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Multimedia Games, Inc. (NASDAQ:MGAM)

F4Q 2011 Earnings Call

November 18, 2011 09:00 AM ET

Executives

Jerry Smith – General Counsel

Patrick Ramsey – President and CEO

Adam Chibib – CFO

Analysts

Stephen Altebrando – Sidoti & Company

Todd Eilers – ROTH Capital Partners

Ryan Worst – Brean Murray

Russ Silvestri – SKIRITAI

Operator

Good day, ladies and gentlemen and welcome to Multimedia Games Fourth Quarter 2011 Conference Call and Webcast. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session with instructions following at that time. (Operator Instructions) And as a reminder, this conference is being recorded.

And now, I'll turn the call over to Jerry Smith, General Counsel. Please begin.

Jerry Smith

Thank you. Good morning. Today's call and webcast contains statements about future events and expectations which are characterized as forward-looking statements within the meaning of applicable securities laws including without limitation to Private Securities Litigation Reform Act of 1995. These statements are based on management's current beliefs, assumptions and expectations of our future economic performance, taking into account information currently available to us.

Forward-looking statements involve risks and uncertainties that may cause our actual results, performance or financial condition to be materially different from the expectations of such results, performance or financial condition. Please refer to the Risk Factors section in our current and recent SEC filings for a description of certain of these risks and uncertainties. The company does not undertake and expressly disclaims any obligation to update or alter its forward-looking statements, whether as a result of new information, future events or otherwise, except as required by applicable law.

Today's call and webcast may include non-GAAP financial measures such as EBITDA within the meaning of Regulation G. A reconciliation of non-GAAP financial measures to the most directly comparable financial measures calculated and presented in accordance with GAAP can be found in the company's current and recent SEC filings and can also be found along with today's earnings release on our website, www.multimediagames.com in the Investor Relation section. Financial and operating metrics provided during today's call and webcast may be approximated. Please refer to the company's financial statements as provided in today's SEC filings and earnings release for more definitive numbers.

Now, I'll turn the call over to our President and CEO, Patrick Ramsey.

Patrick Ramsey

Thank you, Jerry, and good morning, everyone. Thank you for joining us on this call. With me here in Austin are Jerry Smith, our General Counsel who recently joined us; and Adam Chibib, our Chief Financial Officer.

This morning we reported fourth quarter revenues of $35.7 million and diluted earnings per share of $0.11 arguably our strongest quarter of the fiscal year and a great lead into fiscal 2012. These strong results are a fitting end to a year in which our company took significant steps forward along many fronts. If you recall, 12 months ago I made out three initiatives that were critical to Multimedia Games in 2011. One, growth in the sale of our own proprietary games; two, increasing the footprint of our own proprietary products with our major customer the Chickasaw Nation; and three, the expansion of our footprint within Oklahoma outside of that major customer. I'd like to provide a bit more detail on each of these initiatives before Adam gets into our detailed financial results.

To begin, this fiscal year we sold 1,150 proprietary MGAM units which represent an increase of 24% year-over-year. This rate of growth seems to indicate that customers are pleased with the product performance of our own games, but there are a few points that are important to discuss regarding that growth. First, those 1,150 units were sold into 13 different states this year as opposed to the 930 units that were sold into only 6 jurisdictions last year. In addition, the State of Washington represented about half of those sales this year versus about 80% last year. Diversification of our revenue base is key for our company so it is important to note that our products are being accepted across many states nationwide.

Additionally, along those same lines, we achieved this sales growth and diversification while only having licenses and approvals to sell into approximately 25% of the United States gaming market. We continue to make great strides on our licensing initiatives and in fact now have 132 licenses and we recently were approved in the State of Nevada the largest market in the country.

Regarding the second initiative, growing our proprietary MGAM footprint within the Chickasaw Nation, we are very pleased with the results we have seen in 2011. Two years ago we only had approximately 680 MGAM Class II games in our Chickasaw footprint. In two short years we have more than doubled the size of our Class II footprint while significantly increasing game performance. The recent extensions that we announced last quarter on agreements with that customer are a strong indication that they are pleased with the product that we are producing out of Austin and we look forward to building on this success.

Finally, I will admit I was a bit off on our third point. Last year I spoke to the importance of expanding our domestic footprint within Oklahoma outside of the Chickasaw Nation and I am happy to report we did have success in expanding this footprint. In fiscal 2011 we added 340 units to our non-Chickasaw Oklahoma installed base, bringing our total Oklahoma installed base up to 7,500 units at year end. However, when I initially discussed this initiative, I was not counting on the fact that our domestic installed base would grow faster outside of Oklahoma than inside Oklahoma. In fact, outside of Oklahoma our domestic installed base grew by over 670 units year-over-year. That growth came from many different jurisdictions literally from Connecticut to California. In fact, our premier tournament product TournEvent is now being played in 13 different states.

The success in these three initiatives coupled with keeping a focus on investing capital and allocating our resources in the right areas has helped us produce the financial results that we announced today and, frankly, the ones that we have been announcing each quarter this year. We grew revenues each and every quarter this year sequentially, finishing this last quarter at over $35 million, the highest I've seen in the last three years with Multimedia Games. We have improved our operating income sequentially for eight consecutive quarters and are finishing this year profitably. Our balance sheet remains healthy and we are poised to continue improving our company and our products throughout 2012.

I will now pass it along to Adam Chibib, our Chief Financial Officer, for details on our fourth quarter and a summary of our year end. Adam?

Adam Chibib

Thank you, Pat. The focus in 2010 was to create great products and to ensure we have a financial foundation to further execute our strategic plan. The focus in 2011 was to use our balance sheet to get our new products in the hands of our customers, grow our top line and return to profitability. We are happy to report that we believe we achieved what we set out to do for the year.

Some of the highlights for the year include, in fiscal 2011 we sold 1,150 units which represents a year-over-year increase of 220 units or approximately 24%. We increased our ending domestic installed base by adding a net 1,131 units leaving our year-end domestic installed base at 9,379 units, which represents a year-over-year increase of approximately 14%. This brings our total revenue shipments for the fiscal year 2011, which includes both units sold and net additions to our domestic installed base, to 2,281 units with the mix of units sold and revenue share units right at 50/50.

For the year, revenue totaled $127.9 million versus $117.9 million in the prior year, an increase of $10 million or approximately 8%. Operating income for the year totaled $6.2 million versus an operating loss of $10.6 million in the prior year, an increase of $16.8 million. And diluted EPS for the year came in at $0.20 versus $0.09 in the prior year. We ended the year with cash balances of $46.7 million and total cash in excess of debt of $9.7 million. Revenues for our fiscal fourth quarter were $35.7 million, an increase of $5.3 million or 17% year-over-year and up $2.3 million or 7% on a quarterly sequential basis. During the fiscal fourth quarter, the company sold 458 proprietary games bringing our total for the year up to 1,150 units.

Revenues generated from unit sales for the fiscal fourth quarter and for the year were $8.5 million and $20.4 million respectively. The year-over-year increase in unit sales revenues was $6.1 million or approximately 42%. The company has now sold products in the total of 13 different states with the majority of the unit sales in fiscal 2011 coming from Washington, California, Oklahoma and Louisiana.

Gaming operations revenues for our fiscal fourth quarter were $25.5 million, an increase of $2.3 million or approximately 10% year-over-year and up $900,000 or approximately 4% on a quarterly sequential basis. Gaming operations revenues for the year totaled $95.5 million, up $2.7 million or approximately 3% on a year-over-year basis. The majority of the growth in gaming operations revenues came from California, Washington, New York and the Midwest region. These gains were partially offset by lower revenues in Mexico and Alabama, which declined by approximately $4.7 million year-over-year.

Gross margins for the fiscal fourth quarter and for the year on our total business were approximately 81% and were consistent with the prior year fiscal fourth quarter and year. Selling, general and administrative expenses for our fiscal fourth quarter totaled $10.8 million, an increase of nearly $700,000 or approximately 7% year-over-year.

For the year, SG&A expenses totaled $42 million or 33% of total revenues versus $39.3 million or 33% of total revenues in the prior year. The year-over-year increase in SG&A is primarily related to higher salaries and wages as the company added sales and service resources in newly entered markets and higher sales commissions associated with higher unit sales.

Write-offs, reserves, and impairments, and settlement charges for our fiscal fourth quarter totaled $1.2 million, which is consistent with the prior year fiscal fourth quarter. The fourth quarter charges related to increased reserves for slow moving inventory and then write-off of older un-deployed cabinets and components. For the year, write-offs, reserves, impairments and settlement charges totaled $2 million, down approximately $3 million or approximately 50% year-over-year.

Research and development expenses for our fiscal fourth quarter totaled $3.2 million, which is consistent with the prior year period. For the year, research and development expenses totaled $12.9 million, up $800,000 or 7% year-over-year. The year-over-year increase in research and development expenses related to higher average head count throughout fiscal 2011 versus 2010.

Depreciation and amortization for our fiscal fourth quarter totaled $10.4 million, a decrease of $1.2 million or approximately 10% year-over-year. For fiscal 2011, depreciation and amortization totaled $41 million, a decrease of $10.6 million or approximately 21% year-over-year. The decrease in depreciation and amortization is related to lower capital expenditures over the last several years.

EBITDA for our fiscal fourth quarter totaled $15.6 million, an increase of $4 million or approximately 35% year-over-year. For fiscal 2011, EBITDA was $55 million, an increase of $7.5 million or approximately 16% year-over-year. For the fiscal fourth quarter, the company reported operating income of $3.3 million versus an operating loss of $1.5 million in the prior year period.

Earnings per share for the fiscal fourth quarter was $0.11 per diluted share versus $0.43 per share in the prior year period. The prior year fourth quarter earnings per share of $0.43 included a onetime tax benefit of $0.50 per share. For fiscal 2011, the company reported earnings per share of $0.20 per diluted share versus $0.09 per diluted share in the prior year.

Turning to the balance sheet, the company ended the year with $46.7 million in cash and $37 million in debt resulting in a $9.7 million of net cash. Net capital expenditures for the year totaled $37.4 million, a year-over-year increase of $11.6 million. The increase in capital expenditures was primarily related to the increase in our domestic footprint of revenue share machines which grew by over 1,000 units in fiscal 2011.

Free cash flow, which is defined as cash flow from operations less net capital expenditures, was $31.2 million for the year. This includes the benefit of an $18.1 million tax refund from the U.S. Treasury Department.

Looking forward to 2012, the company expects moderate revenue growth for the year over 2011. Unit sales are expected to increase 10% to 15% and we expect our domestic installed base to grow modestly.

The growth in unit sales and the growth in our domestic installed base were partially offset by expected declines in revenues from Mexico of approximately $3 million and an expected decline in revenues recognized from deferred revenues of approximately $5 million. We expect slight increases in SG&A and research and development as we added to our sales and service teams in new jurisdictions.

We expect fiscal 2012 earnings per share to range from $0.23 to $0.26 per diluted share and we anticipate we will generate free cash flow at least equal to fiscal 2011 levels after adjusting for the $18.1 million tax refund recorded in fiscal 2011.

We are pleased with the progress we made in the year. And I'll now turn the call back over to Pat. Pat?

Patrick Ramsey

Thanks, Adam. Looking ahead to 2012, we plan to grow again on the top line and continue to improve our profitability as we invest back into our business and R&D. So, what are the keys to look for? First, we are looking to expand the domestic Multimedia Games footprint again which means we plan to sell more games and continue to add to our domestic installed base in 2012. As we have done in the past, we will continue to provide details on our sales effort each quarter.

Second, we plan to continue strengthening our relationship with our largest customer in Oklahoma. To do this we plan to continue to increase the number of successful proprietary Class II games in that footprint. Third, we are intensely focused on continuing to grow our profitability year-over-year. Our sales and our gaming operations revenues from both Oklahoma and other jurisdictions are critical, but there are other significant components as well. After the successful opening of the first phase of the Resorts World Casino in Queens, New York last month and with the continued momentum in that business segment we expect that this will fuel our central determinant system business in New York which will in turn be another key factor in our growth. And of course we will continue to diligently manage our operating expenses, our capital investments and our declines in Mexico in order to ensure another successful year for our company.

Finally, we plan to continue to build our technology and games so that we can successfully enter more jurisdictions in 2013 and beyond including Nevada among others. The Multimedia Games team is excited about the success and growth we have seen in 2011 and therefore we are entering 2012 with an optimistic outlook for our company.

Having said that, I will now open it up to Q&A. Operator?

Question-and-Answer Session

Operator

Thank you. (Operator Instructions) Our first question is from Steve Altebrando of Sidoti & Company. Your line is open.

Steve Altebrando – Sidoti & Company

So the guidance you provided, certainly upside to where we were, but a pretty narrow range. I wanted to see if you could give some, I guess, your visibility into the business and maybe you talk about some variables that would possibly lead to some upside or downside to that estimate?

Adam Chibib

Well, as you know, about 75% of our revenues come from the recurring revenue footprint which is somewhat easier to predict than other parts of our business. The variables that would impact that number up or down obviously are unit sales and the pace of growth of that domestic installed base. So on one hand, the 75% is a good predictor of the future book of business, however, as we all know, things can change rapidly in that. And I think, like I said earlier, the key is the unit sales and where they come in for a quarter and the extent that we accelerate those in 2012.

Patrick Ramsey

And yeah, I'll add two more; we touched upon the decline in Mexico as well. So we continue to monitor that and work with that, but that's a variable as well. And remember, it was just a few weeks ago that we opened up the casino in New York and it's not even fully opened, so another factor as well.

Steve Altebrando – Sidoti & Company

Okay. And then, in terms of your approval of your platform in Nevada, it's still too early to have an update and then if you could just remind me what other markets that would open you up to?

Patrick Ramsey

Yeah, it's a bit too early now to really talk about Nevada. We're still working on the platform and still working on approval. And that opens up to a number of key Class III jurisdictions. Offhand I believe Illinois is one of them, I don't want to go down the list because I'm not entirely sure about the technical requirements of each state but several of the major commercial jurisdictions in Class III that we have on the horizon both from a licensing perspective, it will open us up for.

Steve Altebrando – Sidoti & Company

Okay. And last one, CapEx I guess was a little bit higher than what I expected because you also guided modest installed base growth and it just seems like I guess kind of a large number. It looks to me would turn over about half your installed base, if you could just provide some color on that?

Adam Chibib

Sure. We're still building out infrastructure for the New York lottery so that's one component of it. The second component of it. The second component of it is what Pat alluded to, which is getting our Class II games into our major customers' footprint so that's a lot of replacement games that we do when we take off either our older games or our third-party older games and put some of our new stuff out there. Those are the two major components of what's driving CapEx in 2012.

Operator

Thank you. Our next question is from Todd Eilers of ROTH Capital Partners. Your line is open.

Todd Eilers – ROTH Capital Partners

Hi. Good morning, guys. Let's see, several questions, first on game sales; obviously, very strong in the quarter and you mentioned some metrics with respect to the Washington and TournEvent on, I think, a full-year basis, but could you give us an indication of how much of your unit sales came from the state of Washington in the quarter? And, as well, can you maybe give us a sense for how many of your unit sales were related to a TournEvent placement?

Adam Chibib

Yeah, so for the quarter a little bit less than about 40% of our unit sales came from the state of Washington in the fourth quarter and, like Pat said, about 50% for the year. For the full year, TournEvent sales was about 25% of our total unit sales for the year.

Todd Eilers – ROTH Capital Partners

For the full year, TournEvent was 25%?

Adam Chibib

For the full year, yes. I don't know about on the fourth quarter specifically but for the full year it was about 25%.

Todd Eilers – ROTH Capital Partners

Okay. And then, I think in the press release and your comments you also mentioned that some of the new markets that you sold into in the fourth quarter, Iowa and Indiana were two of those. Were those commercial casino sales into those markets?

Patrick Ramsey

Yes, they were.

Todd Eilers – ROTH Capital Partners

Okay.

Patrick Ramsey

That's right.

Todd Eilers – ROTH Capital Partners

All right, I guess I missed that; I didn't realize you guys had received licenses in those markets yet. Okay and then with respect to guidance, I guess that was my other question, is what does that assume in terms of what's the addressable market assumption in that guidance? I'm assuming you expect maybe some Nevada in the back half of the fiscal year, but any other color you can provide on that in terms of new commercial markets that you would expect to be selling into this coming fiscal year as well.

Adam Chibib

Yeah. First of all, we have been pretty consistent about not expecting any Nevada sales in 2012. So, we have zero in our forecast for that, we want to make sure that we get through the process as elegantly as possible and don't rush it so we've got zero unit sales expected in Nevada for fiscal 2012. As far as other markets go, we plan to penetrate the ones that we just recently dipped our toe in and perfect examples are Indiana and Connecticut and Louisiana. Some of those markets where we have not sold that many units, we plan to penetrate those further. And we will add a couple more states in fiscal '12, but I think the major driver of the FY '12 plan is just further penetration into existing markets.

Todd Eilers – ROTH Capital Partners

Okay. That's helpful. And then I guess moving on to the gaming operations side, obviously, there is some nice growth in the domestic unit placements there. Can you give us a sense and I think in the press release you guys mentioned California and Oklahoma, I believe, as good markets where you saw some growth. Can you give us a sense for what types of games is leading to that growth? Are they Class II placements or Class III? Are they premium leased product or are they the games that you otherwise would sell but maybe your customers would rather have a lease? Just any color on that would be helpful also.

Patrick Ramsey

Yeah, the majority of that growth really has been Class III. I think where the biggest transition has taken place from Class III to II, as you know, is in Chickasaw Nation. We do have some Class II. And we have expanded our footprint elsewhere outside of Oklahoma in some other states but for the most part you had mentioned premium games. They are really some of our standard, mechanical video games where customers have decided to lease and not buy.

Todd Eilers – ROTH Capital Partners

Okay, great. And, then last question on the installed base. I think you guys had mentioned that of the domestic units installed at the end of the period, you had 7,500 units in Oklahoma. Was that correct?

Adam Chibib

That's correct.

Todd Eilers – ROTH Capital Partners

Okay. Can you give us a sense on, if you have the breakdown with you, but how much of that Oklahoma footprint is Class II versus Class III?

Adam Chibib

Yeah, of that 7,500, about 1,600 is Class II.

Todd Eilers – ROTH Capital Partners

And, do you also have maybe a total Class II for domestic as well, which would include outside of Oklahoma obviously?

Adam Chibib

Yes, total Class II footprint which includes the 1,600 I just told you between 3,000 and 3,100.

Todd Eilers – ROTH Capital Partners

Okay, perfect. And, then last question, on the CapEx guidance for this next fiscal year, does that assume any placement fees for the renewal of any development agreements?

Adam Chibib

No. That's strictly CapEx.

Operator

Thank you. (Operator Instructions) Our next question is from Ryan Worst of Brean Murray. Your line is open.

Ryan Worst – Brean Murray

Just a couple of questions, do you guys have the revenue generated from games in Mexico for the quarter?

Patrick Ramsey

Yes. Adam.

Adam Chibib

Mexico for the Q4 was about $1.5 million.

Ryan Worst – Brean Murray

Okay, great. Thank you. And then, Pat, could you just talk about what you're seeing in the December quarter so far, specifically in Oklahoma in terms of just trends and revenue?

Patrick Ramsey

Oklahoma continues to perform well. We are only 45 days into this quarter but trends continue to remain pretty strong. Oklahoma has done pretty well. Not only Oklahoma, but I think our major customer was performing very well and doing a great job as well. So that's what we are seeing. No significant difference from the past few quarters.

Ryan Worst – Brean Murray

Okay, great. And so, year-over-year, I think Adam mentioned several jurisdictions in the gaming ops that were up. Was the Oklahoma footprint also up year-over-year in terms of revenue?

Patrick Ramsey

In terms of revenue, Oklahoma?

Adam Chibib

Yes, I think every market in our portfolio with the exception of Mexico and Alabama were up in 2011 over 2010.

Ryan Worst – Brean Murray

Okay. And then your ASPs in the fourth quarter were a bit over $14,000. Now that some of that deferred revenue has dropped off, is that a good rate for ASPs going forward?

Adam Chibib

I think they were a little bit higher than that. I think what it's probably more $15,000 to $16,000 is probably the right number, Ryan.

Ryan Worst – Brean Murray

Okay, great. Thank you. And then, Adam, tax rate as well going forward?

Adam Chibib

Next year is about 10% is what we're still in a pretty big NOL position and don't expect to pay federal income taxes at a very high rate, but we also have international taxes. So, about 10% is probably the right number.

Ryan Worst – Brean Murray

Okay. And then when you talk about free cash flow, Adam, does that include advances and repayments for development agreements or not including that?

Adam Chibib

That does not include that.

Ryan Worst – Brean Murray

Okay. And, then I was just wondering if you'd...

Adam Chibib

Go ahead. A bit more out.

Ryan Worst – Brean Murray

Okay. And, then CapEx for Aqueduct, how much do you guys need to spend in total for that opening?

Adam Chibib

It's not too much. It's probably for fiscal 2012, it's not just Aqueduct, it's all the other locations as well, just general refresh for the whole system. It's probably a couple of million bucks or so.

Operator

Thank you. Our next question is from Russ Silvestri of SKIRITAI. Your line is open.

Russ Silvestri – SKIRITAI

Good morning, Patrick. Could you just walk me through the economics in what happens in a Resorts World for you folks?

Patrick Ramsey

From our perspective?

Russ Silvestri – SKIRITAI

Yes, please.

Patrick Ramsey

Yeah, we get approximately 0.8% of gross revenue, right around there. Is that what you're asking basically?

Russ Silvestri – SKIRITAI

Yeah, maybe if you would go through it a little bit more and then what are your costs associated with that? Just trying to understand the profitability.

Adam Chibib

Sure, the cost for the whole book of business or just for the cost of opening up Aqueduct or both?

Russ Silvestri – SKIRITAI

I guess more on an ongoing basis, I think I read somewhere they did like $14 million in the first whatever, few days there?

Adam Chibib

Right. So, for Aqueduct specifically, other than the CapEx that we had to put into the facility and obviously labor getting it up and running, the ongoing support directly for Aqueduct is probably four or five technicians, which isn't too significant. Beyond that, obviously, we have support in Austin (inaudible) and support in New York for the (inaudible) but didn't add any incremental cost to open up that facility. So, it's really just four or five technicians on the ground 24x7 in that property.

Russ Silvestri – SKIRITAI

So, if I look at the gross margins in terms of the contribution from Aqueduct...?

Adam Chibib

It's pretty high flow-through; it's probably 80% at least.

Operator

Thank you. There are no further questions at this time. I'd like to turn the call over to management for any closing remarks.

Patrick Ramsey

Thank you, operator. Thanks to those who joined us on the call. And, this concludes our fourth quarter earnings update. Thanks a lot.

Operator

Ladies and gentlemen, thank you for your participation in today's conference. This concludes the program. You may now disconnect and have a wonderful day.

Patrick Ramsey

Thank you.

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