PENN - PENN Entertainment: Watch August 9th Earnings For An Unpolished Gem Story

2023-07-21 14:48:21 ET

Summary

• We have set strong upsides for PENN Entertainment, Inc. for at least six months, but Mr. Market has reservations. We know why.
• The stock is trading at book value per share which enhances its attraction to seekers of value and margin of safety.
• This near $7b U.S. regional gaming leader has embarked on a cutting edge system to create a customer ecosphere for live and digital.

"When do you notice a pin the least? When it is in a pin cushion…." Hercule Poirot in ABC murders.

Given the continuing stubbornness of Mr. Market to turn sentiment positive on the shares of PENN Entertainment, Inc. ( PENN ), we once more embark on an uphill battle to shine our loupe on what we believe to be an uncut gem. The market still disagrees, seeing the stock as a zircon at $27.42 a share at this writing. Not that there isn't what appears to be a cogent rationale that keeps the stock dead-pooled in the twenties.

Until 1Q23 , the earnings and sales growth numbers appeared to evoke little more than a puzzled shrug from investors. In the thrust of early post-covid recovery, when the Las Vegas strip was breaking historic gaming revenue records based on pent up demand visitation, PENN sat watching the cars whiz by. But they were clearly in the recovery cycle as well.

There was positive recovery of revenues in the U.S. geography where PENN's 43 casino hotels sit. The case was made that post covid, the fear factor departed for the older demos, and they came back in masses to the slot machines. At the same time, the burst of sports betting legalizations had sent masses of millennial punters to sports books in casinos all over the country. These arrivals quickly proved the value of in house migration. The young sports bettors, after making their laydowns or watching their games, found their way to the blackjack tables. Both these developments were key factors in the rising fortunes of regional casinos. PENN benefitted without question. But from the second half of 2022, the stock stalled out along with sales growth.

I know the company well, as many former industry colleagues are part of management. I know the gaming markets in which they compete and thrive. I have followed their history since they divided from their original owners, now the Gaming & Leisure Properties, Inc. ( GLPI ) REIT.

Here was a company with properties in 20 states geographically dispersed for revenue balance much more immunized from regional economic ills than peers. Add to that the acquisition first of 38% of the Barstool Sports media business with its 55m "stoolies." It focused on their programming featuring a young male demo obsessed with sports, gambling, women, and cultural cuisine icons of their generation: pizza.

Above: The reason for what appears to be poor performance is related mainly to shifts in more revenues from lower tax states to higher ones.

The progenitor and pied piper was the brassy, loose cannon media genius Dave Portnoy, a unicorn leader, born to give headaches to any corporate bosses. Last February, PENN bought out the remaining shares of Barstool for $388m. But Dave's cult is intact and the cultural icon he has always been for stoolies throughout company history.

Barstool Sports book went live in 17 jurisdictions plus Canada after PENN had acquired the Ontario-based theScore media and sports betting site. Overall, PENN has 32 live sports books in 15 states with an estimated 18% of national handle.

Last May 23 on Seeking Alpha, PENN traded at $25. In subsequent SA articles, I stuck to my PT of $50. Since then, the stock has gone nowhere, I believe because their results from Q1 to Q4 last year were at best meh. The 52-week range spread from $22.96 to $39.36, during which it went -31.l13%. So much for my enthusiasm being part of any upswing by better-known and more widely dispersed calls by big name bulge bracket bank analysts. What's wrong with this picture? My contrarian view remains untested by time.

On a ttm basis, PENN is showing 2.2% sales growth. That at best is meh, as we said, and is sure to factor into any bearish scenario. There's a reason for it, we will define further in this article. PENN settled ligation during the late quarters of the year, which impacted results. PENN is present in every U.S. region. The change in tax/revenue impacts has contributed to a decline of 100bps to margins. There has been a temporary demographic shift in the age ranges of the customer base. This can be seen in the breakdown of age among its customer base during the period between mid to late 2022. It is one of the reasons the stock is probably seen by investors as dead ended:

Above: Much of PENN's long-term earnings record appear to elude investors.

Age range Estimated percent of PENN customer base

Increase/decrease

24-34: (5%).

35-44 2%.

45-50 5%.

55 to 64 4%.

65 up 9%.

What does it mean? It shows the return of older folks to properties as the threat of covid to the especially vulnerable populations clearly subsided. The elderly, more confident, came back to the slot machines in droves. It also suggests a rise in VIP play, which overwhelmingly favors an older demographic.

The younger demo, treasured by most operators, grew, but began to run out of steam. What's key here is that the shifts, economic, demographic and financial, have been addressed by PENN. It set an innovative marketing goal of cross-marketing all customers into what it has labeled an ecosphere. Put simply, they have created a whole service system, so the need for customers to go outside the realm is diminished. They do this with two tentpole strategies. One become the most friction-free casino/digital gaming operators in the sector deploying edgy tech solutions to the everyday business of servicing their customers. They are a clear first mover here.

And two, expanding beyond casinos and sports betting per se and bring themselves into the sports media business as a possible stand-alone contributor to growth. My take is that investors have yet to understand the quantum leap this strategy presents for the entire sector.

The key is called "The PENN Wallet" essentially a phone app where you make a deposit and then "spend" against it in any PENN-related vertical, brick and mortar, online betting on either sports or Igaming site. At the same time, PENN has already installed its "Three Cs" system in 21 of its properties: Cashless, cardless and contactless. In brief, a customer can use the PENN Wallet to take care of every possible need during a property stay. The goal is to reduce the normal friction of a casino visit from check in, to on-site reservations or questions to check out as smooth as possible. This reserves face to face f service and customer satisfaction building confined to cementing relationships.

PENN says it intends to expand the system to its entire 43 property portfolio of casinos as well as its sports betting apps. In its 1Q23 earnings transcript executives reported the company had added 195,000 new PENN Wallet users.

Trend

A positive tone to PENN's results came in 1Q23's earnings release, revenue line down 3.3% YOY due as noted to the stronger revenue recovery in higher tax rate stats vs a softening of revenue in lower tax states. The impact on margins was 100bps down.

Revenue: $.167b up 7% YOY.

Net income: $514.440m.

Adj. EBITDAR: $478M.

Customer database growth: PENN added a total of 300,000 new cardholders, up 13% YOY. The majority of these new signups came from digital customers, sports betting for its Barstool Sportsbook site. The impact of this growth has been felt in the post covid quarters as younger sports bettors migrated to PENN's casino floor. So conceptually, the ecosphere they are creating migrates the sign-ups from digital customers to brick and mortar properties and the reverse.

Guiding annual 2Q23

Revenue: $6.37b to $6.813b. This has been raised from initial estimate of $6.15b to $6.58b

Balance sheet highlights

Cash on hand (mrq) $1.31b.

Cash per share: $8.60.

Book value per share: $27.37 so PENN is selling at book value, although Guru Focus puts its DCF value at $50, FinBox has fair value at $32.40 to $57.27 depending on its variable formulae. Indicates an intrinsic value at $46.56.

Long-term debt: $11.66b.

Current ratio: 1.38.

ROE: 16.1% over last ten years.

1- year analyst target: $36.

1Q23 earnings surprise: 721.30% -- clearly reflecting covid recovery cycle in progress and pent up demand factor. But even without singular drivers, we believe for this year PENN could earn $4.70 to $4.85 based on the rollout of its PENN Wallet program, the paid up balance of $388m bringing to 100% its ownership of Barstool Sportsbook. In addition, PENN's move into sports media with the Barstool site, added to its acquisition of theScore of Canada, both of which are fundamentally media businesses with programming aimed at a younger, sports fan demo and the building of ad and subscription revenues.

Our price target, or PT, is based on PENN's farsighted goal of digital and live integration and adding a media business component uncomplicated by big media woes of the moment. We think its price at book value is a product of performance prior to the more positive trends that first appeared in 1Q23 and we expect to be sustained with a strong earnings profile for the balance of this year.

Indicative of its proactive management style, PENN has analyzed for investors the possible impact from a recession. Its calculations indicate that should top line revenues sag due to macroeconomic downturns, it has identified cost savings that would amount to compensating for 45% of the revenue loss under several scenarios. PENN Entertainment, Inc. has a high margin of safety given its scale and footprint across every important regional gaming market as well as a sports betting business nearing profitability.

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