Churchill Downs Incorporated — Q1 2019 Form 10-Q Summary
Business context and reporting period
Unaudited results cover the three months ended March 31, 2019, compared with the three months ended March 31, 2018. Churchill Downs operates racing, online wagering and gaming businesses. The company realigned its reportable segments to Churchill Downs, Online Wagering and Gaming. Results are seasonal, with substantially greater live-racing activity historically occurring in the second quarter around the Kentucky Derby and Kentucky Oaks.
- Completed the $178.9 million Presque Isle acquisition in January 2019.
- Completed the Lady Luck Nemacolin management and asset acquisition in March 2019.
- Increased ownership of Midwest Gaming, parent of Rivers Casino Des Plaines, to 61.3% through transactions requiring approximately $409.8 million of cash; the investment remains accounted for under the equity method because of participating rights.
- Derby City Gaming, opened in September 2018, contributed materially to the Churchill Downs segment.
- Big Fish Games was sold in January 2018 and is presented as a discontinued operation.
Financial performance and key metrics
| Metric | Q1 2019 | Q1 2018 | Change |
|---|---|---|---|
| Net revenue | $265.4 million | $189.3 million | +$76.1 million |
| Operating income | $28.0 million | $19.7 million | +$8.3 million |
| Operating margin | 11% | 10% | +1 percentage point |
| Income from continuing operations | $11.9 million | $14.1 million | -$2.2 million |
| Net income | $11.6 million | $182.0 million | -$170.4 million |
| Diluted earnings per share | $0.29 | $4.18 | -$3.89 |
| Adjusted EBITDA | $74.6 million | $49.2 million | +$25.4 million |
| Operating cash flow | $70.3 million | $55.9 million | +$14.4 million |
| Capital expenditures | $28.1 million | $34.0 million | -$5.9 million |
Revenue growth was concentrated in Gaming, which increased to $168.8 million from $111.5 million, and Churchill Downs, which increased to $21.0 million from $2.0 million. Online Wagering was broadly stable at $63.1 million versus $63.2 million.
Adjusted EBITDA increased to $74.6 million from $49.2 million. Segment Adjusted EBITDA was $1.4 million for Churchill Downs, $16.9 million for Online Wagering and $64.8 million for Gaming. Adjusted EBITDA is a non-GAAP measure and included $8.2 million of Midwest Gaming recapitalization costs, $3.5 million of transaction expense, $4.7 million of stock-based compensation, $1.3 million of pre-opening expense and other adjustments.
Liquidity, debt and balance sheet
- Cash and cash equivalents were $119.7 million at March 31, 2019, compared with $133.3 million at December 31, 2018. Cash, cash equivalents and restricted cash totaled $157.4 million.
- Total debt was $1.495 billion before issuance costs, compared with $896.0 million at year-end 2018. Debt, net of current maturities and issuance costs, was $1.471 billion.
- Issued $600.0 million of 5.50% Senior Notes due April 2027. Proceeds were used primarily to repay borrowings under the revolving credit facility.
- Outstanding debt included a $395.0 million Term Loan B due 2024 and $500.0 million of 4.75% Senior Notes due 2028.
- The company had $119.7 million of unrestricted cash and a $700.0 million revolving credit facility, subject to availability and covenants. Management reported compliance with applicable debt covenants.
- Interest coverage was 8.3 to 1.0 versus a minimum requirement of 2.5 to 1.0; secured net leverage was 0.6 to 1.0 versus a maximum requirement of 4.0 to 1.0.
- Total assets increased to $2.479 billion from $1.725 billion, primarily due to the Midwest Gaming investment and the Presque Isle acquisition. Total liabilities increased to $2.022 billion from $1.252 billion.
Material changes versus the prior comparable period
- Operating results benefited from the Presque Isle, Lady Luck Nemacolin and Ocean Downs transactions, as well as the opening of Derby City Gaming.
- Gaming Adjusted EBITDA increased $18.4 million, while Churchill Downs Adjusted EBITDA improved $7.4 million. Online Wagering Adjusted EBITDA declined $1.0 million because of costs associated with online sports betting and iGaming.
- TwinSpires active players increased 2.4%, but net revenue per active player declined 3.3%; handle increased 0.1%.
- Income from continuing operations declined despite higher operating income because of higher interest expense, transaction and pre-opening costs, a $6.6 million after-tax impact from Midwest Gaming recapitalization costs and a $2.8 million non-cash tax impact.
- Net income comparison was distorted by the $168.3 million after-tax gain from the Big Fish Games sale recognized in Q1 2018.
- Cash flow from investing activities was $(619.1) million, primarily reflecting the $409.8 million Midwest Gaming investment and $171.3 million of acquisition spending, compared with $936.7 million of inflows in Q1 2018 from the Big Fish Games sale.
- The company repurchased 282,416 shares under its repurchase program for $25.0 million and had approximately $243.0 million of authorization remaining at March 31, 2019.
Guidance, outlook, commentary and risks
The filing does not provide specific quantitative revenue, earnings or Adjusted EBITDA guidance. Management expects seasonal strength in the second quarter from the Kentucky Derby and Kentucky Oaks, but cautions that interim results may not be indicative of full-year performance.
- Management cited growth from Derby City Gaming, new gaming properties and equity income from Midwest Gaming and Miami Valley Gaming.
- Online sports betting and iGaming were still developing; online sports betting and iGaming revenue was nominal in Q1, and the company incurred launch and platform costs.
- Key risks include consumer discretionary spending, regulatory and legislative changes, gaming and racing competition, legalization and expansion of online sports betting and iGaming, acquisition integration, debt restrictions, interest-rate exposure, cybersecurity, weather and catastrophic events, labor issues and litigation.
- A one-percentage-point increase in the variable interest rate on the Term Loan B was estimated to reduce net income and operating cash flow by approximately $2.6 million annually, assuming the outstanding balance remained constant.
- Material legal matters included the Kater class action involving the former Big Fish Casino, the Rivera personal-injury litigation scheduled for trial in September 2019, and litigation concerning a Kentucky racing license. The company stated that it was vigorously defending these matters.
- The company adopted ASC 842 lease accounting on January 1, 2019, recognizing $26.8 million of operating lease liabilities at March 31, 2019; management did not expect a material ongoing impact on results or cash flow.
Important facts for investors to verify
- Whether the acquired Presque Isle, Lady Luck Nemacolin and Midwest Gaming assets deliver the expected earnings and cash-flow contribution.
- The sustainability of Gaming Adjusted EBITDA growth after acquisition-related and recapitalization adjustments.
- Progress and profitability of online sports betting and iGaming, including launch costs and regulatory developments.
- Debt repayment capacity, interest-rate sensitivity and compliance with restrictive covenants following the $600.0 million notes issuance.
- The effect of seasonal Kentucky Derby revenue and deferred customer payments on subsequent-quarter cash flow.
- Potential financial exposure from the Kater, Rivera and Kentucky racing-license proceedings, for which the filing does not provide clear maximum loss amounts.
- Reconciliation of non-GAAP Adjusted EBITDA to GAAP results and the recurring versus nonrecurring nature of its adjustments.