results are seasonal, particularly for racing, TwinSpires, and Big Fish Games, so interim results may not represent full-year performance.
Financial Performance and Key Metrics
| Metric | Q3 2016 | Q3 2015 | 9M 2016 | 9M 2015 |
|---|---|---|---|---|
| Total net revenue | $303.4 million | $279.8 million | $1,030.3 million | $939.9 million |
| Adjusted EBITDA | $67.3 million | $72.2 million | $283.0 million | $280.9 million |
| Operating income | $26.8 million | $9.4 million | $150.5 million | $111.2 million |
| Operating margin | 9% | 3% | 15% | 12% |
| Net income | $8.7 million | $4.2 million | $81.3 million | $57.7 million |
| Diluted EPS | $0.52 | $0.24 | $4.79 | $3.26 |
- Revenue increased 8.4% in the quarter and 9.6% year to date. Big Fish Games contributed $122.3 million in quarterly revenue and $369.6 million year to date; TwinSpires contributed $54.7 million and $172.3 million, respectively.
- Big Fish Games bookings were $118.5 million in the quarter and $374.6 million year to date, up from $114.5 million and $332.0 million, respectively.
- Big Fish Games revenue growth was driven by casual and mid-core free-to-play games, but segment Adjusted EBITDA declined $9.8 million in the quarter and $22.6 million year to date because of higher user-acquisition, platform, and developer costs.
- TwinSpires handle increased 14.3% in the quarter and 14.1% year to date, with active players increasing 8% and 24%, respectively.
- Cash flow from operating activities was $189.0 million for the first nine months, down from $223.2 million. Free cash flow was $164.8 million, down from $200.7 million, after $24.2 million of maintenance capital expenditures.
- Capital expenditures were $44.1 million, including $19.9 million of capital projects, primarily related to premium indoor seating and the Turf Club project at Churchill Downs.
- Cash and cash equivalents were $56.9 million at September 30, 2016, compared with $74.5 million at December 31, 2015. Restricted cash was $31.3 million.
- Total debt was $920.2 million, compared with $781.8 million at year-end 2015. Debt increased primarily because borrowings funded the Big Fish Games earnout payment.
- The company had $348.3 million of available capacity under its Senior Secured Credit Facility after $7.1 million of letters of credit. It was in compliance with all debt covenants; actual interest coverage was 8.2x, total leverage was 3.0x, and senior secured leverage was 1.1x.
Material Changes Versus the Prior Comparable Period
- Quarterly operating income increased $17.4 million, primarily because 2015 included a $12.7 million Calder grandstand impairment and current-period Calder exit costs were $0.5 million.
- Year-to-date operating income increased $39.3 million, benefiting from lower Calder exit costs, improved Racing and TwinSpires results, and lower acquisition-related charges.
- Adjusted EBITDA was lower in the third quarter despite higher revenue because Big Fish Games incurred substantially higher user-acquisition and platform costs. Year-to-date Adjusted EBITDA increased only modestly because the Big Fish Games decline offset gains in Casinos, Racing, and TwinSpires.
- Interest expense increased to $32.8 million year to date from $21.3 million, reflecting higher debt balances and borrowings associated with the Big Fish Games earnout.
- In March 2016, the company paid $281.6 million related to the Big Fish Games earnout. The remaining Big Fish Games earnout liability was $67.2 million at September 30, 2016.
- The company recorded a $2.6 million third-quarter selling, general and administrative expense for a probable liability related to untimely informational tax returns for certain casino customers. A separate potential TwinSpires-related civil penalty of approximately $1.6 million was not accrued because payment was not considered probable.
- The company repurchased $15.0 million of common stock during the first nine months and had approximately $135.0 million of remaining authorization at September 30, 2016.
Guidance, Outlook, Risks, and Unusual Items
The filing does not provide specific quantitative revenue, earnings, or Adjusted EBITDA guidance. Management expects operational efficiencies from Calder demolition, including lower property taxes, repair and maintenance, utilities, permitting, and environmental costs. A 50% joint venture was formed to pursue Ocean Downs in Maryland, but closing remained subject to regulatory approvals and customary conditions.
- Key risks include consumer discretionary spending, economic conditions, casino and racing competition, regulatory and legislative changes affecting wagering and gaming, licensing requirements, horsemen agreements, and the performance of Big Fish Games and TwinSpires.
- Online businesses face risks from mobile-platform relationships, third-party game content, programming flaws, cybersecurity breaches, intellectual-property claims, and changing wagering laws.
- Interest-rate risk is material: a one-percentage-point increase in LIBOR would reduce net income and operating cash flow by approximately $2.0 million, assuming constant variable-rate debt balances.
- Big Fish Games deferred revenue and bookings can create significant period-to-period volatility. Big Fish Games revenue also has seasonal weakness during the summer.
- Contractual obligations totaled approximately $1.278 billion, including $600.0 million of Senior Unsecured Notes, scheduled debt principal, interest, leases, and Big Fish Games payment obligations.
- The company recorded $2.4 million of Calder exit costs year to date and $4.9 million of acquisition-related charges. No goodwill or indefinite-lived intangible impairment was required in the 2016 annual impairment analysis.
- On October 26, 2016, the board declared a $1.32-per-share annual cash dividend payable January 6, 2017.
Important Facts for Investors to Verify
- Whether Big Fish Games can convert bookings and free-to-play growth into sustainable Adjusted EBITDA as user-acquisition, platform, and developer costs remain elevated.
- The pace of debt reduction and the company’s ability to fund capital projects, dividends, repurchases, and remaining Big Fish Games obligations while maintaining covenant compliance.
- The final amount and resolution of potential tax penalties, including the approximately $1.6 million TwinSpires-related matter that was not accrued.
- Regulatory developments affecting advance deposit wagering in Maine, Pennsylvania, Minnesota, Michigan, and other states, as well as any effects on TwinSpires revenue and margins.
- Approval and closing of the Ocean Downs transaction and the expected financial contribution from the Old Bay joint venture.
- Seasonal and market trends at Riverwalk, Harlow’s, Fair Grounds Slots, Fair Grounds racing, and other underperforming properties.
- The company’s non-GAAP measures, including Adjusted EBITDA, bookings, and free cash flow, and their reconciliations to GAAP results.