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The gaming industry continues to recover from the 2007-2009 recession. The largest gambling market in the world, Macau, China, is still reporting extraordinary growth. We believe that companies who have operations in the region will continue to reap the rewards over the next few quarters, although growth rates there will likely moderate a bit in the near term.

Conditions in the United States, on the other hand, remain mixed. Although higher foot traffic at many resorts is helping boost sales and earnings at several companies, we think the elevated unemployment rate will continue to temper results in the near term.

As the U.S. economy continues to slowly recover, corporate profits have begun to rise, and this has helped drive higher convention activity, particularly in Las Vegas. Increased visitation to the city has allowed some casinos there to expand their product offerings. This has, in turn, boosted purchases of slot machines, card shufflers, and table games, among other products. As a result, sales of companies that produce these goods, including Shuffle Master (SHFL), have improved.

Shuffle Master’s outlook continues to brighten, thanks to higher lease placements of its products at several casinos. Demand for some of its premium games, including Ultimate Texas Hold’em, Mississippi Stud, and Blackjack Switch, has been strong, and we look for this trend to extend into next year, as the company continues to expand globally.

We are also seeing improvement outside of Las Vegas. Pinnacle Entertainment (PNK), the developer and owner of several riverboat and dockside casinos in Louisiana, Missouri, Indiana, and Nevada, posted good September-period results, driven by strong growth from its St. Louis properties. Margins during the quarter widened thanks to management’s operational-improvement initiatives. Although the company faces a good amount of regional competition, we think favorable demand trends for its gaming operations will help drive profitability over the coming year.

Another favorable trend in the United States is the increase in voter-approved legislation that would legalize gambling in new markets. New Jersey residents recently voted in favor of sports betting at Atlantic City Casinos and state horse racetracks. The New Hampshire senate is considering expanding gaming in the state, as well. We think other pro-gaming votes around the country could expand the industry’s reach, and ultimately lead to stronger sales and profits for most casino operators.

However, there are several concerns facing the industry. Some U.S. regions continue to report weak results. October gaming revenue in Atlantic City fell nearly 8% from the year-ago period. This was the 38th straight month of decline for that market. Competition from neighboring states, particularly Pennsylvania, along with ongoing macro weakness, continues to hurt gambling institutions in the city.

Boyd Gaming (BYD), which is a 50% partner in a joint venture that operates the Borgata Hotel Casino in Atlantic City, reported a 3% sales decline at this property. Although management is optimistic about prospects there, given its increasing market share in the city, we remain concerned about competitive forces from nearby states.

Indiana casino revenues have been down as well, reflecting intense competition, as well as tepid consumer demand. Although Penn National Gaming (PENN) has been reporting good overall results over the last couple of quarters, demand for its gaming operations in the state, including its Lawrenceburg property, has been soft and has tempered earnings growth at the company.

All told, we think gaming markets are recovering nicely on most fronts, especially given the adverse effects of the global recession. Companies with operations in Macau ought to continue to reap the benefits from that red-hot market. We think most American markets will continue to improve in the coming year, as corporate earnings boost convention activity. However, until we see some marked improvement in the unemployment rate and on the housing front, we don’t expect to see significant gains from the industry in the United States.   

At the time of this article’s writing, the author did not have positions in any of the companies mentioned.