Ainsworth: Result 2018

Misdirection is an old Penn & Teller trick. On page 5 of Ainsworth's full-year result presentation, management lists a key highlight of the year as ‘Continued growth in International footprint'. While the company's installed base of pokie machines grew 10% outside Australia, international revenues fell 3%. Profits fell even more.

North American revenues rose 4%, but operating profit for the division was down 9% so it isn't much to boast about. The Latin America division increased revenue 1%, though, here too, operating profit fell 19%. Once you factor in the 37% decline in revenue for the rest of the world and 31% fall in operating profits, the growing installed base offers little consolation. 

In North America – the company's largest market – the installed base fell 3% to 2,583 machines, though the average winnings per day (Ainsworth's share of revenue generated by the machines) rose 14% to US$25. Average selling prices also rose 9%, though a 3% fall in volumes caused overall revenue to increase just 4%. Rising selling prices and falling volumes could be a sign the company is overpricing its machines, so it'll be worth watching this figure closely. 

Australian turnaround?

While the international operations didn't grow this year, overseas revenue did grow as a proportion of Ainsworth's total due to even more ghastly performance here in Australia – revenue fell 14% locally and operating profit was down 19%. Ainsworth has said domestic sales continue to be affected by increasing competition, and there were regulatory approval delays for its new games. 

If there's a silver lining here, it's that the company's local launch of the EVO cabinet and Golden Cash game improved its NSW market share to 15% in June, which was double the average over the whole year. It was also pleasing to see a 7% increase in average selling prices. This could be the first sign of a turnaround in the Australian operations but, with subdued demand for games outside the Golden Cash title, we're still a long way from harvest time. 

Management said the launch of eight major game titles is scheduled for 2019, with 75 new titles for the EVO and A640 cabinets. The company has also recruited two external game development studios to accelerate the release of new games and is investing heavily to increase the capacity and quality of its in-house team. 

Research spending

Research and development (R&D) spending rose a modest 1% this year to $34m, though management flagged increased spending next year. R&D represents 13% of revenue, up from 12% last year, and we expect this figure to grow over the next couple of years as the company tries to bolster its games pipeline. Ainsworth's share of new machine sales in Australia has fallen from 27% a few years ago to around 14%, so it desperately needs a few big hits.

Overall, Ainsworth's total revenue fell 6% to $266m, though prudent cost-cutting in administrative expenses helped to improve operating margins. Earnings before interest, tax, depreciation and amortisation (EBITDA) fell a more modest 3%. Free cash flow improved from negative $4.8m to positive $4.6m, and net debt fell from $45m to $36m. While this is an improvement, Ainsworth's return on capital is a lowly 8%. 

Management didn't provide earnings guidance for the 2019 financial year but said it expects to continue to cut net debt and invest in new products and marketing to improve market share. Assuming revenue growth remains lacklustre, the higher spending on research and marketing would suggest a fall in net profit in 2019.

Ainsworth currently trades on a price-earnings ratio of 13, but that rises to 17 based on consensus estimates for 2019 earnings. The business appears to be stabilising but its significant loss of market share and lacklustre growth in most regions makes it hard to gauge its long-term earnings potential. We would need to see a sustained recovery in game performance and a significant improvement in free cash flow before we considered upgrading the stock again. In the meantime, we're CEASING COVERAGE.