|Shares Out. (in M):||5||P/E||10||7|
|Market Cap (in $M):||16||P/FCF||10||7|
|Net Debt (in $M):||-4||EBIT||2||3|
|TEV (in $M):||12||TEV/EBIT||6.2||4.4|
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One of our investment strategies is to find safer, less risky, investments that allow us to participate in strong growth areas in an indirect manner. With states and municipalities strapped for cash, there has been a strong effort across the US (and worldwide) to expand and legalize casinos, live table games and sports betting. These operations are dependable sources of cash for governments across the world and present an attractive investment opportunity.
Directly buying casino company shares is risky and has historically led to large investor losses. Started in 1995, Table Trac (TBTC) allows us to participate in the growth and expansion in casinos across the world without taking the operational and leverage risk inherit in directly investing in casinos. TBTC sells management systems, software and technical support to casinos worldwide. TBTC has active relationships with over 100 casino operators in over 260 casinos worldwide. The US gaming market is highly regulated. TBTC is one of the only software providers to have state approvals to sell their product in multiple states including Nevada, Colorado, Minnesota, Iowa, South Dakota and Maryland. Outside the US, they sell in locations in the Caribbean, Australia, Central and South America. TBTC also has a strategic partnership in Japan, which will allow it to sell its software in Japan once the market opens up.
The Table Trac system includes real time automated table and slot machine monitoring, loyalty and marketing program monitoring, audit and accounting capability, vault and cage controls and business analytics. In addition, the system is designed to provide operators with a scalable and flexible system that can easily interconnect and operate with most third-party software and hardware. What started originally as a system to mange and control casino slot operations has evolved and expanded over the years to a comprehensive software system to manage virtually the entire operations of a modern casino. The Company targets small to medium size casinos for both tribal and commercial operators.
TBTC has grown rapidly over the past five years but the market opportunity remains huge. The American Gaming Association estimates that there are almost 1,000 casinos and over 16,000 thousand non-casino slot machine locations in the US. The Casino Management Software (CMS) market is a multi-billion market dominated by four large players: Aristocrat, Bally Systems, IGT and Konami. These huge competitors obviously control the market, but what is interesting is that CMS software business is a small part of their revenue, probably less than 5%. This presents an attractive opportunity for TBTC. It stays away from the huge casino operators and targets the smaller companies, not coveted by the big competitors, which it can service effectively.
What allows TBTC to effectively compete in this market?
1) As a small Company, TBTC can customize and integrate the software to meet individual customer needs, which the huge players have no interest in doing for smaller customers.
2) According to the Company, the TBTC system is at least 30% cheaper than the big competitor alternatives, while still providing the same or greater functionality. Unlike its competitors, TBTC does not charge for updates.
3) The software is on the leading edge of technology and is constantly updated. The Company holds three patents that provide some unique functionality: an automated table monitoring system, a feature that allows customers to control slot machines with their cell phones and a feature that automatically enforces social distancing.
4) Casinos are obvious targets for ransomware attacks and casino managements, obviously, have a high level of concern about this threat. The TBTC software has a significant competitive advantage in this area. Casino Trac is Linux based and not Windows based, like its competitors. This is important as hackers generally attack windows based systems, simply because that's the most common system. Secondly, Table Trac runs on one server and can easily be backed up by a secondary server if there is a problem with the first server.
5) Softwarereviews.com gives Table Trac the highest customer experience score of 9.7, versus 6.6 to 7.2 for its competitors.
So, we have a small Company with a highly desirable software program selling its software significantly below the price of competitive systems. This should translate into a strong competitive advantage and rising sales. The proof is always in the pudding! The second quarter results (quarter ending June 30, 2021) were not great as the Company installed only two systems and the distributors installed the program in 30 new locations in Australia, which do not have the margins of the US installations. But this is just a timing issue as the Company ended the quarter with a backlog of TWELVE new customer contracts to be installed in the third quarter! (This compares to only three contracts in backlog for the comparable quarter last year.) So, it appears that the Company is "firing on all cylinders" and third quarter results should be outstanding.
What makes the business model attractive is that it not only generates the one-time purchase revenue, but on-going maintenance revenue (which can be 2 to 3 times the value of the initial sale). As the business continues to grow, it generates a growing dependable maintenance cash flow. This should provide for tremendous operating leverage. If the Company can generate enough maintenance revenue to cover its fixed SG&A expenses, the margin for each new incremental sale will fall right to the bottom line! We think, TBTC is perhaps a year or two away from achieving this, but earnings should explode once this occurs as 65% plus sales margins will flow right to the bottom line.
Another opportunity that could be significant is the Japanese market, which contributes nothing to revenue currently. Casino gambling was approved in Japan in 2018, but no casinos have been built yet. In 2019 TBTC signed an agreement with the Japanese security firm Broadband Security. The agreement provides for Broadband Security to re-brand and adapt TBTC's software for the Japanese market. If successful, TBTC's software could become the standard software for casinos in the Japanese market. I have built nothing into my estimates for this opportunity.
First half 2021 results, which include the weak second quarter, consisted of revenue of $3.6 million versus $2.3 million last year, for a revenue growth of 60%. Net income for the period was $770k or $0.17 per share, versus $39k and $0.02, respectively last year. If we conservatively assume that the second half of 2021 is similar to the first half, which is extremely conservative given the strong backlog, the Company should generate at least $.35 in EPS in 2021. At a share price of $3.55, this would translate to a P/E of 10 and a TEV/EBIT of 6! We are paying nothing for the expected growth! Expecting $.50 of earnings in 2022 seems very reasonable as we move out of the COVID pandemic and the casino market continues to grow.
The Company's balance sheet is stellar. It has $3.6 million in cash ($0.79 per share) with less than $0.5 million in long term debt, which is not really debt at all as its a PPP loan which will almost certainly be forgiven. Its current ratio is 7.8 and its book value is $1.33 per share, assuming PPP loan forgiveness.
Its founder, Chad Hoehne, 58 years old, still runs the Company. He owns 26% of the shares outstanding. (The only other significant holder is Zeff Capital which holds a 9.9% position in the shares.) His total compensation is a very reasonable $337,000. This aligns his interest well with outside shareholders as his payoff will come in the appreciation of the shares and not from his compensation. On the negative side, the Board has only three members, including Mr. Hoehne, and is certainly controlled by Mr. Hoehne.
What is a reasonable valuation for these shares? The critical point is that it's significantly more than the current $3.55 share price. Would it be unreasonable for the shares to trade for 15 times a conservative estimate of 2022 earnings of $.50 per share? This would give the shares a value of $7.50 per share, more than double the current price! I leave it up to you to decide.
A significant concern here is obviously that TBTC is a micro cap with a market capitalization of only $16 million. The shares are not very liquid and must be purchased with patience and are probably only appropriate for personal accounts. In addition, the continued health and employment of Mr. Hoehne is critical.
The bottom line is that the shares are extremely undervalued, at ten times earnings, given the Company's market opportunity and growth profile. The CEO's interests are aligned with outside shareholder interests. Their product demonstrates clear competitive advantages and should do extremely well in a growing post-COVID gambling market.
The catalysts here are straight-forward:
1) Continued outstanding performance.
2) Discovery of the shares by the market.
3) Opening of the Japanese market.
4) Establishment of a dividend, once maintenance revenue covers operating costs.
5) Sale of the Company.
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