Gam­ble on Sun In­ter­na­tional

Financial Mail - Investors Monthly - - Contents - Marc Hasen­fuss

Gam­ing and leisure gi­ant Sun In­ter­na­tional’s share price — at a 12-month low at the time of writ­ing — sug­gests the mar­ket is still a lit­tle hes­i­tant to bet on a big pay­out over the longer term.

But th­ese are the length­en­ing odds that can pay out hand­somely in the long term for those poker-faced in­vestors who back the ad­dic­tive ap­peal of casi­nos to keep pun­ters com­ing back even in a harsh eco­nomic cli­mate.

The lo­cal casino sec­tor cer­tainly has its chal­lenges. There is con­sid­er­ably less dis­cre­tionary spend­ing slosh­ing around than three years ago, which means the en­ter­tain­ment side of the casino busi­ness can suf­fer a de­cline in foot­fall. At the same time tra­di­tional casi­nos are fac­ing in­creased com­pe­ti­tion from lim­ited pay­out ma­chine oper­a­tors and, prob­a­bly more wor­ry­ingly, elec­tronic bingo ter­mi­nals (which can be re­garded as mini-casi­nos).

On top of that Sun In­ter­na­tional has suf­fered two set­backs in its strate­gic en­deav­ours in the highly con­cen­trated South African casino mar­ket.

An at­tempt to diplo­mat­i­cally “divvy up” the Western Cape casino mar­ket with ri­val Tsogo Sun — a de­vel­op­ment that would have pre­cluded costly hos­til­i­ties should Cape Town be al­lowed to host a se­cond casino li­cence — was thwarted by the com­pe­ti­tion au­thor­i­ties.

More re­cently th­ese au­thor­i­ties frowned on a pro­posed takeover of ri­val Peer­mont — a deal that would con­sid­er­ably strengthen Sun In­ter­na­tional’s hand in the com­pet­i­tive Gaut­eng mar­ket.

Sun In­ter­na­tional is still fight­ing to find ap­proval for the Peer­mont deal, but there is a po­ten­tial fall­out if the deal floun­ders. If the com­pa­nies walk away from the pro­posed deal, Sun In­ter­na­tional owes Peer­mont — which was ini­tially ve­he­mently op­posed to Sun In­ter­na­tional shift­ing its mori­bund Morula Sun casino to a more vi­brant Men­lyn — a con­sid­er­able “break fee” reck­oned to be be­tween R700m and R900m.

At cur­rent lev­els Sun In­ter­na­tional’s share price ap­pears to have fac­tored in the bad news. But the big ques­tion is whether the share will con­tinue to trun­dle along at th­ese de­pressed lev­els. Or will there be a trig­ger ac­tion that prompts the mar­ket to re-eval­u­ate the odds on Sun In­ter­na­tional re­sum­ing win­ning form?

The over­rid­ing sense of gloom for the gam­ing and leisure sec­tor ap­pears to be cloud­ing the good work done by new Sun In­ter­na­tional boss Graeme Stephens. He has cut through the cor­po­rate clut­ter that per­haps harked back gen­er­a­tions, most no­tably a R230m re­struc­tur­ing ex­er­cise that re­duced head counts by 1,500 and should spur an­nual sav­ings of R250m.

Stephens has also given Sun In­ter­na­tional a cleaner cor­po­rate struc­ture, of­fload­ing con­trol of sev­eral African prop­er­ties to the in­ter­na­tional ho­tel op­er­a­tor Mi­nor In­ter­na­tional.

This al­lows Sun to re­tain the valu­able cash flows earned for man­ag­ing the casino op­er­a­tions at­tached to cer­tain African ho­tels, but at the same time to re­duce its main­te­nance and up­grad­ing ex­pen­di­ture on the prop­er­ties.

In terms of cor­po­rate re­struc­tur­ing, far more in­trigu­ing was Sun In­ter­na­tional’s de­ci­sion to load its fledg­ling Latin Amer­i­can casino in­ter­ests (in Chile, Panama and Colom­bia) into ri­val casino group Dreams, which owns sev­eral prop­er­ties in Chile and has a foothold in Peru.

Sun In­ter­na­tional will hold 55% of the en­larged busi­ness but the man­age­ment re­spon­si­bil­ity will be in the hands of the Dreams team. The deal greatly en­hances Sun In­ter­na­tional’s global am­bi­tions as the merged en­tity has the crit­i­cal mass needed to ex­pand and fund new projects and ac­qui­si­tions.

The com­bined busi­ness should be ca­pa­ble of gen­er­at­ing Ebitda (earn­ings be­fore in­ter­est, tax, de­pre­ci­a­tion and amor­ti­sa­tion) of more than US$100m in the year to end De­cem­ber 2015 from its 13 Latin Amer­i­can gam­ing li­cences — adding a mean­ing­ful rand hedge el­e­ment to Sun In­ter­na­tional’s earn­ings.

The ini­tial thrust in Dreams will be a dom­i­nant po­si­tion in the Latin Amer­i­can gam­ing mar­ket, but with no man­age­ment re­spon­si­bil­ity on that con­ti­nent. Sun In­ter­na­tional is free to scout for se­lected op­por­tu­ni­ties else­where in the world as well as bol­ster and build po­si­tions in al­ter­na­tive gam­ing for­mats like lim­ited pay­out ma­chines, elec­tronic bingo, on­line casi­nos and sports bet­ting.

One pos­si­ble value-un­lock­ing ini­tia­tive could also tran­spire if the Peer­mont deal is clinched. Part of the ef­fort to ap­pease com­pe­ti­tion au­thor­i­ties are strong in­di­ca­tions that Sun In­ter­na­tional would look at dis­pos­ing of smaller casino op­er­a­tions in the com­bined Sun In­ter­na­tional/Peer­mont en­tity.

There are sev­eral op­tions avail­able to the com­pany. In­di­vid­ual casi­nos — bear in mind that the profit mar­gins can vary greatly — can be sold off, which would in a small way help al­le­vi­ate con­cerns about the con­cen­tra­tion of own­er­ship in the lo­cal casino in­dus­try.

Oth­er­wise Sun In­ter­na­tional could bun­dle to­gether a port­fo­lio of smaller prop­er­ties that could be sold off or un­bun­dled into a sep­a­rate list­ing linked to new em­pow­er­ment own­er­ship.

Def­i­nitely worth a flut­ter.

Sun In­ter­na­tional is free to scout for se­lected op­por­tu­ni­ties else­where in the world

Share: JSE share code: Share price: Av­er­age vol­ume traded: SUN IN­TER­NA­TIONAL SUI R78 7m/month

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