Sky City spins the wheel of fortune - Tuesday 12th of July 2005

Sky City Entertainment investors have enjoyed a glittering roulette ride of rising share prices and chunky dividends, but clouds are on the horizon. David Hargreaves reports.

For casino company Sky City, next months annual result announcement shapes as a pivotal moment.

An increasingly restless market is hoping the company can answer the pointed question of whether it is able to put a static year behind it and signal renewed growth. If it can do that, it might be able to put renewed life into a stagnating share price and dampen some of the talk it is ripe for a takeover.

Sky City, operator of casinos in Auckland, Darwin, Adelaide, Hamilton and Queenstown, has already indicated earnings of between $100 million and $103 million for the June year just ended. That compares with steadily escalating earnings of $85.1 million, $107.2 million and $121.1 million in the past three years and follows a downgrade of this years profit of up to $19 million made by the company in May.

The company and its main cash cow - the Auckland casino, which provided about two-thirds of Sky Citys nearly $600 million revenue in 2004 - are having to face up to an increasingly stringent regulatory environment. The Gaming Act, passed in 2003, put for the first time a strong emphasis on gambling harm prevention. In its wake have come measures such as $20-note limits on pokie machines, and in October "pop-ups" will become compulsory for new pokies. These are messages that will appear on screens of people who have been playing for longer than half an hour, telling them how long they have been on the machine and how much they have won or lost.

On top of this is the smoking ban. Sky City has had to concede that the ban is hitting business harder than it thought. This and problems with the ticketing technology aimed at offsetting the impact of note limits on pokies were behind the profit downgrade.

The new laws say no new casinos can be built in New Zealand. Additionally, existing ones cannot increase numbers of pokies or gaming tables. So Sky has been looking for acquisitions to help maintain revenue and earnings growth.

AdvertisementAdvertisementTo date it has struggled to improve the performance of the Adelaide Casino, bought in 2000, but is pinning hopes on a $A70 million ($NZ78 million) refurbishment. of which the first stage was completed just before the end of the financial year. Indications are the Darwin Casino, bought for $A195 million last year, is doing pretty well.

So in short, what the company says next is important.

An immediate concern of the market will be the level of final dividend. Sky City has been paying out a hefty 90 per cent of after-tax profits to its widespread register of 25,000-plus investors. This years interim dividend was 12 cents a share, up from 11c a year earlier.

But the increased half-year payout was made when the company believed it could achieve full-year profits of closer to $120 million. If Sky City was now to pay out a final dividend based on about 90 per cent of actual earnings, then this would be about 10c a share, slashed back from 15c last year.

Clearly a reduction in total dividend payout for the year of perhaps 20 per cent would not be a good look. So will the company bite the bullet, signal that this years performance was a blip and match or better last years dividend anyway, as a gesture of faith in the future?

Analysts forecasts for Sky City profits in 2006 range from $98 million to $109 million, but there is a lot of uncertainty. Views are split on whether the company can recapture the sort of momentum that more than doubled its share price between 2000 and 2003.

Macquarie Equities investment director Arthur Lim sees Sky City as an "ex-growth" stock.

He points out that for two years its share price has lagged behind the New Zealand Exchanges main share index, which has grown about 50 per cent in that time. He also cites issues such as the relatively flat performance of the Adelaide investment as "one of the reasons why some of the investors have been getting a bit cynical about the growth strategy". Others are more positive toward the forthcoming profit announcement.

"The major issue is, what statement on the future will they make?" ABN Amros head of research James Miller says. "How confident are they that the business will grow going forward?"

Others who may well be interested include some of the big predators in the gaming industry, such as Kerry Packer and Tabcorp.

Queensland-based Unitab recently took a 0.5 per cent stake in Sky City, provoking a 10 per cent surge in the companys share price. Signs are this may have been a friendly gesture, two companies getting closer as a defensive move. But with a total value of just over $2 billion, Sky City would be a feasible takeover target.

"Anything that has got a completely open register has to be potentially a target," Forsyth Barr analyst Jeremy Simpson says.

The added attraction of Sky City is the fact that no more casinos can be built.

"With Sky City you are buying assets that cant be replicated."

Mr Lim, however, does not see the company as a target. "At the current price, where is the value addition going to come from?"

He also says Australian gaming operators pay far higher tax rates than those in New Zealand, where the basic rate is 4 per cent plus gst on gross earnings. That is before company tax is paid.

If Sky City was taken over by an Australian company, the New Zealand Government could "with one stroke of the pen" raise the level of taxation.

"Would Australian companies want to be put in that position?"

Other analysts, however, say that further consolidation in the Australasian gaming industry is inevitable and Sky City will be a part of that.

Whether that will be as a predator or a target itself should become clearer in future months.

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