As the casino industry struggles with a long losing streak that is bound to last a lot longer, the suppliers of slot machines, video poker, lotteries and other games are being dragged along for the unwelcome ride.
Despite taking a beating in the stock market, however, some gambling technology companies seem better able to dig themselves out of a hole than their casino counterparts.
These equipment, machinery, and services companies lack the name recognition of the Bellagio (owned by MGM Mirage
But when you enter a casino, visit a racetrack, or play a state lottery, there's an odds-on chance you'll bet on something made and sold by International Game Technology
This is an industry in which size matters; a handful of companies dominate. Participants benefit from regulatory barriers to entry that keep this business a relatively a cozy affair.
However, this doesn't insulate them from a bad economy, bad quarters, or bad decisions. Careful debt management and a solid investment in technology are some signs that credit-rating firms and equity analysts seek. And if more state legislatures, now searching for more revenue sources, approve more lotteries and gambling venues, then these technology companies could add to their chip count.
Let's not gloss over the recession's impact. A weighted index of 16 gambling technology stocks -- large and small, domestic and foreign -- dropped more than 50% between February 2008 and January 2009, says the Association of Gaming Equipment Manufacturers, which publishes the index. January's tally was the worst since the association began keeping score in 2005.
Still, this industry looks better than the casino-operators industry. Fitch Ratings gives the commercial casinos sector a negative ratings outlook and a negative fundamentals outlook. It says the fundamental outlook for equipment suppliers is stable and the ratings outlook is stable to positive.
Moody's Investors Service doesn't grant investment-grade ratings to any commercial casino operators in its coverage universe. But it does give International Game Technology
Moody's just cut International Game Technology's outlook to negative. It has a stable outlook for Bally Technologies
Putting stock in technology
On the equity side, some analysts aren't dissuaded even though the major machinery and equipment company stocks dropped worse than the 38% dive for the S&P 500 for the 12 months ended Feb. 10.
WMS, which makes video lottery terminals and slot machines, is the stand-out favorite among equity analysts. After all, how often do you hear the word "pristine" applied to a gambling company's balance sheet?
That was the verdict from Stifel, Nicolaus in January, calling WMS the best of the breed partly because it sells products to regional, foreign, and tribal casinos as well as to Las Vegas casinos.
WMS recently served up an October-December report whose revenue and earnings, excluding one-time gains, met Wall Street expectations. Bally, the second favorite among sell-side analysts, beat Wall Street estimates by $0.04 for the October-December quarter, but its revenue fell below the consensus. Bally specializes in slot machines.
Counting on casinos
When casinos do well, they replace and repair games more often. When casinos slump, they don't move as fast in making replacements.
Machine replacements have been "slower than anticipated," says Fitch Ratings. While some casino operators have delayed new projects or expansions, there's still growth potential. Fitch says the replacement trend can't get much worse, so new casinos will help the equipment companies.
Casinos know they have to keep customers excited by the newest next-best thing. Even in today's grim environment, casinos don't want to enter the summer months "without a relatively fresh floor," Richard Haddrill, Bally's CEO, recently told analysts.
Casino industry executives preach optimism; so, in the midst of a recession, why not use the economy as a marketing tool aimed at state legislatures? Already, some are gingerly referencing this approach.
Last year, many states, through legislation or ballot initiative, acted to add or expand betting opportunities. Although many attempts were defeated in 2008, The Associated Press says that at least 14 states are considering gambling initiatives this year.
Eight states lack lotteries. Thirteen don't permit slot machines. Only 12 have racetrack casinos. Only 12 states permit commercial casinos. And let's not forget the foreign markets.
If there's a big marketing opportunity out there, the gambling technology industry has the device to pursue it.
Fool contributor Robert Steyer doesn’t own shares of any company cited in this story. He prefers pinball. In the course of his research, he learned that the founder of WMS Industries invented the 'tilt' mechanism. The Fool has a disclosure policy.