Ainsworth Profit Outlook Falls Short

This story features AINSWORTH GAME TECHNOLOGY LIMITED. For more info SHARE ANALYSIS: AGI

Ainsworth Game Technology has significantly downgraded guidance, made worse by the fact the revision includes a recent order from Churchill Downs.

-Soft new game performance, regulatory delays account for second half slump
-Second half performance includes new 600-unit order from Churchill Downs
-No evidence yet of a recovery in product performance
 

By Eva Brocklehurst

Ainsworth Game Technology ((AGI)) has provided a significant downgrade to its FY18 guidance. Second half pre-tax profit is expected to be around $20m, versus previous guidance to be modestly ahead of the $42.2m posted in the prior corresponding half.

Regulatory delays are affecting product releases in Australia but North America was also weaker amid lower class III participation units and higher royalty costs associated with Pacman.

Deterioration occurred across all divisions. What is making matters worse, CLSA believes, is that the revised guidance includes a recent order from Churchill Downs for 600 units, which suggests significant weakness elsewhere.

The broker makes cuts to estimates for operating earnings (EBIT) of -41-47% over FY18-20 and has an Underperform rating and $1.23 target.

For Macquarie the downgrade illustrates the volatility and low visibility in the sales business, which is 75% of revenue. The company is suggesting earnings will improve in FY19 but the broker believes this has to be underpinned by game performance.

Macquarie also notes that Ainsworth has corporate appeal as Novomatic holds 52% of the stock. The broker sticks with a Neutral rating and lowers the target to $1.05.

Guidance assumes Churchill Downs sales are completed in the second half, although regulatory approvals are pending. Macquarie is confident the sale will be completed and estimates it accounts for around 33% of the second half pre-tax profit guidance. Otherwise, pre-tax profit, excluding the Churchill Downs sales, would be $30m, down -48% year-on-year.

UBS believes the bulk of the decline in sales came through lower customer demand and subsequent lower ship share. As FY18 is supported by the sale to Churchill Downs and ongoing sales to Novomatic, the underlying trend could be worse than the headline suggests, and the broker believes it prudent to re-base earnings for future years.

UBS downgrades estimates by -38% for FY18 and -41% for FY19. The brokers lack of confidence going forward is based around the ongoing one-off sales and the negative momentum for ship share in the US.

Revenue is also set to decline in Latin America in the second half for the first time since 2014, and there is for high R&D expenditure to improve the game library.

UBS concedes the class III outright sales segment, in which Ainsworth is concentrated, is inherently volatile and manufacturers can experience long peaks and troughs in the product cycle. UBS currently forecasts ship share of 10% and 4% in Australia and the US respectively, with a marginal improvement in participation.

As yet, there is no evidence of a firm recovery in product performance, that should lead to a multi-year earnings growth outcome if it were the case. The next catalyst the broker expects are surveys on the US market in July.

UBS also does not believe the collaborative agreement with Novomatic will achieve the expected synergies over FY18 and would also need to see an improvement in Ainsworth's new game performance before it can be confident Australian earnings have stabilised.

Until Ainsworth achieves diversification in earnings and improves game performance the broker expects uncertainty to prevail, maintaining a Sell rating with a $1.09 target.

Canaccord Genuity, too, has now downgraded to Sell from Hold, reducing its price target to $1.00 from $2.32. Contrary to management commentary, Canaccord Genuity believes what we are witnessing is a re-basing of profit margins for the company. The stockbroker notes the operational margin (EBIT) has now fallen in three of the past four half-yearly results.

Until more clarity is achieved around this matter, Canaccord Genuity suggests investors should simply avoid the stock.

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