The gambling instinct is so deeply ingrained in humans that Cro-Magnon man probably played dice with a pair of rocks. Pinnacle Entertainment Inc. (PNK.N) operates casinos around the U.S. and acquired Ameristar Group in August for $2.8 billion to increase its American footprint. It expects to benefit from the acquisition by taking advantage of synergies. We take a look at where the chips are expected to fall in terms of future earnings.
In many cases, companies overestimate the synergies from an acquisition. Further, Pinnacle has seen some weakness in its Ameristar properties and based on the negative StarMine Predicted Surprise of 6.8%, it looks like the company may report earnings that fall short of analyst estimates when it reports fiscal fourth quarter results on Feb. 10, 2014.
Source: Eikon/StarMine
Analyst skepticism
The negativity in analyst estimate revisions is not just for the current quarter and not just for earnings. Analysts have lowered revenue and EBITDA estimates for the quarter, and they have been reducing estimates for the next fiscal year, too. EPS estimates for next year have been lowered by 11% in the last 90 days. The current consensus is for the company to report earnings of 41 cents a share for the current quarter. The SmartEstimate is lower at 38 cents. The StarMine Analyst Revisions Model (ARM) score of 11 is a sign that estimates may go even lower.
Source: Eikon/StarMine
Profit margin problems
Operating profit margins at Pinnacle have been on the decline for five consecutive quarters. In fact, the last two quarters have seen operating profit margins dip below the industry median. Operating margins have fallen to 6% in the most recent quarters from 13.2% just five quarters ago. The industry median is higher at 11.1%. Operating margin and net operating asset turnover (which is at its lowest level in five years) are the two components of the return on net operating assets. This is a key measure of operating efficiency. The fact that Pinnacle’s return on net operating assets has been falling while the rest of the industry has been rising is a sign that the issues may be specific to this company and not necessarily an industry problem.
Source: Datastream/StarMine
Higher debt load
Pinnacle took on a lot of debt to complete the Ameristar aquisition. Debt levels at the company have increased by $3 billion from $1.5 billion to $4.5 billion. That increased debt load means the company will have to pay larger interest payments. In the last four quarters, it spent more on interest payments ($133 million) than it earned in operating income ($81 million). While synergies may improve earnings, financial strength may have been compromised slightly because of the large debt load.
In fact, the company scores in the lowest decile of the StarMine Combined Credit Risk (CCR) model (which is the best estimate of credit risk that incorporates information from the StarMine Structural, SmartRatios, and Text Mining Credit Risk Models into one final estimate of credit risk) with a score of 6. Part of the reason is increased leverage from the large debt load. As long as the company can increase revenues and generate strong cash flows, paying off the debt should not be a problem. The question remains whether the new Ameristar properties will cannibalize revenues and earnings from Pinnacle’s other properties. In the short term, an earnings miss might be in the cards.
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