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Shares of Scientific Games Corp. (SGMS - Analyst Report) plummeted 17.1% after the company reported disappointing quarterly earnings and provided a weak guidance. Shares fell 47.1% year to date. The company posted a loss of 53 cents per share in the first quarter of 2014, much wider than the Zacks Consensus Estimate of a loss of 7 cents and the year-ago loss of 16 cents per share.
 
 
Revenues
 
Revenues surged 76.7% year over year to $388.1 million but missed the Zacks Consensus Estimate of $424.0 million. The year-over-year increase in revenues can be attributed to strong growth across all the segments.
 
Gaming segment revenues jumped to $194.2 million in the reported quarter from $38.6 million in the year-ago quarter. This year-over-year increase was attributable to revenues earned from the WMS Gaming acquisition ($157.0 million), partially offset by the decline in service revenues from the UK Gaming business. 
 
Services contributed $126.7 million of the revenues while product sales chipped in with the remnant $67.5 million.
 
Instant Products Group revenues increased 2.4% year over year to $129.3 million in the first quarter. The results were primarily driven by an increase in revenues from the company’s licensed properties business and cooperative services and the percentage of sales customers. Out of the total Instant Products Group revenue, about $126.2 million came from Instant Games while the remaining $3.1 million was attributable to Product Sales.
 
Lottery Systems Group revenues increased 18.1% year over year to $64.6 million, reflecting higher sports betting revenues and revenues from new customers in Panama and the Dominican Republic. Services chipped in with $50.1 million of the revenues while Product sales contributed the remaining $14.5 million.
 
During the quarter, Scientific Games launched a new 3-reel mechanical Blade stepper gaming machine and 135 units of the same were shipped to customers. This quarter also witnessed the launch of the Gold Fish Social Slots game, which happens to be its second social gaming app. 
 
During the quarter, Scientific Games signed a new three year contract with the French National Lottery to serve as the primary supplier. Also, it was awarded a new six year contract to continue serving as a primary supplier of instant games and related services to the Washington Lottery with additional extensions at the lottery’s option.
 
Further, the company also entered into a three year contract extension with the Delaware Lottery as well as a new eight year contract with North Dakota Lottery, which happens to be an existing customer. 
 
Recently, Scientific Games expanded its Jackpot Party Social Casino to the Yahoo (YHOO - Analyst Report) platform. 
 
During the quarter, the company divested its equity interest in Sportech PLC for cash proceeds of $44.9 million, which in turn resulted in a gain of $14.5 million. During the quarter, Scientific Games exited its managed services online gaming business in Belgium and also sold off its online real money U.K. B2C gaming operation.
 
Regional/Country Update
 
During the quarter, the company commenced sales of instant games in Greece. Scientific Games also completed the installation of a new state-of-the-art instant games printing press at the company’s Georgia facility.
 
In its UK gaming operation, after securing a five year contract renewal with Ladbrokes, Scientific Games is currently on target to complete the rollout of approximately 9,000 of its new gaming terminals across the entire state in the second quarter.
 
The company incurred restructuring expense of $4000.0 million in the reported quarter as it completed its exit from certain operations in Mexico.
 
Retail sales of instant games in Italy decreased 2.7% in the first quarter compared to the prior-year period. Italy retail sales are generally impacted by the level of marketing spending and timing of the launch of new games. 
The instant lottery game agreement between Scientific Games and CSL is due to expire in Jan 2016. Under the terms of the agreement, the participation rate Scientific Games received decreased by 0.1% in Jan 2014. 
 
The instant game contract with Loto-Quebec expired in Jan 2014. However, Scientific Games continues to provide instant games to this customer under the previous contract terms while the new contract is being negotiated. The new contract with Loto-Quebec is anticipated to become effective in the second quarter and will represent a significantly smaller portion of the business than the recently expired contract.
 
 
Margins
 
Attributable earnings before interest, taxes, depreciation and amortization (EBITDA) increased from $77.6 million in the year-ago quarter to $122.8 million in the reported quarter.
 
Operating expenses increased from $83.8 million in the year-ago quarter to $217.4 million in the reported quarter. This was mainly on account of a rise in research & development expenses, selling, general & administrative expenses, restructuring expenses and depreciation & amortization.
 
Depreciation & amortization (D&A) expense increased from $32.8 million in the year-ago quarter to $94.1 million in the reported quarter. Selling, general & administrative expense (SG&A) increased from $48.8 million in the year-ago quarter to $91.8 million in the reported quarter. 
 
Research & development expense increased from $1.9 million to $25.9 million year over year while restructuring expense increased from $0.3 million in the year-ago quarter to $5.6 million in the reported quarter.
 
Operating loss was $12.1 million compared to income of $11.1 million in the year-ago quarter. Scientific Games reported a net loss of $45.0 million compared with net loss of $13.6 million in the year-ago quarter.
 
Balance Sheet & Cash Flow
 
Scientific Games exited the quarter with $169.1 million in cash and cash equivalents compared with $153.7 million in the prior quarter. Free cash flow was $23.7 million in the reported quarter compared to outflow of $13.1 million in the year-ago quarter.
 
Guidance
 
Within the Gaming segment, the company expects to further broaden the gaming revenue stream in North America as well as target expansion through new international opportunities.
 
Our Take
 
Scientific Games reported dismal first quarter 2014 results, with a wider year over year loss and revenues missing the Zacks Consensus Estimate.
 
The domestic lottery industry is undergoing a transition, which involves increasing involvement of private vendors in state lottery management, higher prize payouts and the introduction of tiered pricing for national jackpot games. All these are expected to add impetus to the sagging U.S. lottery industry. We believe that Scientific Games is well positioned to benefit from these transitions, going forward.
 
However, the company faces stiff competition from the likes of Computer Sciences Corporation (CSC - Analyst Report), GTech S.P.A. (GTKYY) and Bally Technologies Inc. (BYI - Snapshot Report), which is expected to hurt profitability, going forward.
 
Currently, Scientific Games has a Zacks Rank #3 (Hold).

Shares of Scientific Games Corp. (SGMS - Analyst Report) plummeted 17.1% after the company reported disappointing quarterly earnings and provided a weak guidance. Shares fell 47.1% year to date. The company posted a loss of 53 cents per share in the first quarter of 2014, much wider than the Zacks Consensus Estimate of a loss of 7 cents and the year-ago loss of 16 cents per share.

Revenues

Revenues surged 76.7% year over year to $388.1 million but missed the Zacks Consensus Estimate of $424.0 million. The year-over-year increase in revenues can be attributed to strong growth across all the segments.

Gaming segment revenues jumped to $194.2 million in the reported quarter from $38.6 million in the year-ago quarter. This year-over-year increase was attributable to revenues earned from the WMS Gaming acquisition ($157.0 million), partially offset by the decline in service revenues from the UK Gaming business.

Services contributed $126.7 million of the revenues while product sales chipped in with the remnant $67.5 million.

Instant Products Group revenues increased 2.4% year over year to $129.3 million in the first quarter. The results were primarily driven by an increase in revenues from the company’s licensed properties business and cooperative services and the percentage of sales customers. Out of the total Instant Products Group revenue, about $126.2 million came from Instant Games while the remaining $3.1 million was attributable to Product Sales.

Lottery Systems Group revenues increased 18.1% year over year to $64.6 million, reflecting higher sports betting revenues and revenues from new customers in Panama and the Dominican Republic. Services chipped in with $50.1 million of the revenues while Product sales contributed the remaining $14.5 million.

During the quarter, Scientific Games launched a new 3-reel mechanical Blade stepper gaming machine and 135 units of the same were shipped to customers. This quarter also witnessed the launch of the Gold Fish Social Slots game, which happens to be its second social gaming app.

During the quarter, Scientific Games signed a new three year contract with the French National Lottery to serve as the primary supplier. Also, it was awarded a new six year contract to continue serving as a primary supplier of instant games and related services to the Washington Lottery with additional extensions at the lottery’s option.

Further, the company also entered into a three year contract extension with the Delaware Lottery as well as a new eight year contract with North Dakota Lottery, which happens to be an existing customer.

Recently, Scientific Games expanded its Jackpot Party Social Casino to the Yahoo (YHOO - Analyst Report) platform.

During the quarter, the company divested its equity interest in Sportech PLC for cash proceeds of $44.9 million, which in turn resulted in a gain of $14.5 million. During the quarter, Scientific Games exited its managed services online gaming business in Belgium and also sold off its online real money U.K. B2C gaming operation.

Regional/Country Update

During the quarter, the company commenced sales of instant games in Greece. Scientific Games also completed the installation of a new state-of-the-art instant games printing press at the company’s Georgia facility.

In its UK gaming operation, after securing a five year contract renewal with Ladbrokes, Scientific Games is currently on target to complete the rollout of approximately 9,000 of its new gaming terminals across the entire state in the second quarter.

The company incurred restructuring expense of $4000.0 million in the reported quarter as it completed its exit from certain operations in Mexico.

Retail sales of instant games in Italy decreased 2.7% in the first quarter compared to the prior-year period. Italy retail sales are generally impacted by the level of marketing spending and timing of the launch of new games.

The instant lottery game agreement between Scientific Games and CSL is due to expire in Jan 2016. Under the terms of the agreement, the participation rate Scientific Games received decreased by 0.1% in Jan 2014.

The instant game contract with Loto-Quebec expired in Jan 2014. However, Scientific Games continues to provide instant games to this customer under the previous contract terms while the new contract is being negotiated. The new contract with Loto-Quebec is anticipated to become effective in the second quarter and will represent a significantly smaller portion of the business than the recently expired contract.

Margins

Attributable earnings before interest, taxes, depreciation and amortization (EBITDA) increased from $77.6 million in the year-ago quarter to $122.8 million in the reported quarter.

Operating expenses increased from $83.8 million in the year-ago quarter to $217.4 million in the reported quarter. This was mainly on account of a rise in research & development expenses, selling, general & administrative expenses, restructuring expenses and depreciation & amortization.

Depreciation & amortization (D&A) expense increased from $32.8 million in the year-ago quarter to $94.1 million in the reported quarter. Selling, general & administrative expense (SG&A) increased from $48.8 million in the year-ago quarter to $91.8 million in the reported quarter.

Research & development expense increased from $1.9 million to $25.9 million year over year while restructuring expense increased from $0.3 million in the year-ago quarter to $5.6 million in the reported quarter.

Operating loss was $12.1 million compared to income of $11.1 million in the year-ago quarter. Scientific Games reported a net loss of $45.0 million compared with net loss of $13.6 million in the year-ago quarter.

Balance Sheet & Cash Flow

Scientific Games exited the quarter with $169.1 million in cash and cash equivalents compared with $153.7 million in the prior quarter. Free cash flow was $23.7 million in the reported quarter compared to outflow of $13.1 million in the year-ago quarter.

Guidance

Within the Gaming segment, the company expects to further broaden the gaming revenue stream in North America as well as target expansion through new international opportunities.

Our Take

Scientific Games reported dismal first quarter 2014 results, with a wider year over year loss and revenues missing the Zacks Consensus Estimate.

The domestic lottery industry is undergoing a transition, which involves increasing involvement of private vendors in state lottery management, higher prize payouts and the introduction of tiered pricing for national jackpot games. All these are expected to add impetus to the sagging U.S. lottery industry. We believe that Scientific Games is well positioned to benefit from these transitions, going forward.

However, the company faces stiff competition from the likes of Computer Sciences Corporation (CSC - Analyst Report), GTech S.P.A. and Bally Technologies Inc. (BYI - Snapshot Report), which is expected to hurt profitability, going forward.

Currently, Scientific Games has a Zacks Rank #3 (Hold).

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