Churchill Downs, Incorporated CEO Discusses Q4 2012 Results - Earnings Call Transcript

Feb.28.13 | About: Churchill Downs, (CHDN)

Churchill Downs, Incorporated (NASDAQ:CHDN)

Q4 2012 Earnings Call

February 28, 2013 09:00 AM ET

Executives

Courtney Norris - Director of Corporate Communications

Bill Carstanjen - President and COO

Bill Mudd - CFO

Analysts

Amit Kapoor - Gabelli & Company

Steve Altebrando - Sidoti & Company

Jeffrey Thomison - Hilliard Lyons

Steve Altebrando - Sidoti & Company LLC

Operator

Good day, ladies and gentlemen, and welcome to the Churchill Downs Incorporated Fourth Quarter Results Conference Call. At this time, all participants are in a listen-only mode, and later, we will conduct a question-and-answer session and instructions will follow at that time. (Operator Instructions) As a reminder, this call is being recorded.

I would now like to introduce your host for today’s conference, Ms. Courtney Norris, Director of Corporate Communications.

Courtney Norris

Good morning and welcome to this Churchill Downs Incorporated conference call to review the Company’s results for the fourth quarter and year ended December 31, 2012. The results were released yesterday afternoon in a news release that has been covered by the financial media. A copy of this release announcing results and any other financial and statistical information about the period to be presented in this conference call, including any information required by Regulation G, is available at the section of the Company’s website titled 'News', located at churchilldownsincorporated.com as well as in the website's Inventors section. Let me also note that a news release was issued advising of the accessibility of this conference call on a listen-only basis via phone and over the Internet.

As we begin, let me express that some statements made during this call will be forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995. Forward-looking statements are statements that include projections, expectations or beliefs about future events or results, or otherwise are not statements of historical fact. The actual performance of the Company may differ materially from what is projected in such forward-looking statements. Investors should refer to statements included in reports filed by the Company with the Securities and Exchange Commission for a discussion of additional information concerning factors that could cause our actual results of operations to differ materially from the forward-looking statements made in this call.

The information being provided today is of this date only, and Churchill Downs Incorporated expressly disclaims any obligation to release publicly any updates or revisions to these forward-looking statements to reflect any changes and expectations.

At this point, I would typically turn the call over to CDI’s Chairman and CEO, Mr. Bob Evans. However, he is unable to join us today. We have with us Mr. Bill Carstanjen, CDI’s President and Chief Operating Officer, as well as Mr. Bill Mudd, CDI’s Chief Financial Officer, who will be available to answer questions at the end.

I will now turn it over to Mr. Mudd, who will take you through the numbers.

Bill Mudd

Thanks, Courtney, and good morning, everyone. After I make a few comments about our fourth quarter and total year results, as Courtney mentioned, Bill Carstanjen and I will be happy to answer any questions you may have.

Overall, it was a very good year with net revenues up 5%, and a pretty good fourth quarter with net revenues up 6%. For the year, our Racing Operations revenues increased 1% to $302 million. Racing Operations handle was flat with 2011 while the U.S. industry handle posted a 1% increase, according to figures published by Equibase.com. This is a first total year increase in U.S. wagering on thoroughbred racing since 2006. For the fourth quarter, our Racing Operations revenues decreased 7%, driven primarily due to the revenues recognized in the prior year from hosting the Breeders' Cup at our Churchill Downs facility.

I am certain you will ask how the Derby is shaping up. Well, here's where we stand. We're 65 days out from this year's Derby. With the caveat total admissions revenue, it also depend on cash gate sales on the day of the event which are very much driven by weather, and then our pari-mutuel revenues are also, by the still to be determined build-size and competitiveness of the Oaks and Derby races, and the other races on the Oaks and Derby Day cards. Those caveats at this point, 65 days out, are premium admissions revenue. That is, boxes, (fleets), tables in our premium areas are very strong compared to last year.

Sales of our personal seat licenses are significantly better than last year, sponsorship sales are on track to outpace last year, and handle in the first of the three Oaks and Derby future wager pools was the second highest single pool total in its 15 year history, missing the 2012 record by $10,000, by a massive snow-storm on the East Coast. If those trends hold, and there's no way to know if that will be the case or not, then this year's Oaks and Derby week financial performance should be strong.

Now let's move on to gaming. Our gaming business revenues increased 5% in 2012, reflecting revenues generated by Riverwalk, which was acquired in October. Additionally, Harlow’s revenues increased by $3.4 million, which was closed for 25 days during 2011 as a result of the historic Mississippi River flood. Revenues in our Calder Casino declined by 6% in the year as a result of new competition entering the market in the first quarter along with what we believe to be a weaker South Florida economy. We expect this headwind to continue through at least the first quarter of 2013, as we did not begin seeing the impact of new competition on our result through the second quarter of 2012.

For the fourth quarter, our gaming business revenues increased by 21%. The Riverwalk acquisition was the primary driver. However, our Fairgrounds property also posted its strongest quarter of the year, with organic growth of 11%, as the entire New Orleans market saw a pickup in volume. Our Louisiana video poker business also saw a strong growth, with 7 of our 9 locations seeing increased demand. We opened our newest OTB and video poker facility with 60 machines in the city of Westwego in the Jefferson Parish on January 28 of this year, 2013. Although still early, we have been very pleased with our results thus far.

Our Florida property continue to face headwinds from increased competition, and posted a 6% decline in revenues in the quarter, an improvement from the 12% declines we saw in the second and third quarters of last year.

Our Online Business had a terrific year, posting 11% revenue improvement on handle growth of 11%. As previously mentioned, U.S. handle on thoroughbred racing was up 1% for the year, which indicates that TwinSpires growth outpaced the industry by 12%, as we continue to recruit more players to the game via Internet wagering and as customers shift their wagering activity to the online channel.

Our fourth quarter online results were not as terrific. In fact, we were a bit disappointed. Revenues increased 2% on handle growth of 4.3%. U.S. industry contracted 3.6% in the quarter, according to Equibase.com, which was, at least in part, driven by Hurricane Sandy. This resulted in fewer races for TwinSpires' customers wager on by different racetracks along the East Coast cancelled race day, and residents in the affected areas wagered less, which included wagering on the Breeders' Cup weekend. The good news is that TwinSpires outpaced the industry by 7.9% during the quarter, handle growth by (7.9 %) in the quarter, but also highlights our ability to grow handle and revenue, is affected by the health of the overall industry.

Now, let’s look at the EBITDA performance by segment. Our total year Racing Operations EBITDA decreased by $13.5 million, primarily in the recognition of the Illinois horse racing equity trust fund proceeds of $19.3 million in the prior year, headwinds from Breeders’ Cup not returning to Churchill Downs racetrack, and $2.4 million of lower year-over-year tax increment financing credits from the Commonwealth of Kentucky, were more than offset by the $5.4 million improvement in Kentucky Derby week profitability, 13 additional race days, and cost cut-out action across all f our locations.

In the fourth quarter, our Racing Operations loss was $4.3 million. That is $1.5 million more than the fourth quarter of 2011. The increased loss was driven by the Breeders’ Cup not recurring to Churchill Downs and was partially offset by $0.5 million in entrance games related to a hell-storm proceeds and better costing for us.

For the year, our Gaming EBITDA increased $10.8 million, primarily due to settlement of insurance claims and our fourth quarter acquisition of Riverwalk Casino. Harlow’s EBITDA increased $9 million, due to $26.5 million this year, driven primarily by a $6.1 million increase in year-over-year net insurance gains. The improvement in Harlow’s profitability during 2012, excluding insurance recoveries, was primarily due to the closure of the facility for 25 days during 2011. The renovations following the flood are now complete with a January 25 grand opening. We are excited to see if these renovations will help us attract customers (for investment) in our facility.

In addition, our Riverwalk Casino generated $2.8 million of EBITDA, with our acquisition in October. So far, we have been very pleased with the performance of our newest gaming facility. Our Louisiana gaming properties EBITDA was even with last year, at $25.8 million, while our Calder Casino reported $1.1 million decline. The decrease in Calder Casino’s EBITDA resulted from 6% revenue decline and was partially offset by the recognition of $0.8 million in expense reimbursement from a third party for a slack referendum held a few years ago.

For the fourth quarter, our Gaming EBITDA increased 18% to $16 million, improvements driven by the Riverwalk acquisition and revenue growth in Louisiana, partly offset by a $0.6 million reduction in earnings at our Calder Casino.

While we are discussing our gaming business, I thought I'd give you an update on our Miami Valley Gaming development in Ohio. Our joint venture was issued a temporary video lottery sales agent license from the Ohio Lottery on December 19th. We completed the purchase of the racing licenses and certain assets held by Lebanon Trotting Club and Miami Valley Trotting, two days later. Flank work has already begun in the 128 acre development just opposite Interstate, 75 near exit 29, and while it is early, we are currently on schedule to open in the first quarter of 2014.

Our Online Business increased total year EBITDA by $2.5 million, primarily reflecting the increases in revenue from continued handle growth. Mostly offsetting these increases were expenditures of $2.9 million related to the fourth quarter launch of Luckity.com, $1.1 million in non-recurring employee termination cost, increased losses of $0.7 million in our investment in HRTV, and $0.4 million in expenditures related to wagering accounts of our online customers affected by the correct figure in payoffs from the New York Racing Association error that occurred in 2010 and 2011.

For the fourth quarter, our Online Business EBITDA declined $0.7 million versus the prior year, reflecting $0.8 million of expenditures related to the launch of Luckity.com. Improvements from increased revenues and reduced HRTV losses were offset by higher long-term non-cash incentive compensation cost of $0.4 million.

Our Corporate EBITDA decreased by $5.8 million in the year, as we recognized higher long-term non-cash equity incentive compensation expenses of $4 million related to the financial performance of the Company. In addition, during 2011, we recognized the gain of $2.7 million related to the conversion of a related party note. The $2.1 million fourth quarter Corporate EBITDA reduction is driven primarily by $2.1 million of higher long-term non-cash equity compensation expenses compared to the prior year. Overall, EBITDA declined by $7.2 million for the year and $2 million for the quarter.

Now, please turn your attention to the consolidated statements of comprehensive income for the years ended December 31st. For the full year, total net revenues grew 5% over 2011, to $732 million. In the fourth quarter, net revenue increased 16%, to $158 million. SG&A expenses increased $8.3 million in the year, due in part to a $4 million increase in equity and long-term non-cash compensation related to the financial performance of the Company. In addition, Bluff Media and Riverwalk Casino acquisitions increased SG&A by $2 million, while the Luckity launch added $0.8 million.

Furthermore, we incurred $1.5 million of non-recurring employee termination cost. Insurance recoveries net losses increased by $6 million, reflecting the final settlement of insurance claims related to the flood damages paying to Harlow’s in 2011. Equity losses in unconsolidated affiliates increased by $0.6 million related to our investment in Miami Valley Gaming. Miscellaneous other income decreased by $22.8 million in the year, primarily as a result of the $19.3 million in Illinois Horse Racing Equity Trust Fund proceeds, recognized in 2011.

In addition, 2011 included a $2.7 million gain on the conversion of related party note. For the year, net earnings from continuing operations were $58.3 million, down from $60.8 million in 2011.

Now, please turn your attention to the consolidated balance sheet. The only thing I want to note in this page is our current bank revolver matures in December of 2013, now being reclassified as a current liability. We will refinance this debt sometime during the next 3 to 6 months. The final thing I want to mention is that our annual meeting will be held in April 23rd this year at our Arlington International Race Track in Chicago Illinois. I hope to see you there.

With that, we’ll be happy to take any questions. Stephanie, could you open the lines please?

Question-and-Answer Session

Operator

(Operator Instructions). Our first question comes from the line of Amit Kapoor with Gabelli & Company. Your line is open.

Amit Kapoor - Gabelli & Company

Bill, can you provide some color on the - and thank you for breaking up the expenses this quarter at Luckity - can you provide some color on the ramp-up at Luckity including feedback that you’re receiving from customers around the website ease of navigation, ease of use? And then separately, I have a second question regarding any comments you guys might have on the online gaming legalization dynamics in New Jersey and Nevada, would appreciate that. Thank you.

Bill Mudd

Thanks. I'm going to give those questions to Bill Carstanjen, our President and COO. Bill?

Bill Mudd

First, with respect to Luckity, a lot of the ramp-up costs were in the fourth quarter of 2012. So we got the product launched. We haven’t started marketing really heavily yet because our focus to-date really has been on the quality of the product and spending our time with the customers that we have acquired to understand what they like about it and what we ought to improve. Fundamentally, to backup for a second, why did we do this? We’ve seen a phenomenon that’s going on with social gaming in the country and we’ve studied pretty closely what we’ve seen in Europe with the explosion of online gaming. So, we wanted to take the skills and the capabilities that we have build in TwinSpires and move into a new area, and use those skills to reach a different customer set.

So, there has been some - there's been a lot of learnings and there have been some hiccups too, and before we really launch and earn as any kind of marketing, what we found is we really need to fill the gap between when the customer plays the game and when the customer gets the result, and then actually also the quality of the game. We have to make them more interactive, more appealing. So, it’s fair to say that there are a lot of encouraging signs that we are seeing so far. We really with very little marketing have not had trouble acquiring customers, but really the focus needs to be on keeping those customers, getting redeposit, keeping them engaged when they are on the site, and when we have those tasks achieved, then we will go further in the market with theories on it. Amit, does that…?

Amit Kapoor - Gabelli & Company

Thank you. And could you also comment on the online gaming landscape as it is evolving at the state level, please?

Bill Mudd

Yes, the online gaming landscape is evolving very, very quickly and probably much more quickly than any of the experts might have expected say a year ago. With the dearth of improved federal progress, what you are seeing are, A., exploring revisions on a state by state basis, and you've seen the passage of the law in New Jersey and also in Nevada, and there are a number of other states, like Illinois and like California, a very serious large state that are also seriously considering state-driven online gaming legislation. So, that general field of activity is something we are spending a huge amount of time and attention on, and I think like a lot of companies in our position, we're trying to figure out how we would play and how these states will end up playing with each other in terms of sharing liquidity for games like poker, et cetera.

Amit Kapoor - Gabelli & Company

Is there - the Churchill Downs, do you guys internally think about this as a more, it will evolve at the state level and eventually somewhat at the federal level, will there be enough momentum to take action at the federal level or is this going to be a state by state task, so to speak?

Bill Mudd

I mean, I'd be the first to say that, I don't know if there is anybody out there that's smart enough to know the answer to that question, but I wouldn't say that we think we're smart enough to know the answer to that question. So, the way we approach that general topic is to be prepared as possible for any eventuality. So, I know for a number of years, there was a speculation that it would go federal. Now, the time has turned and the only activity that you really see is state by state. So, our focus right now is preparing state by state action plans. Obviously, there'd be some states we could participate in and obviously there's some states where it seems like it would be much more of a stretch for us to find a way to participate. But right now, we're focused on addressing any state by state opportunities, but that doesn't mean that we stop preparing federally. We still have the same resources deployed federally, we still have the same action plan up on the shelf that we would use in the event that the feds do take action.

Operator

Thank you. Our next question comes from the line of Steve Altebrando with Sidoti & Company. Your line is open.

Steve Altebrando - Sidoti & Company

With current deferred revenue up about 30%, how much of it is timing, how much of that is strength in ticket sales?

Bill Mudd

Yes, if you look at the balance sheet, deferred revenue is up about $10 million. I think if you look at the cash flow statement, about $5 million of that were due to cash last year. Obviously, the bulk of that is related to Derby and that's really the primary driver of our deferred revenue accounting.

We feel there's a combination to discuss. The personal seat licenses are ahead of last year, stronger than last year. A good part of that's timing and a good part of that is new items like The Mansion that were added to that account and things like increased sponsorships, like that. So, it's a combination of both.

Steve Altebrando - Sidoti & Company

And you mentioned I think premium tickets compared to last year, being strong compared to last year. Is that mostly The Mansion expansion or would you also say that that commentary holds for kind of same ticket basis?

Bill Mudd

Yes, so there are basically three parts to that. One is volume. We typically sell our premium ticketing areas. So the only new real change is volume or new areas we get to sell, like The Mansion board, (inaudible) for example. So, it includes volume from those two activities, but the other component of that is price. So you know, to the extent that you have higher prices thing or personal seat license pricing, that is part of the driver as well.

Steve Altebrando - Sidoti & Company

And how is pricing looking?

Bill Mudd

It’s looking good.

Steve Altebrando - Sidoti & Company

Okay. The Riverwalk margins are I guess a little lighter than I would have suspected. I know it’s a seasonally weak period and a short period of time. Is there any one-time items and maybe some integration cost that played in there?

Bill Mudd

Well, the $2.8 million is after management fees. So, to look at it for the management fees to be allocated that, it was about $3.2 million. We did pick it up towards the end of October. I don’t think the calendar was particularly, if I remember correctly, particularly a good threshold. What I would say is, it’s kind of hard to do a complete year-over-year comparison, but we are very happy with the fourth quarter growth rate, when you look at it versus the total quarter of last year. (inaudible) revenues and EBITDA exceeded what they have done in the prior year. So, yes, it’s actually doing a little bit better than what we had forecasted previously.

Steve Altebrando - Sidoti & Company

Okay. Then turning to Ohio, some of the newer properties have been a little slow out of gate, a little disappointing. I'm wondering if you guys have gone back and maybe revisited your model, maybe taking another look at the scope of the project and just generally how you feel about capturing return on that project?

Bill Mudd

Yes, obviously we keep a very close eye on what the competition is doing (to stay) open, and one of the things that is pretty interesting, if you look at Ohio versus some of the other Midwestern club, other Midwestern casinos, table games are running about double as a percentage of total gaming, double what they would normally run. You've seen the demand on our table games, the slots are a little bit less, and the high (inaudible) as Internet cafes really affected the demand on the slot customers. So, yes, we went back and clearly if we look at our demand study provided by a third party and just within what the impact is going to be, and we have made the announcements or changes, yet we're certainly looking at the total value and spending on our development positively. Just to include, opening with the lower number of machine, I mean what we said is if we are allowed up to 2500, we'd never actually announced we had opened them, but I think it’s safe to assume that we would open this up at last.

Operator

Our next question comes from the line of Jeffrey Thomison with Hilliard Lyons. Your line is open.

Jeffrey Thomison - Hilliard Lyons

Thanks and good morning. Sorry guys, I had to join in on your call a bit late today, and you may have already addressed this, but just wanted if you could recap for me, these are fourth quarter questions by the way, the margin impact with gaming and online, I see gaming revenue up 21%, EBITDA up 18%, perhaps that’s related to your comment just a second ago about Riverwalk, but maybe there is some other things too. And then on the Online Business, with your revenue up 2% and EBITDA down 8%, I missed the reason for that.

Bill Mudd

So, to start with Online, since that’s the easiest one to talk about first, in our Online segment, you have to understand, we are putting a lot of investments to a new product called Luckity.com. In the fourth quarter, we spent about $0.8 million of EBITDA, so expenses, net of any kind of revenues associated with launching that product. That’s clearly going to put a bit of pain on growing EBITDA at the same rate as revenues, (inaudible). Also from another expense perspective, our non-cash equity compensation increased $0.4 million. So, there is about $1.2 million of drag on that segment of our business with respect to EBITDA not growing as quick as our online.

In gaming, we are about 18% up, 21% revenue. There is a lot of mix within the gaming business, depending on where tax rates are on each of the states, and if you look at the gaming business, all are down 600,000, clearly didn’t help, not one of the higher margin rate businesses, but also there is an increase in management fees of about $500,000 (inaudible), leaving us with (corporate) EBITDA away.

Jeffrey Thomison - Hilliard Lyons

And then just one more question on revenue at Arlington.

Bill Mudd

Yes, the other thing which I was just reminded by our sellers, that we spent some marketing dollars in the fourth quarter ramping up for our new amenities at Harlow's.

Jeffrey Thomison - Hilliard Lyons

That was spent in the fourth quarter?

Bill Mudd

Correct.

Jeffrey Thomison - Hilliard Lyons

But then Harlow’s is now fully refurbished and up and running?

Bill Mudd

Yes. It's always been running, but the new amenities were opened this January.

Jeffrey Thomison - Hilliard Lyons

Great. Does that mean you have to do some extra spending on the upcoming - for the rest of the quarter to really get that excitement level going?

Bill Mudd

We are definitely going to look at spending some marketing dollars to grab a bigger diameter around the property. How material will it be is yet to be confirmed.

Jeffrey Thomison - Hilliard Lyons

Okay. And then just the Arlington revenue number there, I know it is on an absolute basis, a relative basis, it's not a big number but what did you say was the reason for the 15% decline there?

Bill Mudd

In the quarter, one of our biggest OTBs - first of all, the (inaudible) damage is clearly affecting our OTB business and also there is any dynamic for people shifting their wager (inaudible) online. So, that’s kind of a macro deal is what is going in the OTB bets. Remember Arlington did not run live in the fourth quarter. They only conducted a simulcast operation. So, beyond that, we didn’t move out of one OTB in the center part of the city. We went to another location, we lost revenues, we lost more expenses, so net-net, it wasn’t big then. Often you get an improvement next time.

Jeffrey Thomison - Hilliard Lyons

Okay. I may just follow up with you guys later today.

Operator

(Operator Instructions) We have a follow-up question from Steve Altebrando with Sidoti & Company. Your line is open.

Steve Altebrando - Sidoti & Company LLC

I wanted to see if you had commented at all about the M&A environment, potential use of cash, given your balance sheet being so strong, and in terms of the credit facility, it seems like it's done and it's being redone a little probably later than usual, if there is a reason for that?

Bill Mudd

Yes, I'd be happy to, Steve. That markets as you know are pretty - they are very hot right now. There is lots of money, there is people, and so, we are not in any particular hurry. We would like to have seen the legislation allowing a casino at Arlington in the past but obviously give a lot of cash to build something like that. In the M&A world, I guess, I don’t completely understand your question, but I would say that there are good assets to come on and that is kind of few and far between. I would say that you’re seeing the multiples rise for good assets as deals like the (Fairstar Pinnacle) deal happened or that (depend our reversion). Most of those are driving multiples up in that space. But again, I think the M&A in this space is picking up, it is still kind of few and far between the good assets.

Steve Altebrando - Sidoti & Company LLC

And then in terms of getting back to online gaming for a second, how do you feel you are positioned to fit, if we do see a rollout on a state by state basis, and then how advanced I guess would you consider your online strategy internally?

Bill Mudd

Well our opportunities are going to depend in part on what states go and then what are the relationships between the states. So, while we’re not able really to disclose in any kind of detail on a call like this right now what our specific strategies are, we certainly are aware of the dynamics of where we have casinos and where we don’t, and there are a lot of states we’d like to plan where we don’t have casinos, and that’s something that we worked hard to address and analyze. So, not at liberty to disclose in great detail our overall strategies for a state by state online gaming expansion but it is something that we have achieved here, that’s focused on quite a bit, and it is something that we certainly intend to do our best to pursue.

Steve Altebrando - Sidoti & Company LLC

And then just lastly, this might be a little stale, but what’s the status of your Nevada online license? I believe you had applied but I’m not sure what the end result was?

Bill Mudd

We were in the process of applying for an affiliate license in the State of Nevada and that’s in process.

Steve Altebrando - Sidoti & Company LLC

Is there a rough timeline that you’re aware of?

Bill Mudd

I’m looking at our General Counsel to make sure I can answer that question.

Alan Tse

We should be sometime this year.

Bill Mudd

In ’13.

Operator

At this time, I’m showing no other questions. I’d like to turn it back to management for any closing statements.

Bill Mudd

Thank you for joining us today. We’ll talk to you guys again in late April. Hope to see you at the annual shareholder meet. Thanks.

Operator

Ladies and gentlemen, this does conclude your conference. You all may disconnect and have a good day.

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