Dave & Buster’s (PLAY) is a full-service restaurant and entertainment business (video arcade, sports viewing), hence the motto 'EAT. DRINK. PLAY. WATCH.'. PLAY became a public company in 2014 and has continued to grow substantially whilst returning capital to shareholders (both dividends and importantly share buybacks).
PLAY's share price has been on a roller coaster ride. Following Q2 2019 results, shares fell ~15% in pre-market trading around $37.00 and I finally initiated my position. At that point, PLAY was down ~15% YTD and almost 50% below the June 2017 and September 2018 peak levels. All this despite the company making continued progress on revenue, EBITDA as well as EPS growth. The market tends to fixate on comparable store sales and sometimes misses the bigger picture. PLAY comparable store sales have always been quite volatile, as illustrated below. Source: PLAY June 2019 Investor Presentation, slide 42
What's important is sales and profitability per venue over a long period of time, and not obsessively focusing on quarterly comparable store sales. And ultimately what matters is per share metrics. PLAY appears cheap from a traditional valuation perspective and also offers significant growth potential: 2-in-1, not easy to find. Based on the revised outlook for net income of $91-100M, PLAY is currently trading at ~13-14 times forward earnings. This low valuation is typically associated with companies experiencing struggling or very low EPS grow. In Q2 2019, PLAY's EPS grew by 7%.
What's more, the company expanded the share repurchase authorization by $200M to $800M, equating to ~50% of the current market cap. Even though in general a lot of share repurchase authorizations expire unused, PLAY has demonstrated it means business. For example, in Q2 2019 alone it repurchased 3.4M shares for approximately $137M, a significant step up from $64M in Q1 2019. In fact, since 2016, PLAY has repurchased shares worth ~$500M, including $29M FY 2016, $152M FY 2017, $149M FY 2018 and more than $200M YTD 2019. To put things into perspective, that is ~$500M in executed buybacks versus a market cap today below $1.5bn, with more to come - e.g. an additional $270M future buybacks remaining under the current $800M authorization. To demonstrate the effectiveness of buybacks, the diluted share count as of 5 August 2018 was 40.3M shares versus $36M shares as of 4 August 2019, a ~10% drop. What's more, the company has provided outlook for fiscal 2019 for a diluted share count of ~34.0M, an additional ~5.5% drop. I expect the share count to keep on falling substantially, with more accelerated buybacks if the share prices remains close to current levels (the lower the share price, the more effective buybacks are).
PLAY will continue to fund buybacks primarily from internally generated FCF. For example, in FY 2018 PLAY generated ~$222M in what the company labeled as "Discretionary Free Cash Flow", calculated as $311M adjusted EBITDA less $13M Cash Tax less $27M debt service less $21M Maintenance less $27M Games / Sustaining Capital Additions. FCF is complemented by $24M in cash as of 4 August 2019 as well as additional liquidity from credit facilities. 2019 FCF remains strong - Q2 2019 adjusted EBITDA was ~$86M versus net interest expense of ~4.6M - and the outlook continues to be robust, in part due to store openings.
No matter how you look at it, the share count will keep on falling, further boosting EPS. What's more, it is important to note that despite a 1.8% drop in comparable store sales, revenue grew by 8% and adjusted EBITDA increased by 4.4%, driven by store openings (number of stores increased 11.1% to 130 from 117). In fact, PLAY has significant store growth potential, with room to almost double the store count in North America to 230-250 stores. This projection includes the new 17K Format which increases brand potential by locating in smaller markets, whilst retaining the key elements of the larger store formats. The significant store growth potential is anticipated to drive revenues and EBITDA for years to come. Source: PLAY June 2019 Investor Presentation, slide 13
Traditionally, store economics have been exceptional, delivering average year-one cash-on-cash returns of more than 50%. In other words, on average, you get more than half of your investment back less than one year after opening a new store. Thereafter, cash-on-cash returns stabilize at attractive, albeit lower levels, following the early hype, 'honeymoon' effect. Over a 5-Year period, PLAY is targeting average cash-on-cash returns in excess of 25%, with increased focus on the new 17K Store Format.
PLAY has created a nice self-funded model and growth plan, with a flexible real estate model (large and small store formats). In addition, PLAY is monetizing its venues with corporate and social special events (representing 9.8% of revenue in FY 2018 and increases off-peak capacity), introducing compelling content (e.g. building a library of virtual reality content like Jurassic World, Star Trek and Men in Black) and enhancing food & beverage (e.g. simplifying the menu; 35% reduction since February 2018, increasing speed of service, upgrading food and hand-crafted cocktails with fresh juices and purees etc). What I also like from the Q2 earnings reports, besides the enhanced buyback program, is that the company has identified ~$15M of gross annualized cost savings, "most of which will be redeployed towards guest engagement initiatives to fuel comp sales growth".
It is clear that PLAY is in substantial growth mode. Significant store growth potential (230-250 stores in North America alone) and attractive store economics combined with significant buybacks, will materially boost EPS. Eventually the share price will follow. It is important to reiterate that company expanded the share repurchase authorization by $200M (to $800M), and the company means business with its buyback program. In fact, since 2016, ~$500M worth of shares have been repurchased, with more buybacks underway, versus a current market cap below $1.5bn. This is substantial and the low valuation is attracting new investors such as HG Vora, the hedge fund, which acquired 2M shares of PLAY during Q2.
PLAY is trading at a cheap valuation (~13/14 times forward earnings) whilst growing EPS at a fairly rapid pace, assisted by hefty buybacks. I have been on the sidelines, but now view PLAY as strong buy. I initiated a notable position in pre-market trading following Q2 2019 earnings at around $37/share, and will build my core position over time, depending on market conditions. In short, you have a growing company with improving financials (revenue/EBITDA) coupled with a lower and lower share count.
Disclosure: I am/we are long PLAY. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.