Fundamental Focus today analyses Phumelela Gaming and Leisure:
Phumelela Gaming and Leisure (PHM:SJ) is a licensed horseracing and totalised betting operator in seven of nine SA provinces. It has operations in 35 countries, the bulk of which is comprised of the export of SA horseracing events via its media outlets. This is achieved through its Phumelela Gold Enterprises (PGE), a joint venture with Gold Circle (most prominently known for running the Durban July) which is managed by Phumelela Gaming and Leisure. The group has a 61% holding in the venture. In addition to its horseracing operations, PHM also operates a host of betting operations centred on football, rugby and horseracing (under the TAB banner). PHM owns and operates five racecourses, five training centres and over 200 tote betting outlets. It also owns a number of well-regarded horseracing publications focused on providing customers with relevant information such as form guides.
Fundamentals
From a fundamental perspective, PHM seems a reasonably solid company. Due to the nature of its line of business, PHM is vulnerable to cyclical under performance; however, it does have a few positives going for it. The bulk of its loyal customer base is unlikely to reduce their spending because as we know, gamblers are very set in their ways. Also, PHM does a lot to constantly increase customer loyalty. PHM has extensive foreign operations which contribute nicely to its earnings and pre-tax profits have soared 63% for the financial year ended July 2012 and 56% for the financial year ended July 2013. As a result of this, PHM looks like a solid rand hedge, especially comforting given the rand’s volatility.
PHM has shown solid earnings growth over the past 12 months with a 25% increase in EPS. Overall, profits increased 3% and 24% for the 2012 and 2013 financial years respectively. However, there are some worrying occurrences to take note of. Pre-tax profits from local operations have declined significantly over the past two financial years, specifically a 43% decline for the financial year ended July 2012 and a 59% decline for the financial year ended July 2013. What is most concerning is that these losses have occurred in PHM’s traditional businesses of horseracing and tote betting.
Without a strong local brand of local horseracing, its foreign operations will also suffer greatly as they are reliant on exporting high quality SA horseracing and facilitating betting on these races. This is possibly the reason why management has set so much hope in expanding its sports betting operations in football and rugby. Whether this expansion will yield the desired results is questionable and we do not see this resulting in a turnaround of PHM’s local fortunes any time in the near future.
Another worry is the steadily decreasing amount of cash on hand PHM owns with 38% and 37% declines in the past two financial years. Granted, this is due to sizeable capex on property, plant and equipment, but if the bulk of these capital outlays are for local operations (it is hard to imagine they are for anything else), then clearly, capex is not having the desired effect of improving the performance local operations.
Share price
The share price has seen nice growth over the past year (91% increase), which we believe has made it just a tad too expensive for our liking. The PE ratio of 14.85, although lower than that of gambling competitors Sun International (22., Tsogo Sun (18.6) and City Lodge Hotel (21.9), is an indication of PHM being overvalued by the market. This view is reinforced by a price to book ratio of 3:1. PHM has been generous to shareholder with an attractive dividend yield of 5.18%, that, together with a healthy 19.89% return on equity makes it worth a punt by the less value oriented investor. We do not see this yield decreasing in the near future as PHM has shown a consistent trend of increasing dividends over the past 2-3 financial years.
Conclusion
We believe that PHM is the most attractive stock in the gaming sector right now and will continue to be buoyed by a bullish JSE Alsi Index for the next few months. However, we are not convinced that it is a compelling investment over the long-run due to problems with local operations and seemingly ineffective capex. Therefore we give Phumelela Gaming and Leisure a “hold” rating.
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