Penn Entertainment Could Go Either Way In 2023 (NASDAQ:PENN)

PENN Entertainment, Inc. (NASDAQ:PENN) just reported its latest earnings, and while doing fairly well in the quarter in light of the weak economic environment it’s operating in, heading into 2023 there are a lot of challenges the company faces that could frustrate expectations of meeting its guidance.

Weakness in the Pennsylvania market is unlikely to abate, which means other markets and segments of the company will have to more than offset that declining market in order to perform as expected.

The share price of the company got a nice bounce after the earnings report but has already dropped to close to where it was before the report. I think the reason there is concern over the overall economy as 2022 winds down and 2023 approaches.

In my view, the bottom line is the level to which the company’s customers tighten their wallets, and how that’ll impact how much they spend, specifically in relationship to its online businesses.

We’ll look at the headwinds associated with high interest rates, inflation, and the ongoing recession that, if it worsens, will be detrimental to PENN over the next year.

Latest earnings

In the third quarter, PENN reported revenue of $1.6 billion, up 7.5 percent from the third quarter of 2021. The company reiterated its full-year guidance of revenue for 2022 to finish in a range of $6.15 billion to $6.55 billion.

Net income in the reporting period was $123.2 million, up 7.6 percent from the $86.1 million in net income reported last year in the same quarter. Revenue and profits exceeded market expectations.

Adjusted EBITDA was $440.4 million, up 20.9 percent year-over-year. Full-year EBITDA is projected to come in at the previous guidance of $1.875 billion to $2 billion.

As for its balance sheet, it ended the quarter will a cash balance of $1.7 billion, and $2.7 billion in liquidity. Concerning debt, it was noted that 85 percent is at a fixed rate, with the nearest maturity date not due until 2026.

Under its share price repurchase authorization, PENN repurchased $168.00 million in common stock at an average of $31.40 per share. PENN maintained its prior guidance, although depending on macro-economic factors outside of its control, it could struggle to achieve it, depending on factors like the depth and length of the current recession, inflation, interest rates, and the actions the Federal Reserve takes over the next couple of months in particular.

Share price performance and implications

PENN has a 52-week low of $25.49 and a 52-week high of $70.90. Since November 1, 2021, it has plunged from its high to its low on September 19, 2022. Since May 9, 2022, it has continued to trade flat, trading in a range of approximately $26.00 per share to $37.50.

Since trading at a low of about $27.50 on October 19, it has had a nice bounce to about $34.50 on November 2, 2022, before pulling back to $31.15 at the close of trading on November 3, 2022. That was in response to the earnings report.

Nonetheless, macroeconomic concerns remain the concern for PENN, and at this time it appears things are going to get worse before they get better, as I think there will be at least a couple of more interest rate hikes that will bring it to around the 5 percent level. At that time, because of the cost of servicing the $31 trillion in U.S. debt, the Fed will be pressured to ease up on the hikes. How much inflation has fallen by then will determine its response.

For these reasons, there is a lot of uncertainty for companies like PENN because of the response of its customers to a declining economy. Under those circumstances they’ll cut back on spending and focus on taking care of needs rather than wants.

We have no idea how this will play out going forward, and for that reason I don’t think PENN’s share price is going to break out in a sustainable way anytime soon.

Some strengths and weaknesses in its segments

Unsurprisingly, revenues in its online gambling business continue to climb, led by the male demographic in the age range of 21-to-44.

On the other hand, betting in person at slot machines and table games, specifically at its Grantville property, continues to drop. Revenue from slots were down 20 percent in July and August, and another 12 percent in September, to $12 million. Live table games revenue as off 3.64 percent in September to $2.1 million.

Its Washington property “The Meadows” also lost share. The decline in revenues is directly related to increased competition, especially in Pennsylvania; a number of new brick-and-mortar businesses are also opening in the state, which will put further pressure on the company. So far its newer businesses in New York and Morgantown are doing better.

PENN will have to find ways to offset its declining performance in the Pennsylvania market in order to meet its guidance, in my view.

Its online revenues from sports betting and Internet gaming continue to do well, climbing to $65.9 million at Hollywood Casino at Penn National Race Course.

The company introduced 226 new third-party games across all its platforms, which seems to have a positive impact on the huge Ontario market, which should be a potential tailwind for the company in its iCasino business. CEO Jay Snowden he’s encouraged by the iCasino results in Ontario, including retention of KPI’s in the market.

Even though CEO Jay Snowden said profits made will be “reinvested into the company’s existing properties,” its Penn National Gaming Inc. has plans to acquire a Detroit-based casino for $300 million.

Outside of that, it appears the company, for now, isn’t interested in adding to its physical properties at this time. Building out its lucrative online business and focusing on its existing brick-and-mortar businesses will be its focus in the future. That will probably change once economic conditions improve, but for now, that is the way investors should few the strategy of PENN.

As for investment in current physical locations, it is allocating $850 million to moving its riverboat properties to Aurora and Joliet, Illinois, while expanding its M Resort that is located a few miles south of the Las Vegas Strip.

Conclusion

For the economic conditions PENN is operating in, it isn’t doing too bad. But even though its online casino business is showing promise, its physical locations are going to face more challenges if economic weaknesses continue, and the recession goes deeper for longer.

That and the uncertainty surrounding the Fed’s response to inflation in the near term are definitely negative catalysts that could disrupt the company’s guidance and outlook.

The fact is we really have no idea how this is going to play out. If inflation falls and the Fed pivots, PENN could outperform its guidance. If a deep and prolonged recession occurs, then I have no doubt it’ll underperform its guidance.

Until there is more clarity there, I think PENN’s share price is probably going to continue trading on the low end of its recent range; probably between $26.00 and $32.00 per share. And if it does move significantly either way on those numbers, it isn’t likely to be sustainable under current known economic conditions.