Penn National Gaming, Inc. — Q3 2012 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2012. The filing is by Penn National Gaming, Inc. (the company identified in the filing), not under the later name PENN Entertainment. Financial amounts below are in U.S. dollars; unless noted, millions.
Business context
The company owned, managed, or held interests in 27 gaming and pari-mutuel facilities across 19 jurisdictions at quarter-end. Hollywood Casino Toledo opened in May 2012; Hollywood Casino Columbus opened October 8, after quarter-end. Harrah’s St. Louis was acquired November 2, also after quarter-end. Operations span Midwest, East/West, Southern Plains, and Other segments.
Key financial results
| Metric | Q3 2012 | Q3 2011 | Nine months 2012 | Nine months 2011 |
|---|---|---|---|---|
| Net revenue | $707.0 | $710.9 | $2,155.7 | $2,065.8 |
| Income from operations | $98.7 | $130.3 | $369.3 | $393.7 |
| Operating margin | 14.0% | 18.3% | 17.1% | 19.1% |
| Net income | $46.4 | $70.8 | $191.7 | $198.3 |
| Diluted EPS | $0.44 | $0.66 | $1.81 | $1.85 |
| Operating cash flow | Not provided quarterly | $337.8 | $438.1 |
Q3 net revenue decreased 0.5%; nine-month net revenue increased 4.3%. Nine-month gaming revenue rose 3.0%, while food, beverage and other revenue rose 12.9%. Nine-month results included the M Resort for a fuller comparable period and Toledo’s opening; gaming revenue gains were offset in part by new competition and weaker results at certain established properties.
Profitability weakened despite nine-month revenue growth. Q3 general and administrative expense increased 26.4% to $137.6 million, including $19.2 million of Maryland lobbying costs. Depreciation and amortization rose 19.5% to $62.4 million in Q3, largely reflecting new facilities. Nine-month operating income fell 6.2% and net income fell 3.3%. Effective tax rates were 40.3% for Q3 and 39.4% for the nine-month period, above the comparable 2011 rates.
Balance sheet, debt and liquidity
- At September 30, cash and cash equivalents were $217.4 million, down from $238.4 million at December 31, 2011. Current assets were $439.1 million and current liabilities $436.6 million.
- Total debt was approximately $2.18 billion, including $1.84 billion under the senior secured credit facility and $325 million of 8.75% senior subordinated notes. Revolver availability was $231.9 million after $24.1 million of letters of credit; the company reported compliance with required debt covenants.
- For the nine months, operating cash flow of $337.8 million was below the prior-year $438.1 million. Investing activities used $490.6 million, including $365.0 million of net property and equipment expenditures, $105.0 million for Ohio gaming licenses, and $39.6 million invested in joint ventures. Financing activities provided $131.9 million; cash declined $21.0 million overall.
- Capital expenditures were elevated by Ohio development. The company reported $404.2 million of expected 2012 capital-project spending, excluding licensing fees, with $298.6 million spent through September 30, plus $66.3 million of maintenance capital expenditures.
Material changes, outlook and risks
- Growth and competition: Toledo contributed $57.5 million of net revenue in Q3. New casinos and racinos affected several existing properties, including Charles Town and Perryville (Maryland), Lawrenceburg, Riverside, Biloxi and Baton Rouge. Management expected Columbus to increase Midwest gaming revenue in Q4 and the St. Louis acquisition to increase Southern Plains revenue.
- Acquisition financing: On November 1, the company added $915 million to its secured credit facility and increased revolver capacity to $785 million. Proceeds funded the November 2 acquisition of Harrah’s St. Louis, for approximately $610 million, and working capital. This is a post-quarter event and increases borrowing.
- Ohio projects: Columbus opened October 8. The company planned two Ohio racetrack/VLT developments in Dayton and Austintown, each budgeted at approximately $275 million, subject to approvals and other execution risks. Management anticipated completion in 2014.
- Sioux City: The operating agreement with the local sponsoring organization expired in July. The Iowa regulator had not approved the proposed extension and initiated a process for a competing land-based casino license. Litigation is ongoing; the company warned disruption could lead to impairment of $92.8 million in goodwill and other intangible assets and lost future earnings.
- Other litigation and tax matters: Cherokee County, Kansas obtained summary judgment on liability in a suit seeking more than $50 million; damages were to be determined at a 2013 trial, and the company planned to appeal. The company also reported Canadian tax reassessments under appeal and said it expected ultimate resolution through Competent Authority.
- Unusual items: Nine-month 2012 results included a $7.2 million pre-tax insurance gain for the Tunica flood, with the claim settled and no further proceeds expected. Q3 included $19.2 million of Maryland lobbying expense. The prior-year comparison included an $18.5 million Joliet insurance gain and a $17.8 million debt-extinguishment loss.
- Outlook: Management gave no numerical earnings guidance. It believed cash from operations, cash on hand and available credit would cover foreseeable debt service, capital expenditures and working capital, but cautioned that cash generation, growth, financing availability and future acquisition or expansion spending were uncertain. Broader risks include economic weakness, gaming competition, regulatory approvals, tax or legislative changes, construction costs, and labor or legal disputes.
Important facts for investors to verify
- How Toledo and Columbus perform after opening, and whether new competition continues to pressure established properties and margins.
- The impact of the St. Louis acquisition and the additional $915 million of facility borrowings on leverage, interest expense and liquidity.
- Resolution of the Sioux City license, operating-agreement and docking-lease issues, and any resulting impairment or operating interruption.
- The outcome and potential financial exposure of the Kansas litigation, Ohio regulatory matters and Canadian tax appeals.
- Whether operating cash flow can support planned development and maintenance spending, given lower year-to-date cash flow and elevated capital requirements.