Australia | Dec 03 2018
Aristocrat Leisure's FY18 result failed to reach hefty expectations but brokers are undaunted, believing the opportunities that abound require an increase in investment.
-FY19 result likely weighted to the second half
-Casino expansion, more digital games driving higher costs
-Share gains to be had in adjacent markets
By Eva Brocklehurst
Aristocrat Leisure ((ALL)) has significantly increased its digital exposure while developing titles for land-based casinos, but this has come with a need to substantially expand investment.
While the company's FY18 results failed to meet some hefty expectations, brokers are generally undaunted, as worthwhile opportunities abound. The positives of cash flow and digital acquisitions were offset in FY18 by lower-than-expected margins because of increased investment for future growth.
Morgans finds plenty to like about the stock, as it has a dominant market position in the Americas and Australasia, yet reduces expectations for the Americas and digital segments and lowers its margin forecasts.
Nevertheless, the broker acknowledges, if the company wants to maintain a leading position, it needs to invest significantly in staff and technology. Cash flow is strong and US gaming operations grew 25% in FY18, driving higher-quality recurring revenue.
The highlight for UBS was a 7% increase in the US participation installed base in the second half, the strongest addition in the company's history. Net profit was up 34%, and there are indications that the FY19 result will be weighted to the second half. This has created some weakness in the share price, which Wilsons believes is uncalled for.
As such, there is a buying opportunity, in the broker's opinion, as the outlook is constructive and there are market share gains in adjacencies. The company will soon enter American land-based products including VLTS, Washington CTS and Bar Tops, with all products to be commercialised in FY19/20.
The broker believes Aristocrat Leisure should command more than 10% growth in earnings per share, given the size of the digital opportunity. Cash generation also provides further potential returns and M&A.
Wilsons, not one of the eight stockbrokers monitored daily on the FNArena database, has a Buy rating and $30.78 target. While there are lingering concerns regarding the digital business, and it was soft versus forecasts, the broker believes the volatility is worth enduring for the longer-term growth potential and diversification.
Ord Minnett notes, comparable companies spend around 25-35% of digital revenue on user acquisition and forecasts Aristocrat to spend an additional $100m to achieve payback in 8-10 months. The broker forecasts a majority of first half expenditure on user acquisition will occur in January to March, underpinning the skew in earnings to the second half.
Macquarie likes the growth outlook and agrees increased costs are required to position the business for growth. The broker is forecasting 19% growth in net profit in FY19. The Australasian profit margin expanded to 46% in the second half, supported by an increased take-up of the higher-margin pricing model. However, margins compressed in the Americas.
Strong Outlook For Americas, Digital
Morgan Stanley remains cautious and suggests a casino expansion in the US and new products may sustain growth in the Americas for longer but suspects Australasian growth will moderate further. The acquisitions, Plarium and Big Fish, disappointed the broker in the second half as growth moderated on a sequential basis. The company is launching more games, driving higher costs.
While the business in the Americas continues to perform strongly, digital acquisitions produced lower-quality results in FY18. Nevertheless, Morgan Stanley forecasts 26% growth in digital earnings in FY19, boosted by full year contributions from Big Fish and Plarium.
Credit Suisse does not find the stock demanding, projecting double-digit growth in FY19 and FY20. The broker acknowledges being affected by an "irrational excitement" surrounding digital and now projects more conservative numbers.
Future growth is made more certain by the inclusion for the full year of Big Fish and Plarium and the rolling out of the highly successful Dragon Link and Lightning Link casino slot machines.
UBS notes the PE multiple has de-rated to a 20% premium to the ASX 200, which has only occurred on 17 days in the past five years. Hence, with the outlook for the company not changed enough to justify such a move down in valuation, the broker retains a Buy rating.
There are six Buy ratings on FNArena's database and one Hold (Morgan Stanley). The consensus target is $31.97, suggesting 33.2% upside to the last share price. Targets range from $29.00 (Morgan Stanley) to $37.85 (Deutsche Bank).
See also, Aristocrat Leisure Poised to Take Share on October 31, 2018.
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