Penn's Attractive Omnichannel Presence Not Enough to Warrant a Moat in the Competitive U.S. Market

Senior Equity Analyst

Dan Wasiolek

Revenue segments as reported by the company.

Gaming

Food, beverage, hotel and other

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Net Income, also called net earnings, is calculated as revenue minus cost of goods sold, operating expenses, depreciation, interest, taxes, and other expenses.

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Penn Entertainment holds a leading omnichannel presence, which includes 43 physical casino assets, a digital portfolio encompassing sports betting, iGaming, and media, and a loyalty membership base of 27 million. As a result, we estimate Penn holds around a low-double-digit revenue share of the $60 billion domestic commercial casino gaming market.

Despite this attractive omnichannel position, we don't believe U.S. gaming regions (100% of Penn’s EBITDAR) contribute to a moat for Penn. U.S. gaming demand is lower than in Asian regions like Macao and Singapore, where the propensity to gamble is much higher. Also, the 1,000 commercial and tribal casinos in the U.S. serve a total population of 334 million, well in excess of the 36 and two casinos found in Macao and Singapore, respectively, with Chinese and Singaporean populations of 1.4 billion and 5.6 million, respectively. Further, supply competition is ever present in U.S. gaming, as states increase the amount of wagering options and operators consistently renovate existing offerings. This compares with negligible additions in either Macao or Singapore, where we see no additional licenses for the foreseeable future.

That said, Penn is positioned to benefit from the multi-billion-dollar sports betting and iGaming market. In fact, we expect 2023 to be the first year its interactive business shows an EBITDAR profit and expect margins to ramp to the high-20s by the end of the decade. We forecast for 24% of the company's total sales to be generated from its interactive business by 2027, a meaningful lift from 10% in 2022.

Finally, we think its $2.5 billion in liquidity (at the end of 2022) and $4.2 billion in free cash flow generation through 2027 position it to service the $1.3 billion in debt scheduled to mature in 2026-27.

Business Strategy & Outlook

We don’t think Penn Entertainment has an economic moat due to its outsize exposure to U.S. gaming markets where regulatory barriers are low and returns on invested capital measure in the single digits versus the low-double-digit level in the moaty Singapore and Macao gaming regions. This view is despite our sanguine stance on the company’s sports betting, iGaming, and media business, where we see expanding sales and profits.

The U.S. gaming market consists of about 1,000 commercial and tribal gaming casinos, compared with just two and 36 gaming locales in Singapore and Macao, respectively. This regional casino supply results in one U.S. casino for every 334,000 people versus 2.8 million and 39 million Singaporean and Chinese citizens per Singapore and Macao gaming property, respectively. Today, more than 40 states offer commercial and/or tribal gaming with many legalizing wagering activities in the past two decades. Gaming was legalized in Las Vegas in 1931 though it wasn’t until 1976 when Atlantic City allowed gaming, offering the first real competitive option in the U.S. Then it wasn’t until the 1990s that several states legalized games of fortune. In the Northeast (43% of Penn’s 2022 EBITDAR), Pennsylvania and Maryland approved slots in 2004 and 2008, respectively, followed by these states then allowing gaming tables in 2010 and 2012. Then, competition elevated further with Rhode Island approving gaming in 2000, with its first casino opening in 2007, and Massachusetts (after many failed attempts) and New York legalizing wagering in 2011 and 2013, respectively, with casinos there just beginning to open during the past few years. More recently, Pennsylvania gaming options have expanded once again, with the opening of five more casinos in 2020-23, resulting in a total of 17. Meanwhile, competition has increased in the South (28% of Penn’s 2022 EBITDAR), with Arkansas legalizing gambling in 2018, awarding four licenses, and Virginia approving four commercial casino locations in 2020—the first opened in January 2023. Further, Mississippi, which is one of many states to have no statutory limit on the number of licenses (Colorado, Iowa, Mississippi, Nevada, and South Dakota are the others), continues to add commercial casinos, amounting to 30 as of March 2023, up from 26 at the end of 2021, ranking only behind Nevada’s 215 and Colorado’s 33 establishments at that time. Finally, incremental supply increases in the Midwest (26% of Penn’s 2022 EBITDAR) stand to keep competition elevated for Penn. Here, Illinois passed a bill in 2019 allowing its existing 10 casinos to expand to a maximum of 2,000 gaming positions from 1,200 previously, as well as permit six new casinos, the first of which opened in February 2023.

Compared with the low-barrier characteristics of the overall U.S. gaming industry, we are more constructive on Penn’s opportunity in the attractive U.S. sports and iGaming wagering market. Las Vegas was the only jurisdiction to legally take sports wagers prior to a Supreme Court ruling in 2018 that opened the activity to other territories. Since that decision, more than 30 states and the District of Columbia have legalized sports wagering, driving the U.S. sports betting revenue market to $7.5 billion in 2022 from just $430 million in 2018, according to the American Gaming Association. Further, six states currently offer iGaming (casino game betting online), leading to sales of $5 billion in 2022 from about $500 million in 2019. In total, sports betting and iGaming represented a staggering two thirds of total U.S. gaming growth during 2019-22, highlighting the importance of this segment to industry operators. Also, we have observed improving profitability across key industry players, as no-moat companies MGM and Caesars have also turned the corner recently to profitability, with expectations for strong margin improvement in future years.

Along with MGM and Caesars, we see Penn in an advantaged positioned to be a leader in the attractive U.S. sports betting and iGaming market, given its omnichannel presence. In our view, long-term winners in this industry will be those that have a physical retail presence to leverage mobile and loyalty assets. In that regard, Penn’s 43 retail casinos spread across 20 U.S. states position it well to compete with other industry leaders like Caesars’ and MGM’s domestic portfolios of 56 and 29, respectively, as of the end of 2022. In fact, we calculate that Penn garnered about 11% revenue share of the U.S. commercial gaming market in 2022 versus the roughly 18% and 20% share captured by Caesars and MGM, respectively, though the latter two benefit from a higher Las Vegas to U.S. regional portfolio mix. But with the rapid legalization of sports and iGaming wagering the past few years, operators have needed to develop and integrate a mobile and loyalty offering into an omnichannel presence. Although Penn’s loyalty membership of 27 million individuals sits below Caesars’ and MGM’s 65 million and 40 million, respectively, the company also owns Barstool, which is a media asset that provides an audience of over 100 million monthly active users, and theScore, which is a technology platform that offers increased control of expenses and innovation versus utilizing a third party (MGM’s mobile business uses Entain’s technology platform). As a result, Penn can efficiently acquire, retain, and cross-sell customers across its physical and digital assets.

We see evidence that Penn’s omnichannel position is yielding positive results. For one, Penn’s 2022 EBITDAR losses for its sports, iGaming, and media business were just $75 million (a negative 11% margin), compared with $666 million at Caesars (a negative 122% margin), which we think speaks to its ability to tap into its 100-million-plus media and loyalty members. Additional evidence of the value afforded by Penn’s successful omnichannel presence is shown in the fact that 45% of all bets made during September 2022 of sports wagering in Kansas came from its Penn Play loyalty database, showcasing that new launches are resonating with the company’s existing players. Also, 95% of those who signed up for the Barstool sports app when it launched September 2020 in Pennsylvania were new to the company’s Penn Play database, illustrating that the company’s mobile offering is serving to expand its loyalty membership reach. Additionally, Penn customers that visit one of its properties and bet on its online platform provide several times the annual revenue of one only visiting a casino, pointing to the lack of cannibalization between the retail and online offering. Further, Penn’s digital business benefits from its strong physical locations, as many states require operators to have a retail location to receive a sports betting or iGaming license. In fact, states often give multiple sports betting licenses, or skins, to land-based casino operators like Penn, which then sell those rights to companies without a physical presence in return for equity or we estimate around 10% of their net gaming sales, allowing them to mitigate some of the competitive threat of multiple players in a given market. Overall, we calculate the combination of Penn’s physical, loyalty, media, and mobile assets has led to its 5.3% revenue share of the U.S. sports and iGaming market in 2022, comping near the 4.4% and 5.8% we estimate for Caesars and MGM, respectively.

That said, even though we are sanguine on Penn’s digital business, it is not enough to overcome the low barriers and returns in the U.S. gaming market. This is illustrated in low-single-digit level we estimate for Penn’s adjusted return on invested capital during 2023-27, near the level in 2021-22, and below its 8% weighted average cost of capital, supporting our no-moat rating for Penn.

None

Economic Moat

Penn Entertainment

PENN Entertainment, Inc. owns and manages gaming and racing facilities and video gaming terminal operations with a focus on slot machine entertainment. It operates through the following business segments: Northeast, South, West, Midwest, and Other. The Northeast segment consists of properties including Ameristar East Chicago, Greektown Casino-Hotel, and Hollywood Casino Bangor. The South segment operates properties including 1st Jackpot Casino, Ameristar Vicksburg, and Boomtown Biloxi. The West segment includes Ameristar Black Hawk, Cactus Pete's and Horseshu, and M Resort. The Midwest segment consists of properties including Ameristar Council Bluffs, Argosy Casino Alton, and Argosy Casino Riverside. The Other segment manages properties including Freehold Raceway, Retama Park Racetrack, and Sanford-Orlando Kennel Club. The company was founded by Peter M. Carlino in 1982 and is headquartered in Wyomissing, PA.

Earnings data Q2 2023

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PENN Entertainment, Inc. owns and manages gaming and racing facilities and video gaming terminal operations with a focus on slot machine entertainment. It operates through the following business segments: Northeast, South, West, Midwest, Interactive, and Other. The Northeast segment consists of properties including Ameristar East Chicago, Greektown Casino-Hotel, and Hollywood Casino Bangor. The South segment operates properties including 1st Jackpot Casino, Ameristar Vicksburg, and Boomtown Biloxi. The West segment includes Ameristar Black Hawk, Cactus Pete's and Horseshu, and M Resort. The Midwest segment consists of properties including Ameristar Council Bluffs, Argosy Casino Alton, and Argosy Casino Riverside. The Interactive segment operates the online sports betting and casino applications. The Other segment manages properties including Freehold Raceway, Retama Park Racetrack, and Sanford-Orlando Kennel Club. The company was founded by Peter M. Carlino in 1982 and is headquartered in Wyomissing, PA.

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