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November 30, 2010
Supreme Ventures Limited Tough local & global environment leads to 30% profit drop
COMPANY OVERVIEW
Supreme Ventures Limited is a limited liability company
incorporated in Jamaica and listed on the stock exchanges of
Jamaica and Trinidad and Tobago. The company is the leading
provider of lottery and gaming operations in the Caribbean and
also provides remittance and cambio services.
Management & Corporate Governance
SVL utilizes a 10 member board which is chaired by its co-
founder, Paul Hoo. The company has adopted a corporate
governance charter, seeking to maximize shareholder value by
reducing conflicts of interest that may sully efforts to utilize
company resources in the best interest of stakeholders.
The board however has only 3 (30%) members that are
independent versus the international best practice standard of
75%. Many of the board members also hold directorships of
three or more companies which is also conflicting with global
best practices.
KEY FINANCIAL STATS 6M 2009 6M 2010
$’000 $’000
Revenues 12,329,990 12,460,853 ↑ 1.1%
EPS 12.66¢ 8.86¢ ↓ 30%
Equity 3,039,416 3,346,696 ↑ 10.1%
SVL SHARE PRICE/V LUME CHART
STOCK DATA
Market Cap ($’000) 5,722,843.19 Shares Outstanding 2,637,254,926
Free Float 16.53%
Trade Volume 9,200
Hold Price at 30 November 2010 $2.17
Price Target $2.18
52-Week Range $1.80 – $2.90
SEGMENT OVERVIEW
The company derives its revenues from four main business lines, namely Lottery,
Gaming and Hospitality, Financial
Lottery
Lottery revenues are generated from sales of the
company’s lottery games Cash Pot, Lotto, Lucky
5, Pick 3, Super Lotto, Dollaz, and WinQuick
For the six month period ended June 2010, the
lottery segment accounted for 87% of
and generated $359 million in operating profits.
The Cash Pot game is the major revenue earn
for this segment and accounts
80% of total lottery revenues,
aggregate.
Sales growth throughout the period has been
new games, and also enhancements to existing games to increase appeal.
LOTTERY SALES (excl. Cash Pot)
0
500,000
1,000,000
1,500,000
2,000,000
2,500,000
2005 2006 2007
Lucky 5 Dollaz! Lotto Pick 3
2
its revenues from four main business lines, namely Lottery,
Financial Services, and Pin Codes.
Lottery revenues are generated from sales of the
company’s lottery games Cash Pot, Lotto, Lucky
, Dollaz, and WinQuick.
For the six month period ended June 2010, the
lottery segment accounted for 87% of revenues
and generated $359 million in operating profits.
The Cash Pot game is the major revenue earner
accounts for approximately
80% of total lottery revenues, while Pick 3 and Lotto account for 15% of sales in
Total revenues for the lottery
segment have grown at a
compounded annual growth rate
(CAGR) of 15.9% since 2005,
amounting to $24.7 billion
2009 financial year.
Sales growth throughout the period has been driven by marketing, the introduction of
and also enhancements to existing games to increase appeal.
CASH POT SALES
LOTTERY SALES (excl. Cash Pot)
2007 2008 2009
Instant Bingo Super Lotto
its revenues from four main business lines, namely Lottery,
Pick 3 and Lotto account for 15% of sales in
Total revenues for the lottery
segment have grown at a
annual growth rate
of 15.9% since 2005,
amounting to $24.7 billion for the
by marketing, the introduction of
3
Gaming & Hospitality
Income from the Gaming & Hospitality segment is attained from Video Lottery Terminal
games offered at its Acropolis and Coral Cliff gaming lounges, and also from revenues
derived from room, restaurant, and guest services offered at these lounges. The company
has also recently released a sports betting product called JustBet.
Revenues from this segment have grown
24.2% on an annually compounded basis
since 2006 and accounted for
approximately 4.6% of SVL’s total
revenues as at 2009. Operating profits
from this segment however have been
difficult to come by and as a result the
company has had to close its Villagio
lounge and rationalize operating hours for two of its other lounges due to faltering
patronage.
Financial Services
The Financial Services division comprises Cambio services and remittance services
offered by its MoneyGram operation which
has the largest agent base in the country.
GAMING & HOSPITALITY REVENUES
REMITTANCE GROWTH (12M moving average)
FINANCIAL SERVICES REVENUES
0
200,000
400,000
600,000
800,000
1,000,000
1,200,000
1,400,000
2005 2006 2007 2008 2009
-15%
-10%
-5%
0%
5%
10%
15%
De
c-0
6
Mar-
07
Jun
-07
Se
p-0
7
De
c-0
7
Mar-
08
Jun
-08
Se
p-0
8
De
c-0
8
Mar-
09
Jun
-09
Se
p-0
9
De
c-0
9
Mar-
10
Jun
-10
Se
p-1
0
0
50,000
100,000
150,000
200,000
250,000
2005 2006 2007 2008 2009
4
The segment accounts for less than 1% of SVL’s total revenues and has seen annually
compounded growth of approximately 32% since 2005. This segment is highly dependent
on the level of remittances coming into the country and tends to falter when economic
forces put downward pressure on remittance inflows.
Pin Codes
SVL earns income from the sale of pin codes
for mobile phone credit through its agent
network. Sales from this segment contribute
the second most to revenues and have moved
from $550 million in 2005 to $1.9 billion in
2009, a growth rate of 36%. Movement in
this division can be attributed to the growth in
the usage of mobile phone credit over the
period as well as the company’s expanding agent network over the period.
PIN CODE REVENUES
0
500,000
1,000,000
1,500,000
2,000,000
2005 2006 2007 2008 2009
5
MACROECONOMIC OVERVIEW
The lottery products that SVL provides are discretionary in nature and as such are highly
dependent on the state of the overall economy and its impact on consumer disposable
income. This said, the Jamaican economy has grown at an average rate of 1% between
2000 and 2009, with growth being perpetually hindered by a confluence of factors
including the exorbitantly high levels of crime and debt, and also natural disasters. The
global financial crisis of 2008 has also played a role in the country’s anemic performance
over the past 2 years, through its adverse impact on exports and aggregate demand.
For the period January to June 2010,
the country experienced a contraction
in real GDP of 1.5%. This partly
reflected the effects of the
unfavourable weather conditions and
the protracted global downturn which
continued to hurt both the goods
producing and service sectors.
Inflation for the period was 6.8%, and was spurred by movements in the Food and Non-
Alcoholic beverages division,
increases in the price of oil, and tax
increases.
The unemployment rate as at June
2010 stood at 12.4% and represents a
high not seen since December 2002.
The high unemployment level
largely reflects the falloff in
production seen for the past several quarters.
REAL GDP GROWTH
INFLATION
6
These negative indicators were all reflected in SVL’s slender revenue growth of only 1%
and a decline of 2.8% from the lottery segment for the six months ended June.
Looking ahead, growth for the
Jamaican economy is expected to
remain sluggish, due to the absence
of countercyclical policies to
stimulate the economy and the
recurrent weaknesses in key
industries. Economic growth is
projected to range between -0.5%
and -1% for the calendar year, and is expected to remain suppressed going into next year.
Also, agricultural supply shocks from adverse weather conditions experienced recently
are expected to place upward pressure on price levels, more so on the food basket. Higher
international commodity prices will add further pressure to the local food category, which
could result in inflation of 9.5% for the calendar year to March 2011. These indicators
suggest that SVL should continue facing growth resistance over the near term as
discretionary income, which forms the basis of patronage for the company’s products and
services, continues to remain weak.
UNEMPLOYMENT RATE
8.00%
9.00%
10.00%
11.00%
12.00%
13.00%
14.00%
15.00%
16.00%
17.00%
7
INDUSTRY ANALYSIS
Porter’s Five Forces
Threat of Entry - Low
Successful entry and establishment in the industry will require huge capital outlays for
the large scale and wide spanning operation that would be necessary to effectively
compete with the existing well entrenched industry participant. Such requirements pose a
significant impediment to potential entrants.
Threat of Substitutes – Low
Because of the nature of gambling, there are no direct substitutes. What could possibly be
considered substitute products however may come from a sub sector of the industry such
as horse racing. These sectors do not constitute real substitutes however and would not
have a material influence on industry pricing.
Bargaining Power of Buyers – Low
Buyers in the industry have little bargaining power due to the lack of direct substitutes
and a lack of buyer concentration.
Bargaining Power of Suppliers – Low
Suppliers of inputs to the industry have low bargaining power as the large scale of the
operations within the industry and the large number of suppliers of these inputs both
diminish the negotiating ability of the suppliers.
Rivalry among Existing Competitors – Low
Rivalry in the industry is virtually non-existent as there is only one clear market
participant.
8
SWOT ANALYSIS
Strengths:
• SVL is the sole market participant in the lottery market.
• The company’s games have been entrenched as a part of the country’s culture and
enjoy a cult following as a result.
• It has a very well established and vast agent network through which it can effectively
and efficiently penetrate most locales of the market.
Weaknesses:
• The company’s business model, though somewhat diversified, is highly skewed
towards lotteries which account for about 90% of revenues and almost all of
operating profits.
• SVL’s sales are highly cyclical and as such the company will find it difficult to grow
revenues in times of economic uncertainty.
Opportunities:
• Given the substantial level of local market penetration that the company enjoys,
expansion into regional markets would present an opportunity to diversify and grow
revenues.
Threats:
• Further continuation of the weak economic conditions facing the country will pose an
impediment to revenue growth for the company given the cyclical nature of its
operations.
• The company’s games are designed to have specific average payout liabilities and
departures from the budgeted liabilities can result in significant bottom line impact.
• It has been seen that the government tends to turn to ‘sin taxes’ as a way to shore up
revenues when facing fiscal pressures. This could pose a direct threat to SVL and
impact sales.
FINANCIAL STATEMENT ANALYSIS
SVL has come under severe pressure
operates, which has led to poor results for its
business lines, as revenues rose
The Pin Code segment was
26% increase in revenues to $945 mill
of $10.9 billion, as the Super Lotto continued to perform
expectations. The Gaming & Hospitality and Financial Services segments posted 9.5%
and 15% declines respectively to $522 million
Cost of sales increased 1.4%
profits of $1.45 billion. Total operating expenses increased 16% to $1.1 billion from $975
million, and were driven by costs incurred in the start up
the roll out of its new sports betting venture, JustBet. Resulting operating profits
experienced a 36% decline to $322 million from $504 million.
Interest income rose 33% to $45 million while FX gains and finance costs both declined
by 68% and 37% respectively to $6.7 million and $9.1 million. SVL’s resulting net profit
SVL REVENUES BY SEGMENT
9
STATEMENT ANALYSIS
come under severe pressure due to the harsh economic environment in which it
operates, which has led to poor results for its half year. For the six months ended June
2010, SVL reported net profit of
$234 million down 30% or $100
million from the corresponding
period of 2009. Influenced by
depressed consumer disposable
income, a continued decline in
remittances, and greater than
expected stability of the local
dollar, the company has seen a
slowdown in growth of most of its
revenues rose only marginally by 1% to $12.5 billion for the period
was the only division recording any significant growth
26% increase in revenues to $945 million, while the Lottery segment posted
, as the Super Lotto continued to perform far below company
The Gaming & Hospitality and Financial Services segments posted 9.5%
and 15% declines respectively to $522 million and $74 million.
% to $11 billion from $10.9 billion, and resulted in gross
profits of $1.45 billion. Total operating expenses increased 16% to $1.1 billion from $975
driven by costs incurred in the start up of Acropolis Portmore and also
the roll out of its new sports betting venture, JustBet. Resulting operating profits
experienced a 36% decline to $322 million from $504 million.
Interest income rose 33% to $45 million while FX gains and finance costs both declined
by 68% and 37% respectively to $6.7 million and $9.1 million. SVL’s resulting net profit
SVL REVENUES BY SEGMENT
the harsh economic environment in which it
six months ended June
reported net profit of
$234 million down 30% or $100
million from the corresponding
Influenced by
depressed consumer disposable
income, a continued decline in
remittances, and greater than
expected stability of the local
y has seen a
slowdown in growth of most of its
marginally by 1% to $12.5 billion for the period.
the only division recording any significant growth, with a
flat revenues
below company
The Gaming & Hospitality and Financial Services segments posted 9.5%
and resulted in gross
profits of $1.45 billion. Total operating expenses increased 16% to $1.1 billion from $975
of Acropolis Portmore and also
the roll out of its new sports betting venture, JustBet. Resulting operating profits
Interest income rose 33% to $45 million while FX gains and finance costs both declined
by 68% and 37% respectively to $6.7 million and $9.1 million. SVL’s resulting net profit
10
attributable to shareholders registered a decline of 30% for the period to $234 million,
with EPS moving from 12.66¢ to 8.86¢.
As at June 2010, SVL’s total assets stood at $4.7 billion, 8.7% more than the $4.3 billion
reported in June 2009. The company’s long term debt fell 75% to $52 million from the
$210 million as at June 2009. Shareholder’s equity increased 10% to $3.3 billion.
ROE Analysis
Du Pont Analysis 2005 2006 2007 2008 2009 2009 6M 2010 6M
Profit Margin 1.3% 1.0% 2.1% 3.0% 2.7% 2.7% 1.9%
x Asset Turnover 7.71 5.93 5.63 5.18 6.49 5.74 5.56
x Financial Leverage 2.66 1.45 1.52 1.52 1.43 1.44 1.40
= ROE 27.2% 8.9% 18.3% 24.1% 24.8% 22.3% 14.6%
SVL’s return on equity has averaged just above 20% for the past five financial years. The
profitability measure has consistently been driven by asset turnover; which is typical for
companies in this sector. This effective utilization of assets, rather than a reliance on
leverage, speaks to the fact that gains could be derived from altering their capital
structure by slightly increasing debt.
Company Outlook, Projections & Valuation
The challenges currently being faced by the company are expected to continue for the
remainder of the financial year and going into the new year, with the Lottery and Gaming
& Hospitality segments expected to suffer the most, as these are the business lines that
are tied most closely to consumer disposable income. Though new games have been
introduced and existing games, such as and Pick 3, have been modified to stimulate sales,
the group has yet to find success in countering the downward trend that revenues are
currently undergoing. With unemployment at historically high levels and not expected to
improve much for the near term, it is expected that SVL will find it extremely difficult to
deliver improved bottom line performance for shareholders.
11
SVL is expected to complete the next twelve month period with results that reflect the
harsh macroeconomic environment. In the context of a projected decline in GDP, we
expect to see lottery sales faltering as consumers grapple with the diminishing real values
of their dollars, and cope with allocating those dollars to increasingly costly staples. The
company’s other segments, which contribute slightly to revenues and significantly less so
to profit, are also expected to come under pressure as both a sluggish US economy and a
tepid FX market take a toll on remittance and cambio profits respectively. With the bleak
economic outlook and its expected impact on revenue growth, SVL will have to place
some focus on cost cutting in the near to medium term to mitigate the falling sales.
This given, revenues for the twelve months to end June 2011 are expected to register a
2.5% decline to $27.6 billion. Margins are projected to come under some pressure as
products such as the Super Lotto, JustBet and the newly opened lounge in Portmore
struggle to gain traction while demanding significant marketing and other resources. As
such, net profit for the period should approximate $580 million or an EPS of 22 cents.
Valuation
To arrive at a valuation for SVL a P/E model and a Free Cash Flow to Equity (FCFE)
model were utilized. More than one model was used in order to ascertain a more robust
estimate of company value. The price multiples method was used due to the fact that SVL
has traded in a particular band in recent history that has been close to its intrinsic P/E.
The FCFE model was used because the company has been free cash flow positive and
these cash flows have related directly to the company’s profitability.
P/E Valuation
In ascertaining a justified P/E1, a dividend payout ratio of 70%, which is in line with the
historical average, was used. The cost of equity of 16.1% was calculated using the capital
asset pricing model - with beta, risk free rate, and equity risk premium estimates of 1,
12.5% and 3.61% respectively. The beta used was the five year monthly beta for the
1 ��������� /� =
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12
stock relative to the JSE Market Index. The long term growth rate used was 8% and was
assumed from long term economic growth forecasts in conjunction with company
specific factors such as business cycle stage and industry profitability prospects. Inputting
these assumptions into the model yields a P/E ratio of 8.65X. This compares to a current
P/E of 10X and a historical average of about 8.5X. Applying this P/E to our EPS estimate
gives a price of $1.90.
FCFE Valuation
A two stage FCFE model which uses the same inputs as highlighted above yields a price
per share estimate of $2.46.
The two methods suggest a price trading range of between $1.90 and $2.46, or an average
price of $2.18. Given the current price of $2.17, a HOLD is recommended for SVL stock
at this time.
Technical Analysis
Technical analysis is also supportive of this view, with a RSI of 49.11 (as shown below)
the stock is trading within the neutral zone and may be viewed as appropriately valued.
Figure 1: Source - Bloomberg
13
Risks to Valuation
� Slowdown in US economy and further protracted local economic deterioration will
adversely affect revenues.
� High volatility in the Cash Pot liability could cause severe swings in direct expenses
versus budget.
� Continued lack of interest in Super Lotto and JustBet products will impact negatively
on margins.
14
SVL FINANCIAL SUMMARY
Year Ended 31-Dec 2006 2007 2008 2009 2009 6M 2010 6M
Income Statement ($’000)
Revenue 15,947,789 18,946,913 21,204,444 28,167,960 12,329,990 12,460,853
Operating expenses -1,224,390 -1,331,237 -1,941,629 -2,381,713 -975,928 -1,132,258
EBIT 262,946 629,368 1,055,701 1,186,986 503,621 322,259
Finance costs -19,252 -20,478 -32,422 -31,659 -14,375 -9,132
Net Profit 165,348 405,400 645,989 751,202 333,805 233,780
Balance Sheet ($’000)
Total Assets 2,846,173 3,885,204 4,295,587 4,384,916 4,294,393 4,667,573
Total Liabilities 839,396 1,461,099 1,349,514 1,272,000 1,254,977 1,320,877
Shareholders’ Equity 2,006,777 2,424,105 2,946,073 3,112,916 3,039,416 3,346,696
Long Term Debt 93,222 375,777 267,803 127,307 209,541 52,421
Cash Flow ($’000)
CFO 283,430 594,339 798,039 937,960 743,862 291,122
FCFE 140,537 352,769 464,281 643,440
FCFF 228,751 418,808 638,117 813,963
Per Share Data ($)
EPS (cents) 6.27 15.37 24.49 28.48 12.66 8.86
Book Value 0.76 0.92 1.12 1.18 1.15 1.27
Dividends n/a n/a 0.16 0.22 n/a n/a
Price 1.99 2.40 2.70 2.01 2.08 2.55
Key Ratios
Gross Profit Margin 9.33% 10.35% 14.14% 12.67% 12.00% 11.67%
Operating Profit Margin 1.65% 3.32% 4.98% 4.21% 4.08% 2.59%
Net Profit Margin 1.04% 2.14% 3.05% 2.67% 2.71% 1.88%
Return on Equity 8.89% 18.30% 24.06% 24.80% 22.31% 14.64%
Return on Assets 6.15% 12.05% 15.79% 17.31% 15.54% 10.43%
LT Debt/Equity 4.65% 15.50% 9.09% 4.09% 6.89% 1.57%
Interest Coverage 13.66 30.73 32.56 37.49 35.03 35.29
Valuation Metrics
P/Sales 0.33 0.33 0.34 0.19 0.22 0.27
P/E 31.74 15.61 11.02 7.06 8.22 14.38
P/BV 2.62 2.61 2.42 1.70 3.54 3.22
P/Cash Flow 18.52 10.65 8.92 5.65 3.69 11.55
15
SVL INCOME STATEMENT AND PROJECTIONS ($’000)
12M to 12M to
Year Ended 31-Oct/Dec 2005 2006 2007 2008 2009 June 2010 June 2011
Revenue 14,350,135 15,947,789 18,946,913 21,204,444 28,167,960 28,298,823 27,591,352
Direct expenses 13,237,061 14,460,453 16,986,308 18,207,114 24,599,261 24,755,156 24,280,390
Gross profit 1,113,074 1,487,336 1,960,605 2,997,330 3,568,699 3,543,667 3,310,962
Operating expenses -830,252 -1,224,390 -1,331,237 -1,941,629 -2,381,713 -2,538,043 -2,483,222
Profit from operations 282,822 262,946 629,368 1,055,701 1,186,986 1,005,624 827,741
Interest income 15,358 13,073 46,956 84,554 111,189 122,434 110,191
Net FX Gain 65,829 0 -24,615 0 -632 -14,790 -7,395
Finance costs -78,325 -19,252 -20,478 -32,422 -31,659 -26,416 -15,850
Profit Before Taxation 285,684 256,767 631,231 1,107,833 1,265,884 1,086,852 914,687
Taxation -95,493 -91,419 -225,831 -461,844 -514,682 -435,675 -334,428
Net Profit 190,191 165,348 405,400 645,989 751,202 651,177 580,259
EPS (Cents) 6.27 15.37 24.49 28.48 24.69 22.00
16
BIBLIOGRAPHY
Bloomberg L.P
Supreme Ventures Limited Annual Report
http://www.boj.org.jm
http://www.pioj.gov.jm
http://www.psoj.org
http://www.supreventures.com
http://www.scotiadbg.com
http://www.statinja.com
