SCPL - SciPlay And Light & Wonder: Reunion In The Making?

2023-07-28 13:41:05 ET

Summary

• SciPlay Corporation and its parent Light & Wonder, Inc. might finally recombine following SciPlay’s spinoff in 2019.
• Light & Wonder has recently proposed to buy the remaining 17% economic stake in SciPlay at $20/share.
• SciPlay shares currently trade slightly below the offer levels.
• There is a decent chance of a price bump for the minorities.
• What could be the potential upside in the higher offer scenario?

SciPlay Corporation ( SCPL ) is a $2.5bn market cap developer and publisher of mobile social casino games. Back in 2019, the company was spun off from its parent Light & Wonder, Inc. ( LNW ) which has since retained a controlling 83%/98% economic/voting interest in the company. In mid-2021, LNW tried to re-acquire the remaining shares of SCPL at c. $16/share, but both sides eventually did not agree on the acquisition terms.

SCPL and LNW attracted my attention in October '22, when activist investor Engine Capital became one of SCPL's largest minority shareholders and subsequently urged the companies to merge. I posted a write-up on SCPL, putting forth a number of arguments about why both sides might come to an agreement at the time.

What has happened since? After a prolonged period of silence from both companies regarding a potential combination, in May LNW came out with a non-binding bid to acquire SCPL's remaining shares at $20/share. The proposal is being reviewed by SCPL's special committee of directors. SCPL's shares have jumped massively upon the news and are now up 51% since my initial write-up.

What's Next?

The transaction appears highly likely to close, as indicated by the current spread of 1%. The remaining conditions are the approval from SCPL's special committee of directors and likely support from the target's minority equity holders. I think both conditions are likely to be satisfied. LNW has highlighted that the transaction will not require neither due diligence nor the approval from its shareholders. Most interestingly, several angles suggest that there is a decent chance of both parties agreeing to an offer raise before coming to terms.

Firstly, the $20/share offer values SCPL at 11.4x 2022 adjusted EBITDA. MYPS, another mobile-focused social casino game developer and publisher, currently trades at a 13.0x multiple. SciPlay is a higher-margin business that has grown faster in recent years compared to MYPS. SCPL's adjusted EBITDA margins in 2022 stood at 28% vs. 13% for MYPS. SCPL has also compounded its topline faster, with a sales CAGR of 13% in 2019-2022 compared to 7% for the competitor. At the same 13x multiple, SCPL would be valued at $22.32/share or 12% above current offer levels. One could argue that SCPL deserves a premium to its smaller peer ($623m market cap vs. $2.5bn for SCPL).

There is another reason why LNW might agree to pay up to scoop up the remaining stake. The $20/share offer value's 17% stake in SCPL at $425m while allowing LNW to gain control of $358m in SCPL's net cash. In other words, at current terms, LNW is purchasing the remaining stake largely using SCPL's cash on the balance sheet. Given the SCPL's high-cash generation ($145m in 2022 FCF not excluding cash spent for a large acquisition), the business is likely to generate another c. $70m in cash until potential transaction closing. What this implies that in a price bump scenario LNW would only have to pay a tiny cash consideration from its own pockets.

Finally, while LNW's $20/share offer comes above $15-$16/share levels targeted by the activist Engine Capital, during Q3'22-Q1'23 SCPL has continued to display solid operational performance. SCPL's revenues grew 17-18% year-over-year during these three quarters driven by expanding customer base (to record high levels), allowing the company to outperform the broader social casino market and gain market share. The company has also significantly improved its monetization of existing payer cohorts, with average revenue per daily active user ((ARPDAU)) growing 16-20% during the quarters. Continuing strong performance of SCPL's key games - Jackpot Party (the most popular mobile social casino game in the U.S.) and Quick Hit Slots - as well as the launch of a DTC platform are expected to allow the company printing solid results going forward.

Aside from the higher offer optionality, the transaction is highly likely to close. Approval from SCPL's special committee seems likely given that the offer comes at a significant 28% premium to pre-announcement levels. The proposal is also 25-33% above Engine Capital's target levels of $15-$16/share based on comparable transactions, discounted cash flow ("DCF") analysis, and analysts' targets.

As for LNW, the potential acquirer is likewise unlikely to back away from the transaction. The controlling shareholder has been clearly interested in acquiring the remaining stake in SCPL as indicated by several bids made over the recent years. The transaction would seem to naturally follow LNW's recent strategic turnaround efforts as the company has sold its $7bn lottery and betting businesses. At the time of SCPL spin-off, LNW used to have a significant overhang of debt and SCPL's spin-off was intended to help deleverage the business. Since then, LNW has significantly reduced the net debt from $8.7bn to $2.9bn.

LNW's management has repeatedly stated that after the sale of lottery/betting segments their goal is to expand the company's digital offerings. It seems that the buyout of SCPL's minority shareholders would fit this strategy. LNW's leadership has repeatedly highlighted its bullish outlook on SCPL and the broader social casino industry ( here and here ). The transaction would seem to have a fairly strong strategic rationale behind it. LNW produces gaming products/content/services for physical casinos (Gaming segment) as well as digital casino games (iGaming segment). There is no direct overlap, however, SCPL and LNW share the same content library, with the same games across both LNW's land-based machines and SCPL's mobile platform. The combination would also allow LNW to cross-sell SCPL's content across LNW's businesses. Also, given that SCPL is a high-margin FCF generating machine, the transaction would allow LNW to utilize the consistent cash flows for its more capital-intensive businesses.

Takeaway

The potential combination between SCPL and LNW presents a low-risk merger arb opportunity. While the spread is currently at only 1%, there is a decent chance of the merger parties agreeing on a price bump. Even if that fails to materialize, the downside looks protected here as SCPL's special committee might accept the current bid given its large premium to pre-announcement prices and activist's valuation targets. Meanwhile, LNW is unlikely to walk away from an acquisition that would fit within its broader strategy.

For further details see: