Emerging Company in Multi-Billion Dollar Industry Poised to Benefit from Strategic Growth Initiatives, Improving Japanese Economy
Western investors interested in uncovering opportunities in the Japanese marketplace might first look to the country's celebrated electronics, entertainment or engineering industries - after all, companies like Sony (NYSE: SNE), Nintendo (NASDAQ: NTDOY) and Honda (NYSE: HMC) are global giants for a reason. But, investors who are interested in value as well as leadership may find it even more rewarding to investigate the country's gaming industry. As in the United States, gaming in Japan is enormous - the industry generates over $200 billion in gross wagers annually. Unlike the U.S., however, where the business is generally concentrated in gambling-focused markets, Japanese gaming centers are located in virtually every community nationwide, with small chains and single-location operators accounting for a considerable proportion of facilities. In Japan, gaming establishments can be found on every corner, much like a "Starbucks", as opposed to being relegated to areas like Las Vegas or Macau. These gaming locations, known as pachinko parlors, allow players to play both pachinko, which is played on a device that resembles a vertical pinball machine, and pachislo, which resembles a western style slot machine. In fact, Japan is the world's largest market for slot machines, with 1.4 million slot machines compared to 853,000 in the United States.
The fragmented nature of the Japanese gaming market creates significant opportunity for companies to increase market share through acquisitions and organic growth - typically very appealing prospects for investors everywhere. For American investors, however, there are limited points of entry into the marketplace - with one notable exception: Kinbasha Gaming International, Inc. (OTCQX: KNBA). As the only Japanese gaming security currently traded publicly in the U.S., Kinbasha may be an attractive position for those seeking to benefit from its plans to capitalize on Japanese market dynamics, reinforce a leadership position and build a national gaming franchise in this rapidly consolidating industry.
From a quantitative perspective, Kinbasha offers investors value through a surprisingly low price-sales multiple - the company is currently valued at 0.12X annualized revenue of more than $90 million, while the U.S. gaming industry is valued at roughly 2.2X, according to recent Morningstar valuation data. Importantly, the company couples that with an executional strategy that is designed specifically to grow its multiple, and investment review firm Murphy Analytics suggests it could rise to 0.3X, or as much as three times its current multiple over the next year.
Considering the popularity of pachinko in Japan, such expectations are not unfounded. According to Tokyo's Ichiyoshi Research institute, pachinko is the country's leading leisure industry, which may account for the nearly quarter of a trillion dollars in wagers in 2012. The Wall Street Journal has taken notice, as well, reporting in July 2012 that the pachinko market is five times the size of the Las Vegas gambling industry.
To anyone unfamiliar with pachinko, the game combines the latest in hi-res graphics and sound with a vertical form factor similar to a slot machine, as players attempt to win metal balls in exchange for prizes, such as cigarettes, candy and other merchandise, or a 'special prize' that can be exchanged for money. In parlors across Japan, from railway stations to shopping malls and beyond, players are spending billions of dollars per year mastering the game, making it Japan's largest leisure activity. Despite the industry's size, there are relatively few pachinko operators that have successfully forged national brands. That is what makes Kinbasha attractive to so many - it is executing a forward-looking operational strategy that is consistent with what one would expect from a company seeking to build a larger national presence. With more than $90 million in annualized revenue, Kinbasha's current valuation of $12 million may be due, in part, to a high level of long term debt, which is a common characteristic for many Japanese companies. With the economic effects of the 2011 earthquake and tsunami now behind it, KNBA is implementing a highly detailed plan to strengthen its market position while increasing top line revenue and carefully managing expenses. Progress has been made on the debt front, with KNBA announcing that it reached a $6 million debt settlement agreement with Star Bank this past February, resulting in a net gain of approximately $5.2 million.
Industry-wide trends for performance are also favorable. Key market leaders, for example, have generated an annual average operating margin of more than 19% since 2011, as taken from data reported by Advanced Research Japan, an independent equity research firm specializing in Japanese equities. Due to the compact nature of the parlors and the small footprint of pachinko machines, successful operators can monetize nearly every square foot of space. And since the gaming parlors are open 365 days a year, the cash flow from the business is relatively stable and consistent compared to Western counterparts. Furthermore, unlike locations such as Las Vegas or Atlantic City, there is no special gaming tax imposed on Japanese Pachinko operators.
Kinbasha is keenly aware of market dynamics in Japan - the company has been in business for more than 50 years - and is highly skilled at adjusting its practices to appeal to changing demographics. For example, retirees now make up 25% of Japan's population, and pachinko is increasingly a conduit for socialization. Kinbasha embraces this shift by offering cafes and comfortable seating at many of its locations to make retirees' visits more enjoyable and longer lasting.
KNBA is also actively courting female players, offering the convenience of refrigerators for the temporary storage of groceries at various locations. Parents and couples seeking a bit of downtime on their own can also turn to Kinbasha's parlors, thanks to convenient on-site daycare service.
The company also embraces Japan's unique affinity for advanced technology, most recently highlighted by the rollout of a new smart card system for more efficient game play. This system eliminates the need to physically move metal balls from one machine to the next, not only enhancing convenience for players but also driving revenue by increasing the amount of time players actually spend gaming. The company is even creating a more enjoyable environment for its patrons and employees through the rollout of state-of-the-art ventilation systems that remove unwanted dust and smoke from the gaming floor.
Looking forward, Kinbasha intends to grow from its existing 21 locations by expanding operations into the Tokyo metropolitan market through new stores and accretive acquisitions. Successful implementation of this strategy could potentially generate a double-digit return, raising its valuation to $2.50 per share in the next twelve months, according to Murphy Analytics. That potential may be fueled by Japan's current bullish economic climate, characterized by 'Abenomics' - the new monetary policy, fiscal policy and growth strategies enthusiastically championed by Japanese Prime Minister Shinzo Abe. With optimism about Japan flourishing on the heels of the benchmark NIKKEI INDEX posting its best April in two decades, investors may be drawn to companies like Kinbasha, which offer a combination of both value and long-term growth potential.
For an overview of the pachinko market and Kinbasha's position within it, investors can view the company's latest investor presentation at http://www.trilogy-capital.com/autoir/knba_autoir.html, or they can visit the company's website at kinbashainc.com for more information.
About Kinbasha Gaming International, Inc.
Based in Hitachi City, Japan, Kinbasha Gaming International, Inc. (OTCQX: KNBA) is a retail gaming company that operates 21 pachinko parlors in the Japanese prefectures of Ibaraki, Tokyo and Chiba. For more than 50 years, the company's retail gaming establishments have offered customers the opportunity to play the games of chance known as pachinko and pachislo. Pachinko is played on a device which resembles a vertical pinball machine and pachislo is played on a machine that resembles a western style slot machine. Pachinko and pachislo are collectively ranked as Japan's largest leisure activity. For more information on Kinbasha, please visit: www.kinbashainc.com
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
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