Churchill Downs Incorporated Q2 2008 Earnings Call Transcript

Aug.29.08 | About: Churchill Downs, (CHDN)

Churchill Downs Incorporated (NASDAQ:CHDN)

Q2 2008 Earnings Call Transcript

August 6, 2008 9:00 am ET


Kevin Flanery – SVP, National Public Affairs

Bob Evans – President and CEO

Bill Mudd – EVP and CFO


Steve Altebrando – Sidoti & Co.


Good day, ladies and gentlemen, and welcome the second quarter 2008 Churchill Downs earnings conference call. My name is George and I will be your coordinator for today. At this time, all participants are in listen-only mode. We will be facilitating a question-and-answer session towards the end of this conference. (Operator instructions) As a reminder, this conference is being recorded for replay purposes.

I would now like to turn the presentation over to your host for today's conference. Mr. Kevin Flanery, Senior Vice President. Please proceed, sir.

Kevin Flanery

Thank you. Good morning and welcome to this Churchill Downs Incorporated conference call to review the company's results for the second quarter of 2008. 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 periods to be presented in this conference call, including any information required by Regulation G, is available at the section of the company's website entitled ‘Company News,’ location at Let me also note that a news release was issued advising the acceptability 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 company with the Securities and Exchange Commission for a discussion of additional information concerning factors that could cause our actual results of operation to differ materially from the forward-looking statements made in this call. The information being provided today is as 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 in expectations.

Members of our executive team are here and will be available to answer questions after some formal remarks. We'll begin now with our President and Chief Executive Officer, Bob Evans. Bob?

Bob Evans

Thanks, Kevin, and good morning, everyone. Thanks for joining us today for this discussion of our financial performance during the second quarter of 2008. I'd like to make a few comments about our results to start things off, then I’ll turn it over to our Chief Financial Officer, Bill Mudd, who will take you through the numbers in more detail.

But before getting to that, as we previously reported, Ken Dunn's last day with Calder Race Course was last Friday, August 1. Ken was our President at Calder. I want to thank Ken for his years of outstanding service to Calder and to Churchill Downs, and to horse racing, particularly in south Florida. All of us at Churchill Downs Incorporated wish Ken the very best in his future endeavors.

In these quarterly conference calls, I try to limit my comments to what I consider the five most important things I think you would want to know about our business. For those of you that have read our press release or our 10-Q filing you know that we have redefined our segment reporting starting this quarter. We hope this new format gives you greater insight into the company's performance, and Bill will spend a little bit more time on the new segment reporting in his comments.

So, what are the five most important things that I think you should know about our second quarter results? First, overall company performance is solid. Despite high gas prices, declining consumer confidence, and disputes with horsemen in Florida and Kentucky, revenue increased 6% in the second quarter. Reported EBITDA was up 4% and net earnings were essentially flat. Considering that the disputes with horsemen cost us about $4 million in EBITDA, I believe our core business is performing quite well in a difficult economic and industry environment.

After capital spending and after the payment of dividends, we have generated $62 million of cash flow so far this year in the first six months, $43 million more than during the first half of 2007. And we have used that cash to pay down the long-term debt that we had on the books to $10 million at the end of the second quarter.

Second thing I think you should know is that things are tough in the U.S. thoroughbred racing industry and certainly we haven't escaped that trend. EBITDA from our Racing Operations at Arlington, Fair Grounds, Calder, and Churchill were down $2.4 million from the second quarter of 2007. A portion of this decline is attributable to the various disputes with horsemen, which I will discuss shortly. The financial impact of those disputes, however, was offset by the Oaks and Derby at Churchill Downs, where EBITDA increased $3.3 million over 2007.

Note that in our first quarter conference call comments, we indicated that our preliminarily numbers for the Oaks and Derby showed a $3 million increase. Once we had final numbers, the increase was $3.3 million.

I think it's fair to say that thoroughbred racing across the United States is having a very tough year. Nearly all tracks with meets ending so far this year have reported declines in handle. And total U.S. thoroughbred handle through the first six months of this year, according to the Jockey Club, was off 3.7%.

Important issue number three. The dispute with Florida horsemen over the Calder slots agreement cost us about $3 million in EBITDA in the second quarter. We've reached agreement with Florida horsemen on the slots agreement in early July just after the second quarter ended, which allowed us to resume transmitting the Calder signal to simulcast outlets around the country. We're currently negotiating a slots agreement with the Florida Thoroughbred breeders. Our intent throughout has been ensure that we can build a slot operation at Calder that will serve what our internal analysis and outside consultants have determined as our primary customer market, and to do so at an acceptable return on capital.

Now the Florida gaming statute requires that we have a slot agreement with both the Florida HBPA and with the Florida Thoroughbred breeders, but it does not require our slot competitors to make any payments to jai-alai, greyhound, or harness racing purses. So, we have to make sure that we get the underlying business model right to enable us to compete successfully in that market.

Now I'm not being critical here because it's always much easier to be the second one to act. But as we have seen with Gulfstream, the wrong facility built on top of the wrong economic model doesn't produce favorable financial results for anyone, neither the track nor horsemen. As we said in our July 7th press release, we anticipate that the Calder slots operation may generate potentially $50 million in purses for Calder horsemen over the term of our agreement.

Important point number four. We were not able to finalize advance-deposit wagering, or ADW, agreements with Kentucky or Florida horsemen during the second quarter. As a result, there was no ADW wagering on Calder Race Course or on Churchill Downs other than on the three races, the Oaks, the Derby, and Woodford Reserve at Churchill on Oaks/Derby weekend.

While the combined effect on our Racing Operations at Churchill and Calder was about a $1 million reduction in EBITDA, the boycott by horsemen had very little impact on simply marketed the tracks that made their ADW signal available. handle on Belmont Park and Hollywood Park, for example, were up significantly in the second quarter. And I will have a bit more on Twin Spires in just a moment. But similar to the Calder slots agreements dispute, what we're trying to ensure with TwinSpires is that its fundamental business model remains sound.

The details of the ADW business are complex, but the big picture perspective is not. Customers want to wager via ADW operators. Over what is now decades, betters have shifted their wagers from on-track to OTBs, and now to ADWs. Nobody is making them do this. They choose to do this on their own. U.S. handle via ADWs has grown from very little in 2000 to around 1.5 billion today, and ADW was the only channel through which wagering on U.S. thoroughbred racing is growing. It seems quite short-sighted to us to make our ADW channel unprofitable as the horsemen's demands for a 40% larger share of the take-out pie would do. Hence, the ADW signal pricing dispute.

Meanwhile, our Online Business segment second quarter EBITDA of $1.5 million was $3.1 million higher than last year's second quarter where we recorded a loss as we launched TwinSpires a year ago. Since we only owned the AmericaTab and Bloodstock Research companies for about three weeks in 2007 second quarter, year-over-year comparisons are not meaningful. So what I will report here is that handle grew sequentially in the second quarter by 12% over the first quarter 2008 level.

When where we acquired the A-Tab and BRIS companies last June, we said in our press release at that time that we expected to generate $175 million in handle and $43.6 million in revenue in 2008 from the ADW portion of our Online Business segment. At the mid-year point in 2008, handle is $130.4 million and revenue is $25.9 million, and we just completed July where handle was up 36% over July of 2007.

The last and fifth point is that Gaming is going great. EBITDA from our Gaming operations increased $1.9 million or 69% over 2007's second quarter. This includes both our 245-machine temporary slot operation at Fair Grounds and our video poker business at OTBs in and around New Orleans. Our net win per unit at the temporary slot operation was $214 in the second quarter, well above our plan. And construction of our permanent slots facility at Fair Grounds is currently on budget and on schedule to open later this year.

Our video poker business was strong with revenue up 9% over second quarter 2007. We are quite aware that the US casino gaming business has been pretty soft so far this year, and we have been expecting some slow down in both our slots and video poker operations, but that hasn't materialized at this point. We have contributed to purses through our temporary slots operation at Fair Grounds and from, and we anticipate that these contributions should only grow in the second half of 2008 and into 2009 and 2010 as the permanent slots facility at Fair Grounds comes on line and as we start up our Calder slots operation in the second half of next year as currently anticipated.

Let me turn this over to our CFO, Bill Mudd, who will give you a bit more insight on our reported financial results and then I will be back with a couple of concluding comments. Bill?

Bill Mudd

Thank you, Bob and good morning, everyone. I will be reviewing the information as set forth in the tables of the press release that can be found under the ‘Company News’ section that Kevin referred to earlier, which is on our website, and then, as Bob mentioned, I will turn it over to him for final comments.

As a reminder from our previous calls, the discontinued operations section of our financial statements and tables contain the operations of tracks which we have sold, including Hoosier Park, Ellis Park, and Hollywood Park. My comments will focus on our operational performance from continuing operations for the second quarter of 2008.

During the second quarter, the company redefined its segments to more properly reflect recent growth and align with our new internal operating structure. All prior period segment information has been reclassified to conform to the current period's presentation.

The company has determined that it currently operates in the following four segments. The first segment is Racing Operations, which includes Churchill Downs Racetrack, Calder Race Course, Arlington Park, and its 11 OTBs, and Fair Grounds Race Course and pari-mutuel activity at its 10 OTBs. The second is our Online Business, which includes, our ADW business, and BRIS, as well as the company's equity investment in HRTV. The third is Gaming, which includes video poker and slot operations. And the fourth is Other Investments, which includes our Churchill Downs Simulcast Productions company, as well as the company's other minor investments.

Now please turn your attention to the segment information, which is contained on the schedule titled ‘Supplemental Information By Operating Unit’ for the three months ended June 30, in the press release. Churchill Downs Racetrack net revenues from external customers grew $2.1 million for the quarter, driven by attendance-based revenues related to the Kentucky Derby week. Churchill also had one extra day of live racing. However, these increases were partially offset by lower pari-mutuel revenue, driven by the Kentucky horsemen with voting consent to distribute the signal to ADW companies, as well as Florida simulcast outlets. Certain ADW companies were allowed to take wagers on the Derby, Oaks, and Woodford Reserve, as Bob mentioned earlier, races through Churchill's rights established in a preexisting contract with horsemen.

Calder's revenue from external customers dropped $8.1 million or 31% on a handle decline of 47% for the quarter. This reduction is primarily the result of the FHBPA withholding consent to export the signal outside of the state of Florida. In addition, certain horsemen's groups from other states, including Kentucky, did not allow consent to send those signals – to not allow consent for those signals to be imported into the state of Florida. Calder also ran three fewer race days than the previous year.

Our Online Business increased primarily as a result of the acquisition of A-Tab and BRIS, and the launch of in 2007. Gaming revenues increased primarily as a result of our temporary slots facility that is exceeding our expectations with the net win per unit per day of $214. We believe this is excellent performance when you consider the limited hours of operation and restricted access to parking during the two weekends of Jazz Fest.

Our video poker business also saw an increase of 9% in revenue as a result of opening of a new facility in Gutae [ph] Louisiana, increases in machine count slot locations, and an installation of new jackpot chips which are in high demand. In total for the quarter, our net revenues from continuing operations grew by 6% over the prior year to $179.3 million.

Now, dropping down to the EBITDA section at the bottom of that page. EBITDA from continuing operations for our racing operations segment decreased $2.4 million or 4% versus prior year. As Bob previously mentioned, the dispute over the slots and purse agreements with the FHBPA impacted our ability to export the Calder signal outside of the state of Florida. This, coupled with Churchill Downs not being allowed to export their signal into Florida because the KHBPA withheld consent, cost us approximately $3 million in EBITDA for the quarter.

Additionally, our ability to distribute our Calder and Churchill signals to ADW providers had an impact of approximately $1 million in EBITDA in the Racing Operations segment. The Kentucky Derby week continues to show extremely good results. This year EBITDA increased by $3.3 million over last year's performance. Also as a reminder in second quarter of 2007, Arlington recognized a one-time gain of $1.7 million on the sale of land at Quad City Downs.

Our Online Business, which includes ADW platform Twin Spires, our data business BRIS, and our equity investment in HRTV, generated EBITDA of $1.5 million for the quarter.

Our Gaming business generated $4.7 million in EBITDA, an increase of $1.9 million or 69%. This increase is primarily driven by our temporary slots facility at Fair Grounds, but also from revenue increases in our video poker business, previously mentioned.

Total EBITDA increased by approximately $2.5 million or 4% versus prior year as gains in our Online Business, Gaming operations, and Derby week performance were partially offset by losses attributable to horsemen disputes and one-time gains in 2007.

Now let's take a look at the condensed consolidated statements of net earnings. Net revenues from continuing operations are up 6% as we just discussed. Operating expenses are up in line with revenues while SG&A is up 4% or $0.5 million. The SG&A increase is driven by our entry into the Online and Gaming businesses, as well as increased spending on marketing initiatives.

At the operating profit line level, the second quarter result of $51.1 million is up $2.8 million or 6% over last year. Interest expense decreased as cash flow generated over the last year was used to pay down borrowings related to the acquisition of AmericaTab and BRIS. Equity losses in unconsolidated affiliates increased primarily as a result of our interest in HRTV. Net earnings from continuing operations were flat to the prior year at $29.4 million.

As you probably remember, the partnership interest purchase agreement with Centaur Racing LLC for the sale of company's interest in Hoosier Park last year included a contingent consideration provision for up to $15 million should slot machines become operational at Hoosier Park. During June of 2008, Hoosier Park commenced its slot operations, fulfilling the terms of the contingency provision. Under terms of this agreement, the cash would be due in December of 2009. We have determined that collectability is not reasonably assured and therefore we have not recognized the amount due under this agreement. Amounts due will be recorded as a gain on the sale of Hoosier Park, once collectability is reasonably assured.

Now turning your attention to the condensed consolidated balance sheet, I will briefly review a few variances. The biggest driver of changes in our accounts receivable, accounts payable, and accrued expense balances are driven by our racing calendar and the timing of pari-mutual-related settlements. Income taxes receivable were replaced with income taxes payable, consistent with the seasonality of the company's earnings.

Net additions to plant and equipment increased primarily as a result of spending related to our permanent slot facility at Fair Grounds and investments in new features for our ADW platform.

Goodwill increased due to the accrual of earn-out payments related to the acquisition of A-Tab and BRIS, as discussed in our first quarter conference call.

Deferred revenue decreased due to the recognition of advance billings related to the 2008 Kentucky Derby and Spring Meet at Churchill Downs.

Long-term debt decreased due to payments under our bank revolver, arising from cash generated by operating activities.

In summary, we're very pleased with our second quarter performance. Despite a tough economic and industry environment, we grew our revenue and pre-tax operating profit. Our temporary slots operation continues to exceed our expectations. Our Online Business continues to grow quarter-over-quarter. And we've executed another successful Derby week. Year-to-date net cash provided by operating activities is $85 million, and we have paid down our long-term debt to $10 million, strengthening our already solid balance sheet.

That concludes my comments. I will now turn it over to Bob for some final thoughts.

Bob Evans

Thanks, Bill. We have fairly decent visibility to potential growth through 2010, barring of course any unforeseen developments. We expect to continue to expand as wagering through the ADW channel continues to grow. And we hope to grow our ADW market share as well. With the opening of the permanent slots facility at Fair Grounds later this year as planned, we should realize the full-year effect of the planned 600 machines in 2009. And we have the possibility of expanding that up to 700 machines at a future date. And if we're able to reach a slots agreement with the Florida breeders, we plan to open the Calder slot facility in the second half of 2009 with the full-year effect in 2010.

Finally, we believe we can continue to grow the financial contribution of our two strongest franchises, the Kentucky Oaks and the Kentucky Derby. Finally, we will continue to work to reduce our cost structure and improve our margins. So far this year we have identified and acted upon labor, and purchased goods and services, and savings projects that will reduce our annual cost structure by $2.7 million and we're not finished with that.

We are moving from an organization that managed its costs on a periodic, as-needed basis to one that works to reduce costs on an ongoing basis as part of daily jobs.

We'll now be happy to take your questions. George, the operator, if you could see if anyone is out this there. Thanks.

Question-and-Answer Session


(Operator instructions) And our first question comes from the line of Steve Altebrando from Sidoti. Please proceed.

Steve Altebrando – Sidoti & Co.

Hi, guys. How are you?

Bob Evans

Good, Steve.

Steve Altebrando – Sidoti & Co.

Just a few questions. Do you have a rough budget on the Florida slots project?

Bob Evans

We have got a very detailed budget. But as we have been saying all along now, I don't really want to announce any of those plans publicly until after we get all of the required approvals from horsemen and breeders in Florida.

Steve Altebrando – Sidoti & Co.

Okay. I apologize, I jumped on a little late, I apologize. I missed a couple of things. But, do you have the segment information by property? Or are you no longer providing that?

Bill Mudd

We're providing the revenues for each of the racetracks and then the EBITDA for total racing operations. And that’s consistent with the way we're running it internally. We are, as Bob mentioned in his closing remarks, we're working to be more efficient across all of our properties. And as part of that, it's leveraging some of those cost synergies across properties. So, while we can see the revenue at top line, we're not disclosing property level information because of some of those changes.

Steve Altebrando – Sidoti & Co.

Do you have it available and you are just not disclosing it? Or is it just no longer accounted in that manner?

Bill Mudd

We still have it internally, but I think it's going to continue to gray over time because of things we're doing across properties. But we are not disclosing.

Steve Altebrando – Sidoti & Co.

Okay. I would just say I mean for most investors' values industry based on properties and you are pretty much the only one now that’s not giving individual property-type results. I mean I just question why that is? I think it decreases the visibility a little bit into your earnings.

Bill Mudd

Okay. I understand your comment, and we’ll – we’d consider that, Steve. And the way we're managing it internally is the way that we're disclosing it externally. So–

Steve Altebrando – Sidoti & Co.

Okay. In the Online segment, does that include HRTV?

Bill Mudd


Steve Altebrando – Sidoti & Co.

Okay. And then the last one. If you could talk a little – and I might have missed this part, too, but the New Orleans facility, how many slots you are going to open with? And I guess a little bit of color on how you think demand levels will be if you think there is demand for greater – the current 200-machine level or 250?

Bill Mudd

Right. Well, I mean if you look at how the performance has done and it has exceeded our expectations, granted with the fewer number of machines. We currently have 245 with the facility, we're opening a permanent facility in the fourth quarter of this year. That will go to 600 machines. And based upon the gaming study and the local population and demand for gaming facilities, we still feel that is appropriate number of machines. And the other way to think about Gaming is, you're going to have excess capacity on days of the week that are smaller than other days of the week. If you go there on peak demand, there are lines waiting for people to use machines. So, that’s what we're scaling to – is that increment return on investment. Having machines available during peak times, but not too many.

Steve Altebrando – Sidoti & Co.

Okay. Thank you very much.

Bill Mudd



(Operator instructions) There are no questions at this s time.

Bob Evans

All right – George?


Yes, there are no questions at this time.

Bob Evans

Okay. Well, thanks very much. Thanks everyone for joining us. We must be getting better at explaining this, because the numbers of questions keeps falling. So, either we're getting good or you guys aren't as sharp as you used to. In any event, thanks very much for joining us today and look forward to talking to you in another three months. Bye-bye.


Ladies and gentlemen, thank you for your participation in today's conference. This concludes the presentation. You may now disconnect. Good day.

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