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Gaming Partners International: Hardly a Gamble

September 30, 2011 | About:
Gaming Partners International Corp (NASDAQ: GPIC) is a manufacturer of counterfeit-resistant casino chips enabled with RFID technology. GPIC sells these chips and other gaming products (table layouts, playing cards, furniture, etc) to casinos worldwide. I have owned GPIC in the past, and it is with great interest that I noted its share price descending in recent weeks. The company appears to be once again in value territory. The company trades at a market capitalization of around $51 million, but holds cash & securities (net of a very small amount of debt) of $27 million. On an ex-cash basis, the company trades at a Price to Free Cash Flow (using 3 year average FCF) of just 3.68x. Given the decline in price, I thought it would be worth looking at GPIC once again.

Takeaway #1: Entrenched Sales

GPIC’s products are used in the operation of casino games and constitute a relatively small portion of its casino clients’ overall expenses. Once a casino selects a supplier, that supplier becomes entrenched both because of the high switching costs and relatively small benefit of switching Thus the supplier benefits from both the large initial sale for stocking a casino with a product as well from the ongoing sales to replace products as they wear out. GPIC notes in its 10-K:

The majority of our products are specifically designed and produced to meet our customer’s requirements, whether they are related to branding, aesthetic appeal, or security. Our ability to produce products with a variety of styles and features, in combination with years of reliable delivery, enhances our competitive position. When a new casino opens, we strive to supply all the products in our line to operate the casino’s table games. Through this strategy, revenues are generated both from the initial sale to the new casino and on a continuing basis as the new casino becomes part of our customer base.
One would expect GPIC’s sales to track the gaming revenues of its casino clients, and grow both as a result of increased gaming revenues and by the addition of new clients.

Takeaway #2: Competitive Advantage

Though GPIC sells a variety of products, its largest product line is Gaming Chips, which constitutes 65% of the company’s sales. The company has a competitive advantage in that its chips are technologically superior to those of its competitors. GPIC’s chips have Radio Frequency Identification (RFID) technology, which effectively eliminates counterfeiting while alow allowing for immediate tracking and counting.

GPIC’s RFID technology is protected by patents that it either holds directly or has exclusive license to. This means that its competitors are attempting to compete with inferior security technology (such as laser engraving and ultraviolet marking – see here and here for examples) which does nothing in terms of speeding up the counting and tracking process. Is it any wonder why GPIC is the market leader in gaming chips?

It is worth noting that some of GPIC’s licensed patents expire in 2015, though remember, once a casino selects a supplier, there is often little reason to incur the major expense of shifting suppliers in the future. For every client that GPIC wins in the meantime, that is a client that will be unlikely to switch later on. GPIC is in the enviable position of having a competitive advantage that should lead to a long-term royalty stream, even once that competitive advantage erodes.

Takeaway #3: Growth Potential

GPIC has traditionally focused on the North American and European markets. In December 2010, the company established its first office in Macau (the gambling enclave located just 40 minutes by ferry from Hong Kong which has surpassed Las Vegas as the world’s biggest gambling market by gambling revenues). Unlike the relatively mature North American and European markets, the Southeast Asian market is still in its infancy, with growth both in Macau and elsewhere (Vietnam, Thailand, Cambodia, Philippines, Indonesia, etc). GPIC is positioning itself to dominate in these markets as it has in its existing markets.

Here’s the company’s backlog by market over time.

GPIC-Backlog-1024x644.pngGambling Partners International Corporation - Backlog, 2003 - 2Q 2011

As you can see, the European market (GPI SAS, based in France) has become a larger market in recent years and that Asia is only broken out since they established their Macau office. It will be worth watching to see how its Asian business expands. Not shown on this chart is that the company was also awarded a $3 million order (and likely years’ worth of ongoing sales) by the massive new Sands Cotai project in Macau.

Takeaway #4: Rock Solid Balance Sheet + Solid Free Cash Flow = Not Going Anywhere

As noted above, the company has effectively no debt (just $40,000 worth) versus a massive hoard of cash and securities ($27 million).

GPIC-Capital-Structure-1024x629.pngGambling Partners International Corporation - Capital Structure, 1997 - 2Q 2011

Also as noted above, the company is trading at a very low multiple of free cash flow. The follow chart shows the company’s free cash flows.

GPIC-Free-Cash-Flow-1024x596.pngGambling Partners International Corporation - Free Cash Flow, 1997 - 2Q 2011

Though the company’s free cash flow dipped in 2006 and 2007, its average from 2004 – 2010 is $3.18 million per year, which translates to a yield of 13.25% on an ex-cash basis. With strong free cash flows, no debt and a competitive advantage that should last through 2015 at the earliest, it is difficult to conceive of a way of killing this company.

Takeaway #5: Dirt Cheap Valuation

In valuing GPIC, I looked at a variety of scenarios for future revenues. In my bearish scenario, I assume that current macroeconomic weakness affects its mature markets to such an extent as to outweigh the positive growth in Asia. In my bullish scenarios, its mature markets are relatively stable and its Asian sales lead the company to modest growth. I assume that current margins revert to the mean in the near term. In all of my scenarios, the company is undervalued, and significantly so in many of the scenarios I consider most realistic. Given the company’s massive cash balance, it wouldn’t be unreasonable for the company to begin a share repurchase program (I would much prefer this over a dividend).

One more thing. The company is controlled by two shareholders, Elisabeth Carrette, who owns 49.69% of the company and Eric Endy who owns 3.39%. Each are party to an agreement granting the right to first refusal should either wish to sell their shares. Ms. Carrette’s ownership level may be the reason the company has not completed a share repurchase (even a modest repurchase program would push her into a 50%+ position, which would give her actual control, though she likely has effective control right now).

What do you think of GPIC? Let me know in the comments below.

Author Disclosure: No position, but may initiate within 72 hours.

About the author:

Frank Voisin
Frank is an entrepreneur who owned four restaurants by the time he was twenty. He sold his businesses and returned to school, completing a concurrent Law / MBA degree. At the same time, he successfully completed all three levels of the CFA exams. He now invests full time with a focus on value investing. Frank Voisin writes about value investing topics at http://www.frankvoisin.com.

Visit Frank Voisin's Website


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