Selling Dover Downs Gaming Following Price Run-Up
- Dover Downs Gaming Reported Only a So-So Quarter.
- Nevertheless, its shares are up almost 50% in just the last 3 months.
- The market appears to be betting on the fact that new legislation will help the company through these tough times.
Just over three months ago, I wrote about Dover Downs Gaming (NYSE:DDE) as a potential value idea. Since then, the stock has run up almost 50%. Considering not much has changed from a business standpoint, I felt it prudent to sell my shares and apply those funds instead to situations where the market is pessimistic rather than optimistic.
Dover reported a year-end quarter that was largely within expectations. Revenue was slightly less than the year-ago quarter while earnings were slightly negative (-0.02 cents/share). For the year, the company generated EBITDA of about $10 million, which was less than last year's EBITDA despite some regulatory benefits of about $1 million/quarter which kicked in half-way through this year.
What I suspect has been moving the price, however, is optimism that the company may receive even more regulatory benefits this year. In the earnings release, management rhetoric was more aggressive than usual in pushing for concessions, with statements like:
"During the year just ended, Dover Downs distributed $92 million to the state, the horsemen and the slot machine vendors."
"The share of gaming revenues we were left with was insufficient to cover all expenses, and as you can see, leaves an otherwise profitable business with a $706,000 loss for the year. "
"Clearly, this demonstrates the irrationality of the current gaming revenue sharing formula and the need for rebalancing. We will continue to make our case for change during the current session of the legislature which runs through June 30."
The state appears to be listening. In January, the state's gaming commission made recommendations to legislators to increase the state's share of vendor costs associated with slot machines, to eliminate the annual table game license fee, to reduce the state's share of table win, and to provide 5% credits of proceeds towards marketing and capex. It's not possible to calculate the exact amount this would benefit Dover Downs, but it's likely to be on the order of several million dollars per year.
But while the market appears happy with the recommendations, they are far from a sure thing. They have yet to be passed by legislators. Because it is difficult to handicap the odds, I decided to take advantage of the optimism and sell my shares.
If the measures don't pass, the downside to the stock is likely to be devastating. Casinos in Delaware continue to have to compete against new casinos popping up in neighboring states such as Pennsylvania. Dover Downs revenue is likely to continue to fall, and it does not have the cash to fight back. Not only that, the company has a $40 million debt liability which is due later this year!
On the other hand, even if the measures pass, the company still has to deal with the debt and the out-of-state competition. While it will see a few more million dollars of cash flow this year, it may choose to or have to spend that money on capex with uncertain returns rather than pay down debt or pay back shareholders. As a result, free cash flow may not grow much at all even if the measures pass!
Overall, I don't like the idea of owning a stock where a big part of the price run-up has to do with optimism of something occurring on which it is difficult to place odds. It's much easier for me to take advantage of the newfound optimism by taking the money and running to an opportunity where no such optimism exists (and is therefore not built into the price).
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