Churchill Downs Incorporated: Q2 2018 Form 10-Q Summary
Business context and reporting period
Quarterly report for the three and six months ended June 30, 2018. Churchill Downs operates racing venues, TwinSpires online wagering, casino properties and other investments. Results are seasonally influenced by the Kentucky Derby and Kentucky Oaks, with most live-racing revenue generated in the second quarter.
Big Fish Games was sold on January 9, 2018, and is presented as discontinued operations for all periods. Continuing operations therefore exclude Big Fish Games unless otherwise noted.
Financial performance and key metrics
| Metric | Q2 2018 | Q2 2017 | Six months 2018 | Six months 2017 |
|---|---|---|---|---|
| Net revenue | $379.4 million | $339.3 million | $568.7 million | $506.8 million |
| Operating income | $136.6 million | $122.9 million | $156.3 million | $131.4 million |
| Operating margin | 36% | 36% | 27% | 26% |
| Net income | $103.1 million | $78.3 million | $285.1 million | $85.6 million |
| Adjusted EBITDA | $174.5 million | $154.0 million | $223.7 million | $190.3 million |
| Diluted EPS | $7.55 | $4.81 | $20.26 | $5.18 |
- Q2 revenue increased $40.1 million, or approximately 12%, led by Racing, TwinSpires and Casino.
- Six-month revenue increased $61.9 million, or approximately 12%; adjusted EBITDA increased $33.4 million, or approximately 18%.
- Q2 segment revenue increased to $194.1 million in Racing, $94.1 million in TwinSpires and $98.2 million in Casino. Six-month adjusted EBITDA was $99.7 million for Racing, $39.6 million for TwinSpires and $88.2 million for Casino.
- Racing and TwinSpires handle increased 2.3% and 12.2%, respectively, in Q2. Six-month TwinSpires handle increased 15.3%.
- Operating cash flow was $162.3 million for the first six months, compared with $168.4 million in the prior-year period. Capital expenditures were $72.2 million.
Liquidity, debt and capital allocation
- June 30 cash and cash equivalents were $254.6 million, with restricted cash of $40.1 million; total cash, cash equivalents and restricted cash were $294.7 million.
- Total debt was $898.0 million before issuance costs, down $244.0 million from December 31, 2017. Debt consisted principally of $398.0 million under the Term Loan B and $500.0 million of 4.75% Senior Notes due 2028. The revolving credit facility had no outstanding balance.
- The company was in compliance with debt covenants. Actual interest coverage was 6.7x versus a minimum of 2.5x, and secured net leverage was 0.7x versus a maximum of 4.0x.
- Cash flow from investing activities was $892.4 million, including $970.7 million of proceeds from the Big Fish sale. Financing cash outflows were $844.9 million, including $514.7 million of share repurchases, $361.3 million of debt repayments and $23.5 million of dividends.
- The company completed a $500.0 million modified Dutch auction repurchase of 1,886,792 shares at $265 per share. A separate $250.0 million repurchase authorization had approximately $78.3 million remaining at quarter-end.
Material changes versus the prior comparable period
- Q2 growth reflected a successful Kentucky Derby and Oaks week, increased Churchill Downs ticket sales and handle, 12.2% TwinSpires handle growth, and improved casino performance from marketing initiatives and property enhancements.
- Casino revenue benefited from the Oxford hotel and expanded gaming floor, Calder capital improvements and temporary competition disruption following Hurricane Irma, and promotional activity at Riverwalk and Louisiana properties.
- Net income for the six months increased $199.5 million, primarily because of a $168.3 million after-tax gain on the Big Fish sale, lower taxes following federal tax-rate reductions, lower interest expense and improved operating results. The gain is non-recurring.
- Interest expense declined $4.1 million for the six months because of lower debt balances. Transaction expense increased $3.0 million to $3.5 million, primarily from acquisition-related costs.
- The company adopted ASC 606 revenue recognition and related cash-flow standards on January 1, 2018. The income-statement impact was not material, while retained earnings increased $29.7 million at adoption. Comparative income-statement periods were not retrospectively adjusted.
Guidance, outlook, commentary and risks
The filing does not provide quantitative earnings or revenue guidance. Management expects continued opportunities from online real-money gaming and sports betting following the repeal of the federal sports-wagering prohibition, subject to state legislation, licensing, regulation and execution. The company entered a strategic technology partnership with SBTech and an agreement with Golden Nugget for New Jersey iGaming and sports betting.
- Derby City Gaming, an approximately $65.0 million historical racing machine facility in Louisville, was expected to open in September 2018.
- The Presque Isle Downs acquisition, with a stand-alone purchase price of $178.9 million, and a proposed Lady Luck Nemacolin operating transaction were expected to close in the fourth quarter of 2018, subject to regulatory and other conditions. The Lady Luck Vicksburg transaction was terminated, with a potential $5.0 million termination fee subject to specified conditions.
- The company subsequently announced a proposed exchange of its 25% interest in Saratoga Casino Holdings for the remaining 50% ownership of Ocean Downs. Closing was subject to conditions, including gaming-authority approval.
- Key risks include seasonality and weather affecting racing, consumer discretionary spending, casino and wagering competition, gaming and racing regulation, online-wagering legal developments, technology and cybersecurity risks, debt covenants and variable interest rates, acquisition integration and litigation.
- A one-percentage-point increase in LIBOR would reduce annual net income and operating cash flow by approximately $3.1 million, assuming constant variable-rate debt.
- The Kater litigation involving former Big Fish Casino operations was remanded after an appellate reversal; Churchill Downs agreed to indemnify the buyer for specified litigation losses. A Louisiana horsemen’s purse class action was remanded for further proceedings after an appellate reversal.
Important facts for investors to verify
- Separate recurring continuing-operations performance from the $168.3 million after-tax Big Fish sale gain and other discontinued-operation effects.
- Assess the sustainability of Kentucky Derby and Oaks-related revenue and the seasonal impact on full-year results.
- Verify TwinSpires handle growth, customer economics, regulatory developments and the cost of entering iGaming and sports betting.
- Monitor debt repayment, variable-rate exposure, liquidity after acquisitions and the remaining share-repurchase authorization.
- Review closing conditions, funding and integration plans for Presque Isle and Ocean Downs-related transactions.
- Track developments and potential exposure in the Kater and Louisiana horsemen’s litigation.