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Thursday, October 29, 2020

Commentary: On line casino shares bought clobbered by COVID-19, however this one is now a gorgeous guess

“The important thing to investing will not be assessing how a lot an trade goes to have an effect on society, or how a lot it can develop, however quite figuring out the aggressive benefit of any given firm and, above all, the sturdiness of that benefit.”
Warren Buffett, Fortune, 1999

Few enterprise fashions are extra dependable than a on line casino’s. Folks like to gamble, and since the home has a statistical benefit over its clients in each sport it runs, the extra individuals play, the extra the on line casino makes. Consider all of the money individuals spend on eating and leisure inside these vivid, windowless packing containers and also you’ll perceive why casinos are inherently good companies.

In regular occasions, that’s.  

COVID-19 turned the world upside down, particularly for companies that rely on large crowds: theme parks, cruise ships, live performance halls, and, after all, casinos. Whereas most of those companies stay severely depressed, casinos—particularly the regional ones, the place individuals drive from their houses for a day or night of playing—are making a outstanding and sudden comeback. Regardless of this, one on line casino inventory—Gaming and Leisure Properties (ticker: GLPI)—has not absolutely recovered. That makes it an excellent guess, certainly.

GLP is the creation of entrepreneur Peter Carlino, who practically 50 years in the past took over Penn Nationwide, a horse observe close to Hershey, Pa., and turned it into the nation’s largest regional on line casino enterprise. Carlino’s father, who started modestly as a florist in Philadelphia, was a serial entrepreneur who despatched his son to central Pennsylvania to supervise a few of the household companies, together with the racetrack. In 1989, the household gained the area’s new offtrack betting concession, and Carlino’s father tapped Peter to run it.  

With little else to entertain them, central Pennsylvanians flocked to the Carlinos’ OTB parlors. It shortly grew to become the household’s prime moneymaker, and Peter Carlino sensed he’d discovered his calling. “Taking bets on horses on the OTB window is way more worthwhile than the observe itself,” he remembers pondering. “We’re on to one thing.”

Carlino took Penn Nationwide public in 1994, across the identical time that many state legislatures, anticipating extra tax income, started to legalize casinos. Carlino needed in on the motion and started to purchase ones across the nation. In 2000, he purchased one other horse observe, this one in Charles City, W.Va., in hopes that he may move an area referendum to legalize playing. An earlier measure had misplaced by a 2-to-1 margin, however Carlino spent in a 12 months in Charles City, making use of his appreciable appeal and vitality to reversing the end result. When the second vote was held, the margin was 2-to-1 for as a substitute of 2-to-1 towards.

Carlino embellished the brand new on line casino with flashing lights and named it the Hollywood. Drawn by the glint and pizzazz, West Virginians made the Hollywood an enormous success. This generated sufficient money to permit Carlino to construct or purchase the highest casinos in St. Louis, Kansas Metropolis, Baton Rouge, and Columbus, all of them infused with the identical aspirational glitz because the one in West Virginia.  

Like a rock quarry or a cable tv supplier, regional casinos are inherently good businesses. Native economies can help just a few of them, and states typically restrict the variety of licenses granted, restraining the variety of rivals. Mixed with Carlino’s knack for bringing aptitude to center America, Penn Nationwide grew to become an enormously profitable firm. From its IPO to 2013, Penn Nationwide compounded shareholders’ returns at 22.5% a 12 months, thrice the typical charge of the S&P 500 over that interval.  

A cut up, and a shock

In 2013, Penn National split in two: One firm owned the on line casino licenses and ran the operations, whereas the opposite owned the actual property and served because the working firm’s landlord. This identical construction—one “asset-light” firm and one “asset-heavy”—had labored effectively within the lodge trade. However it shocked many when Carlino determined to run the owner—the corporate that grew to become Gaming and Leisure Properties—as a substitute of the operator. A glimpse on the underlying fundamentals, nonetheless, explains why.  

Not like within the lodge trade, the on line casino operator should pay for all capital expenditures, both upkeep or expansions. The owner pays nothing. Even higher, Carlino structured the separation in order that hire expense to the owner needed to be paid even earlier than curiosity was paid to the banks. With little to do however sit again and gather the hire, this makes being a landlord to a portfolio of regional casinos an excellent enterprise certainly.  

Whereas the corporate’s 46 properties needed to shut down early within the pandemic, they’ve now all reopened, with spectacular outcomes: Revenues are down 10% in contrast with final 12 months, however working earnings are up 20%. How can this be? In certainly one of COVID’s many unintended penalties, on line casino actions that pose a excessive danger of spreading the virus—table games like blackjack and poker, and all-you-can-eat buffets—are additionally a on line casino’s least worthwhile however have needed to be shut down. Slot machines, alternatively, could be unfold far aside, require little human interplay, and are thus secure to play. Fortunately for casinos, slots additionally occur to be amongst their highest-margin video games. 

It wasn’t a shock when COVID slammed the shares of Gaming and Leisure Properties, however given the above it’s curious that the inventory stays down greater than 10% 12 months so far. I began shopping for GLPI for shoppers this spring, and I believe it stays a gorgeous funding in the present day in each the long- and short-term.

GLP’s engaging economics make it a superb long-term maintain, particularly for these in search of earnings. As an actual property funding belief, or REIT, the corporate is required to pay most of its earnings out as dividends. Quick-term, there are a number of minor clouds overshadowing the inventory which will quickly elevate, giving buyers the potential for a comparatively fast 30% upside.

When COVID first struck, GLP minimize its dividend roughly 15%; it additionally elected to pay most of it in inventory. This was not as a result of GLP’s funds had been shaky; certainly, GLP is essentially the most regionally diversified among the many three American on line casino REITs. Again then, it wasn’t clear how GLP’s tenants would survive the pandemic, and Carlino needed to make it possible for the corporate may meet its obligations. However, slicing a dividend spooks REIT buyers, so GLP has trailed its friends 12 months so far.  

The opposite knock on the inventory is the chance of so-called iGaming, or on-line on line casino play. Simply as states legalized casinos a technology in the past looking for new tax revenues, states are actually within the means of legalizing each iGaming and on-line betting on sports activities. Some suppose that iGaming might drain clients from brick-and-mortar casinos simply as e-commerce has siphoned off conventional retail foot visitors. Each the proof and customary sense, nonetheless, counsel in any other case. On-line gaming has been authorized in New Jersey, for instance, since 2013, however Atlantic Metropolis on line casino revenues have risen in 4 of the previous 5 years. That’s as a result of much more than purchasing, playing is one thing individuals wish to expertise in particular person. There’s a cause Carlino constructed his firm round these flashing lights. 

“Persons are social animals,” Carlino says. “Will they place a guess on a sport on their sofa? Positive. However will in addition they preserve coming again to the on line casino? In fact.” 

GLP has mentioned it can restore its dividend to all money in early 2021. At its present $2.40 payout, GLP trades at an almost 6.5% yield. It is a low cost to the place it traditionally trades relative to 10-year U.S. Treasury bonds. When the dividend resumes in money, I imagine the inventory will commerce at a yield of lower than 5%, which implies that the inventory ought to respect roughly 30%, from its present $38 to round $50 a share. The corporate must also enhance the dividend subsequent 12 months, offering additional upside potential. 

In the meantime, Carlino stays in central Pennsylvania, doing what he has all the time performed: operating the enterprise, retaining his eye out for brand new actual property offers, and letting the inventory worth care for itself. “I take a look at the inventory worth perhaps as soon as a month,” he says. “My philosophy has all the time been, put up the numbers; buyers will determine it out.”

Adam Seessel is the portfolio supervisor at Gravity Capital Administration LLC, a registered funding adviser. Sure of the securities talked about within the article could also be at present held, have been held, or could also be held sooner or later in a portfolio managed by Gravity. The article represents the views and perception of the creator and doesn’t purport to be full. The knowledge on this article is as of the publication date, and the info and details introduced within the article might change.

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