Light & Wonder, Inc.

Moat: 2.5/5

Understandability: 3/5

Balance Sheet Health: 3.5/5

Light & Wonder is a global gaming company focused on creating content, digital platforms, and land-based gaming systems, with a revenue strategy centered on recurring revenues and strategic acquisitions.

Investor Relations Previous Earnings Calls

The moat, understandability, and balance sheet health scores reflect a conservative evaluation to ensure a margin of safety in any assessment.

Business Overview

Light & Wonder (LNW), formerly Scientific Games Corporation, operates in the gaming industry, focusing on the creation of content, digital platforms, and gaming systems. Their business is divided into three primary segments: Gaming, SciPlay, and Lottery.

  • Gaming: This segment designs, manufactures, distributes, and services a range of gaming machines, game content, and systems, providing both digital and physical products to casino operators. It also includes table games, Electronic Table Games (ETGs), and other related products.
  • SciPlay: This social gaming segment develops and publishes a variety of free-to-play mobile and web games, such as Jackpot Party and Monopoly Slots, which have significant user bases globally.
  • Lottery: This segment provides instant lottery games, and manages lottery systems and services for government-run lotteries, in the U.S. and internationally.

Revenue Distribution

The company’s revenue streams are diverse, reflecting the various segments.

  • Gaming: Revenue is generated through the sale of gaming machines and equipment (including parts), as well as through participation and lease agreements.
  • SciPlay: Revenue is predominantly derived from the sale of virtual items in free-to-play games, with a focus on mobile and web platforms.
  • Lottery: Revenue is earned through contracts to operate lotteries, design and distribute instant and lottery games, and related services.
  • Other: Other revenues include sales of proprietary products and parts.

The company’s shift toward recurring revenue streams is a strategic move. It makes them less susceptible to economic cycles and more predictable. Recurring revenue streams include digital game sales, systems and software sales, and lottery contracts.

The gaming industry is undergoing significant transformation, mainly driven by technological advancements and changing player preferences.

  • Digital Gaming: Growth in online and mobile gaming is rapidly increasing, pushing companies to develop digital platforms and games that can offer enhanced player experiences.
  • Consolidation: The industry is seeing consolidations, acquisitions, and mergers, allowing large players to gain economies of scale, and control over a greater portion of the market.
  • Regulation and Compliance: Gaming is heavily regulated, and companies need to be fully compliant with regulations and licencing to be able to operate.
  • Technology Innovation: Innovation and new technology are key components for survival in this industry.

Competitive Landscape

LNW operates in a highly competitive environment with several large and emerging players.

  • Gaming: Competitors like International Game Technology (IGT), Aristocrat, and Konami are established players with a strong presence. The gaming segment is also seeing competition from smaller startups in the digital and gaming machine categories.
  • SciPlay: This space sees companies like Playtika, Aristocrat (also in this segment), and NetEase. The free-to-play mobile gaming segment is competitive and relies on high user engagement to sustain profitability.
  • Lottery: Competitors in this space are often other large-scale global suppliers that also have strong relationships with government lotteries.

What Makes LNW Different?

While LNW operates in competitive sectors, they have several differentiating characteristics.

  • Strong Portfolio of Brands and Content: LNW has a vast portfolio of recognizable brands and game content from all three business segments. They also have a strong IP portfolio which is a significant barrier of entry for others.
  • Global Scale: LNW is a global business with a presence in most parts of the world. Their diversity in markets allow them to cushion the effects of economic cycles on one region or market.
  • Integrated Offerings: As a unified business, LNW is able to offer a combined approach of content, gaming systems, and lottery solutions. This allows LNW to be more flexible in its offerings and serve clients more efficiently. They have a broad product portfolio that is capable of meeting the needs of several categories of the market.
  • Focus on Recurring Revenues: The strategic shift toward recurring revenue streams has allowed the company to have more predictable earnings and less sensitivity to the cyclicality of its markets.
  • Digital Platform: LNW has a strong position in the development of the gaming platforms as well as content. They are one of the industry’s leaders in this.

Financials In-Depth

Revenue Trend: The company’s revenues grew to $2,431 million in 2022, a 6% increase year-over-year from $2,285 million in 2021, as the effects of the pandemic began to subside. Revenue also grew by 3% in 2023. However, revenues are still below the pre-pandemic levels seen in 2019 ($2,541 million). This growth was primarily driven by stronger results in the Gaming and Lottery segments. As the company continues to invest in its digital platforms and content, revenue streams should continue to strengthen, with a focus on recurring revenue strategies.

Profitability: In 2022, Light & Wonder had a net loss from continuing operations of $(178) million, compared with a net income of $112 million the previous year. This is largely attributed to impairment charges and acquisitions. For 2023, they had a Net income of $26 million. Net income margins for the previous couple of years have been impacted by unusual one-off losses due to debt and acquisitions. There is room for improvements in profitability when these factors stop skewing results. EBITDA improved to $800 million and $471 million in 2023 and 2022 respectively, representing a 20 percent margin.

They have made a conscious effort to improve margins, and their long term target is around 20 percent. As they improve the business with strategic actions and investments, the operating margin is expected to reach that level. They are focused on high-margin businesses rather than volume. This is why their profits are improving faster than revenues in recent years.

Free Cash Flow: The company generated free cash flow of $326 million in 2022 and $428 million in 2023, however free cash flow for 2022 was distorted by a large increase in restricted cash. Adjusted free cash flow for 2022 was $496 million. However, FCF has generally been quite volatile in recent years and depends heavily on new acquisitions and one-time changes.

Return on Invested Capital (ROIC): LNW’s ROIC has improved in the last few years, going from around 2.5 percent in 2021 to 8 percent in 2022. For 2023, it was roughly 12%. This is a significant improvement that shows the company has had success in creating a higher return for its investors by implementing its strategy and improving its operating performance. ROIC has fluctuated greatly in the previous years from -10 to over 10 percent.

Liquidity and Solvency: The company’s cash and equivalents increased to $675 million in December 2023, after ending 2022 with around $590 million, and this can greatly help the company handle any adverse financial developments. They have a very large amount of debt (5.7 billion USD), however, with a target credit rating of around BBB-, they will try to address the debt and improve their capital structure in the future.

  • Debt: The company has had significant amounts of debt due to a large amount of acquisitions and investments. The total debt has ballooned over the past couple of years. The debt levels will require constant management, and their cash flows will have to be monitored carefully to ensure the company’s financial health. They plan to reduce debt using the free cash flow they generate.
  • Equity: They are also consistently diluting shareholders equity with stock buybacks and compensation programs. This is important to keep track of as it could have an impact on the value per share of stock.

LNW’s balance sheet shows a lot of changes due to acquisitions. While many of these are good for future revenues and profitability, they need to be closely followed as it can lead to uncertainty and confusion among investors.

Moat Analysis: 2.5 / 5

Based on the analysis, we believe that LNW has a narrow, rather than wide, moat, which makes it somewhat durable over the long-term.

  • Intangible Assets (Brands, Patents, Licenses): LNW possesses a strong portfolio of intellectual property, particularly in branded game content and systems. However, it does not have the long term hold of a few select companies. This is a source of strength, but not quite as powerful or consistent as some of its well established competitors.
  • Switching Costs: They have significant switching costs with their recurring contracts with lotteries, and also the tightly integrated business with casinos and other gaming venues. They are also building switching costs in the online gaming segment. This is a meaningful moat, however, it has yet to be seen if this strategy will work out over the long term.
  • Network Effect: LNW does not currently benefit much from a network effect. However, they are trying to expand into the digital marketplace, which could allow them to leverage a stronger moat with network effects.
  • Cost Advantages: Although LNW is capable of producing at large volumes and also has a strong distribution and sales network, they don’t really have a meaningful cost advantage that could be a reliable driver for value creation.

Legitimate Risks to the Moat and Business Resilience

  • Technological Disruption: Fast-paced innovation and technology adoption in the gaming industry present a significant risk, as new technology can create a more attractive, cheaper alternative to their product. They are heavily focused on digital, but must be able to compete with newer emerging players in this segment.
  • Regulatory Changes: The highly-regulated nature of gaming exposes the company to unexpected legal and regulatory shifts. Changes to tax laws, limitations on gaming operations, and new licensing requirements could negatively impact the value of their business.
  • Economic Downturn: Economic downturns often lead to reduced consumer spending and, in turn, could impact the sales of gaming machines or other services and the company’s revenues.
  • Intense Competition: Highly competitive environment with many other players in their various sectors could limit revenue growth and margins, squeezing their profitability.
  • Integration of Acquisitions: The company has made many acquisitions which require successful integration of personnel, systems, and operations to realize synergies. Failure to integrate can significantly hurt the operations of the business.
  • Debt Overhang: LNW has a large amount of debt that it needs to manage and reduce in order to stay financially flexible.
  • Reliance on Key Talent: There is a risk that one or more employees could leave the company for another opportunity, thus negatively impacting operations.

Understandability: 3 / 5

The core parts of the business are easily understood, particularly the gaming and lottery segments. The technical specifics of gaming systems, software, and emerging tech such as VR and AI add complexity to the business, making the understanding more difficult. The shift from simple gambling to a complex technology provider is still underway. A higher level of analysis, along with consistent changes to the business, requires that investors track the progress carefully.

Balance Sheet Health: 3.5 / 5

LNW has a mixed financial profile. Their debt levels are high, but they have access to revolving credit lines, which may help them should they need funds quickly. A large portion of debt is due to acquisitions in the recent years. They have improved free cash flows, however, it has been inconsistent. The company is making great progress in improving ROIC, and their goal is to reduce debt as time goes by. However, high debt levels make the company less resilient to adverse effects in their market.

Overall, LNW is a solid company that has many exciting growth possibilities. However, the high debt levels and the cyclicality of its different markets, still leave some concerns. The moat is improving and the shift to recurring revenue streams should improve business and profitability over time.