Iao Kun Group Holding Co Ltd fka IKGH

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Analyst lowers estimates

Iao Kun Group Holding Co. Ltd.
Lowering estimates and price target due to market checks
citing rising agent commissions
Our Call
Macau checks continue to cite elevated junket agent commission trends. As such,
we adjust IKGH forward margins lower. Our CY14/CY15 EPS estimates go to
$0.29/$0.51 from $0.45/$0.71. Our CY14/CY15E free cash flow per share is now
$0.55/$0.66. We lower our target price to $5 from $6.25, based on 9.0x/7.5x CY14/
CY15E free cash flow per share.
Island contacts suggest “cash agents” are increasing in mix, as are overall agent
commission requirements. Relevant agents are capable of working with several
promoters, some of which host VIP rooms in the same casino facility. While strong
promoter services and relationships can offset some agent “commission fishing,”
they do not completely offset it. As a result, market-wide promoter margins have
been thinning as promoters look to maintain/gain market share.
IKGH is not immune to the aforementioned market trend, in our view. Already,
IKGH has stated it will seek to work more aggressively with cash agents, paying
higher commissions as a percentage of generated rolling chip turnover. IKGH’s
cash agent initiative should result in longer-term higher rolling volume, equating
to more gross dollars, even under suppressed margins. However, until IKGH also
loosens its credit policy toward higher-risk/non-cash credit agents, we see margin
compression outweighing potential increases in roll from acquired cash agents.
Given days sales outstanding have been growing for most promoters in the Macau
marketplace, we do not see a loosening of credit to non-cash agents by IKGH in
the immediate future.
Our new CY14/CY15E EPS of $0.29/$0.51 compares to consensus of $0.63/$0.69.
Changes are almost entirely due to an adjustment for higher commissions to agents,
though we did temper our rolling chip turnover (top-line generation) until there is
evidence that IKGH will loosen credit. 4Q14 EPS goes to ($0.13) from ($0.02) and
vs. consensus of $0.09, due to lower than theoretical hold results; IKGH releases
hold and rolling chip turnover monthly, so we view our 4Q adjustment as expected.
We retain our Buy rating given IKGH carries: 1) close to $3 per share in cash;
2) a ~20% free cash flow yield; 3) remains on track for a 1H14 HK Listing by
Introduction, a potential catalyst; 4) strong shareholder capital return policies –
15% of EBITDA to be paid as dividends, and we believe, possibilities for special
dividends beyond that; consistent share repurchases; 5) upside potential from a
longer-term mix trend back to credit versus cash agents followed by 6) increased
credit lines and revenue share splits from casinos. We also believe IKGH is in a
position to diversify its cash flow into higher stock multiple businesses, should
high ROI projects arise, given its financial strength

http://files.shareholder.com/downloads/ABEA-5LCMIQ/2951235367x0x724641/5EFDA4D2-28F6-4387-B0F8-CE667523AF6B/2014-02-10_IKGH_Sterne_Agee_Lowering_estimates_and_price_target_due_to_market_checks_citing_rising_agent_commissions.pdf