Description

As I was finalizing this write-up Tsogo Sun Gaming (TSG.JSE) published a trading statement (May 23) which sent the share up 12%. My buy recommendation was partly based on gaming this earnings surprise, however, I feel there is a lot of runway left in this covid recovery play. 

The current price is R12.50 and my target price ranges between R17 and R24 a share. I plan to refine this range when TSG report earnings on May 26, 2022.

Business Description

Tsogo Sun Gaming (TSG) is a South African listed casino operator. It owns 13 casinos scattered around South Africa operating 357 tables and 9 385 slots. It also operates 25 Electronic Bingo venues as well as 1 114 sites housing 6 183 Limited Payout Machines (LPM’s). The also own an online gaming operation https://www.bet.co.za/sports/.

All these operations require licenses which helps insulate these operations from competing for their mathematically challenged customers.

Enterprise Value

Recovering Earnings Power

The table below shows the Revenue and EBITDA generated by the casinos in each province. Covid and various lock down restrictions hit South Africa between March 2020 and December 2021. These are clearly reflected in the numbers with revenues falling to R5.6bil versus pre-covid levels of R11.6bil.

TSG last reported results for the 6 months ended September 2021. Since this report lock-down restrictions have lifted, and the operating hours of casinos have gradually been returning to normal.  

Investors have been able to monitor this recovery in real time using gaming stats published by the regulators on a monthly or weekly basis. 

Half of TSG’s EBITDA is generated in the Guateng Province which publish gaming numbers on a weekly basis. The data shows that GGR has largely returned to pre-covid levels. https://www.ggb.org.za/stats/

Gaming Revenues in the KZN province, 30% of TSG’s EBITDA, have also recovered to 95% of pre-covid levels. 

While revenues have recovered, the management team remain focused on cost efficiencies. Covid forced the management team to cut costs to protect the business. This exercise highlighted areas of waste and many of these costs are not coming back. 

I expect that the “new TSG” will generate pre-covid revenues on a lower expense base which will obviously enhance the earnings power and value of the assets.

Covid also put capex under the microscope. The waste will not come back easily which will boost the free cash flow generated by the business. This could be used for dividends or to repay debt. 

Another reason these costs are not coming back is the appointment of a new CEO (Chris du Toit) in July 2019. The previous management team liked to spend, and Chris was hired to focus on stripping out costs. He has done a good job and is very impressive in this role. 

Target Price

The shape of the “new TSG” will become more visible in the 2H ending March 2022. These results will be reported om May 26, 2022. 

As mentioned above a trading statement was published May 23, 2022, which indicated that TSG earned 80c in the 2H despite lingering covid restrictions. Annualizing the 80c implies that TSG is on track to easily earn R1.60 per annum. This implies a PE of 7.9 on a R12.50 share price. 

PE

The Median PE for gaming stocks in South Africa is 15. That implies a target price of R24 assuming earnings of R1.60.

EV:EBITDA

The earnings guidance provided on May;23 implies an EBITDA run-rate close to R4bil per annum. Using an average EV/EBITDA ratio of 6.8 implies an EV of R17 500mil. Subtracting R9 700mil in debt gives a market cap of R17 500mil or R16.70 a share.

Catalyst

TSG report on May 26, 2022. This is an important result as it is the first-time investors get to see what a post-covid TSG could looks like.

I think my bet on a R4bil EBITDA run rate is reasonable, but, obviously I will have more clarity on my guess when the results are published. I will share my findings and refined valuation after analyzing these results in the meantime I show my initial calculations in the following table.  

Conclusion

The new shape of Tsogo Sun is on track to generate pre-covid level revenues on a reduced cost base. This will enhance the earnings power of the assets and boost the free cash flow that the business can generate. 

These factors should boost the share price which has already started to track higher following the trading update on May, 23.

Catalyst

TSG report on May 26, 2022. This is an important result as it is the first-time investors get to see what a post-covid TSG could looks like.