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Good day, and welcome to the Scientific Games Second Quarter 2018 Conference Call. [Operator Instructions] Please note, today's event is being recorded. I would now like to turn the conference over to Robert Shore, Senior Director of Corporate Finance and Investor Relations. Please go ahead, sir.
Thank you, Rocco. Good morning, everyone. During today's call, we will discuss our second quarter 2018 results and operating performance, followed by a question-and-answer period. With me this morning are Barry Cottle and Mike Quartieri.
Our call today will contain statements that includes forward-looking statements under the Private Securities Litigation Reform Act of 1995. These statements involve certain risks and uncertainties that cause actual results to differ materially from those discussed during the call. For information regarding the risks and uncertainties, please refer to our earnings release issued late yesterday, the materials related to the call posted on our website and our filings with the SEC, including our most recent annual report on Form 10-K filed on March 1, 2018, as well as subsequent reports filed with the SEC, including our second quarter 2018 Form 10-Q filed this morning.
We will also discuss certain non-GAAP financial measures this morning. A description of each non-GAAP measure and reconciliation of each non-GAAP measure to the most directly comparable GAAP measure can be found in our earnings press release as well as in the Investors section on our website. As a reminder, this conference call is being recorded. A replay of this webcast and the accompanying materials will be archived in the Investors section of our website at scientificgames.com.
Now let me turn the call over to Barry.
Thanks, Bobby. Good morning, and welcome, everyone. On behalf of the entire Scientific Games team, we're pleased to report that our second quarter results marked our 11th consecutive quarter of year-over-year increases in revenue and consolidated AEBITDA. Revenue grew 10% and AEBITDA increased to $340 million, with all of our businesses growing.
We also achieved significant milestones in the quarter, including Gaming's rollout of the exclusive James Bond franchise, with the introduction of 4 Bond games on 3 platforms. This marks the starting point for leveraging the omni-channel license across Gaming, Lottery and Social: Lottery and Digital's successful collaborative launch of iLottery in Pennsylvania; Lottery's successful launch of sports betting in Delaware; Digital's signing and launch this week of a sports betting partnership with Caesars in New Jersey and coming soon to Mississippi; and Social's worldwide launch of the MONOPOLY Slots social mobile app, which is off to a great start and now extends the player-favorite brand across all of our divisions. So as you can tell, we have exciting growth initiatives in each of our businesses and we're taking advantage of these opportunities.
Over the past 60 days, I've met with our employees, executives and customers, listening, learning and enhancing my understanding of the business. As a result of these meetings, I have great confidence that our momentum is building, and I'm excited for the opportunity to lead Scientific Games. My career has been in the forefront of technology, entertainment and distribution, building games and compelling gaming-related products and services with a consumer orientation. So I appreciate both the value of building game franchises that players love and the benefits of building platforms that enable rich features and experiences for players, which is the heart of what we do here at Scientific Games.
It also taught me about the power of consumer data and leveraging it to take a very strategic ROI-driven approach to building products and road maps aimed at what the consumer wants, with a long-term differentiation from our competition so that we can capture, maintain market-leading positions that are able to sustain healthy margins. And at Scientific Games, we are a market leader. And similarly, I expect us to lead and drive the market over the long term.
Now -- and since it's such a hot topic, I just want to spend a few minutes on sports betting. The U.S. Supreme Court decision repealing PASPA was a watershed moment for our industry, opening up one of the largest untapped gaming markets in the world. Thanks to smart planning, investment in innovation and our acquisition of NYX, Scientific Games was perfectly positioned to provide current and future Gaming and Lottery customers with best-in-class products and services they wanted.
In addition to our global operations, where, for example, our OpenBet platform processed 177 million wagers in the U.K. alone during the World Cup, over the last decade, we have grown and currently process over 80% of the Tier 1 customer bets in the U.K. This week, we were pleased to announced that Caesars will be using our OpenBet platform for their land-based retail and digital systems in those states. By choosing to launch with Scientific Games with OpenBet, casino operators position themselves perfectly to not only offer their customers the best sports betting platform in the world, but also ensure that they drive revenue growth organically within their businesses for their bottom lines.
We look forward to announcing new partnerships as more states come online, so future customers can capitalize on and win the U.S. sports betting market, by going with the best solution available that provides the best player experience throughout a sporting event. We're confident that OpenBet will prove out in the U.S., as over time, operators will go with the most robust solution as the market grows. Now while sports betting is absolutely a major priority, we remain laser-focused on driving growth in our core businesses by bringing to market compelling new games and enhanced platform and system experiences that engage the player and bring value to our customers, and we're doing just that.
In our Gaming division, we're seeing strong responses to: Both Bond and Ultimate Fire Link, which is our own IP that's performing great in the premium sector; Blazing 7s, the first-ever blackjack progressive to reach 600 placements; iVIEW 4, which is a systems product that enables operators to deliver personalized experiences to their patrons on a cloud-delivered service; and ShuffleStar, that features a variety of technological and ergonomic advances.
In our Lottery division, bringing Keno games to 9,400 lottery retailers in Pennsylvania; the incredibly smooth and successful launch of the state's new iLottery platform, which we believe will set an industry standard for other states as they look to new platforms for their lottery products; and SCiQ, the revolutionary new lottery retail product, well-received by retailers and currently in pilot.
In Social, beyond MONOPOLY, Bingo Showdown is significantly exceeding our expectations and our core games continue to grow.
We must continue expanding our core business to strategic digital fronts as players mobilize, both platform and content across Gaming, Lottery and sports, and deliver digital solutions that players demand. For example, in Pennsylvania, as of July 31, we've seen more than $40 million in iLottery play and more than 125,000 unique users. In the first couple of months following the launch, these numbers indicate that the new iLottery products are well-received and what players want. These numbers represent the most commercially success iLottery launch for any U.S. lottery.
As we move into the second half of the year and into 2019, we have the opportunity for greater upside in game ops and international slot sales, which we are taking initiatives to address, focusing on our top and bottom line. We continue to make strides in operational excellence, which will enable us to delever, invest smartly for our future and maximize shareholder value.
Before I turn the call over to Mike, I just want to remind everyone listening on the call that in the past few years, we've made great progress establishing operational efficiencies throughout the businesses. The operational efficiencies that are in place and the positive corporate culture will remain the same, which provides us a great platform to build on.
We will continue to build on our strengths, deliver the best products and player experiences across land-based retail and digital and provide a seamless solution for players in a way that Scientific Games can uniquely deliver. Our team is embarking on a path to create a culture of market-driven innovation while simultaneously driving efficiencies that accelerate balance sheet improvements.
Now I'll let Mike provide his review of the second quarter results.
Thanks, Barry. Good morning, everyone. As Barry noted, our results were solid. Consolidated revenue rose 10% and our AEBITDA increased 8%. We experienced growth in all 4 of our businesses. The strength was driven by our strong content and brands that can be leveraged throughout our businesses and our global diversified offerings.
Now let me turn to our operating units. First, our Gaming business. Second quarter revenue grew by $13.5 million and AEBITDA increased by $9 million over the prior year. Our AEBITDA margin improved 50 basis points to 50.1%. Revenue from gaming machine sales increased $4 million or 3% in the second quarter.
A continuing highlight we are seeing is in replacement units. In the U.S. and Canada, replacement units continued the strength exhibited in the first quarter, as units increased 16% from the prior year on a tough comparison. We continue to expect strong demand for replacement shipments throughout 2018, driven by our innovative content portfolio and ongoing demand for the TwinStar J43 cabinet.
Shipments for new casino openings and expansions in the United States and Canada totaled 913 units in the quarter, driven by the 2 casino openings in the Northeast, the Hard Rock Atlantic City and MGM Springfield in Massachusetts. Last year, there were no major casino openings during the period. And I would remind everyone that last year's third quarter results included 251 units for new casino openings, and of the normal seasonal sequential slowdown from Q2 to Q3. There are no shipments for corresponding new casino openings expected in this year's third quarter.
International shipments totaled 2,492 units compared to 3,411 shipped a year ago. This year did not include any new international openings. Year-over-year, our average selling price for the quarter was $17,699, up 1%, largely reflecting a favorable mix of products, in particular the TwinStar J43 cabinet.
In Gaming operations, revenue was down 10% year-over-year or $18.5 million, of which $6.5 million was the result of the new revenue recognition accounting for WAP jackpot expense. For comparison purposes, jackpot expense was $5 million and treated as a cost of services in the prior year. Again, this change in classification has no impact on operating income, AEBITDA or cash flow.
On a quarter sequential basis, our installed base of WAP and premium participation units was stable, while the average daily revenue increased by $0.30 per unit. We are pleased with the success of our newer cabinets, including the TwinStar V75 and the TwinStar J43 iReels. We continue to replace our older units with newer product throughout North America.
We recently launched James Bond in Florida and New Jersey with strong initial play levels and are continuing to roll out James Bond content on the TwinStar J43 iReels and V75 and the Blade 3-reel mechanical cabinet. And as of last week, we began rolling out our James Bond content on the Gamefield 2.0 cabinet in New Jersey. Revenue from our other participation units was down $1 million on a quarter sequential basis.
The installed base was up 80 units quarter-over-quarter. We placed an additional 369 units into Greece, bringing our footprint to over 2,900 units. Last quarter reflected the expiration of certain U.K. units previously under contract with Ladbrokes Coral when they merged. As a condition of the merger, they were required to exit certain of their retail shops. This mix shift of installed base with additional Greece and less higher-yielding U.K. units has impacted our yields.
Table products revenue increased $11 million year-over-year or 22%, led by strong global sales of utility products, primarily in Macau and the U.S. openings. Gaming systems revenue increased $17 million year-over-year or 26%. The growth is primarily related to increased hardware sales for shipments of our innovative iVIEW 4 player interface display units, coupled with the ongoing installations to casinos in the provinces of Alberta and Ontario. iVIEW 4 sales continue to be very strong, and we're still in the early innings of the replacement cycle of the existing 325,000 placements of prior versions of the iVIEW.
We will continue to roll out our new system to additional casinos in Alberta and Ontario throughout Q4 2018 and 2019. As we've mentioned previously, we recognize revenue when the system goes live, the timing of which can vary quarter-to-quarter. We expect system installs to be stronger in Q4 than in Q3. In the normal follow-on course, we would expect the maintenance revenue associated with those contracts will grow throughout 2018 and 2019 and on into 2020.
Turning to Lottery, our second quarter revenue increased $5 million or 2% and AEBITDA was up $4 million or 4% from the year-ago quarter. This was a record quarter on AEBITDA for the Lottery group. During the quarter, we are awarded the primary instant contract for the state of New Mexico. Within the Lottery business, our services revenue has increased $6 million or 12% year-over-year. The growth in services revenue was largely driven by organic growth domestically. We are pleased to announce that we went live with our current systems technology in Kansas at the end of July as well.
Just to wrap up the Lottery segment, I'd like to provide an update on Pennsylvania. The existing RFP was pulled back for some technical changes. It is our understanding the state will rerelease the RFP in the near term. We are proud of our partnership and role in supporting the lottery and introducing new products, including launching iLottery and Keno, which Barry previously commented on.
Turning to our Social segment, revenue continued to grow strongly. Revenue increased 9% year-over-year to $100 million and AEBITDA increased 15% to $25 million. On a quarter sequential basis, our second quarter revenue was up 2.3% compared to the first quarter, as we were negatively impacted by the data privacy policy changes implemented by Facebook. We believe these issues are behind us and expect our Social apps to resume their growth trends.
We continue to leverage our existing gaming content library to the social casino player to drive revenue growth. In the second quarter, we successfully launched MONOPOLY Slots globally. The game reflects several new innovative styles of play, features that combine slot play with city building. The unique features have driven time on device and results have exceeded our expectations.
In Digital, we generated $67 million in revenue and $13 million in AEBITDA. The integration of NYX is continuing to progress. In addition to our exciting partnership with Caesars, we successfully launched our gaming content across 7 new client sites and signed 8 new customers on our OGS platform during Q2.
Turning to cash flow. We reported $102.5 million in cash from operations. Working capital was a use of $61 million, principally related to the timing of interest payments resulting from the February 2018 refinancing. Additionally, we have the opportunity to further reduce interest costs and extend maturities later in the year when the 10% notes due 2022 become callable on December 1. We are continuously monitoring the capital markets for the best opportunity to generate future cash interest savings.
From a CapEx perspective, we are now expecting our full year 2018 to be within the range of $360 million to $390 million. The increase from prior year relates to ongoing acceleration of our installed base of participation games, including: Planned investments associated with our new 7-year contract with Ladbrokes Coral; additional planned investments in Digital around iLottery and U.S. sports betting; the lottery system installations in Maryland in Kansas; and the addition of Keno terminals in Pennsylvania.
On game ops cabinets, it's important to note that it's completely variable. We don't manufacture the cabinet until we have an order in place with the operator. While this year includes past usage related to our LNS concession payments, refinancing costs and higher CapEx spend, we expect strong free cash flow in 2019 and beyond.
In summary, our commitment remains firmly focused on continuous improvements, capitalizing on smart opportunities that grow our business and generating free cash flow to strengthen our balance sheet. And with that, we'd like to open up the line for questions. Operator?
[Operator Instructions] And today's first question comes from John DeCree of Union Gaming.
And congratulations, Barry, on your first call as CEO.
Thank you.
Wanted to start high level. Barry, you talked a little bit in your prepared remarks about your background. And as we think about the evolution of Scientific Games over the last several years, Gavin was the gaming guru and Kevin was the cost control. When you think about your background and your vision for Scientific Games, could you talk a little bit about maybe your management style and kind of what you see kind of being your focus going forward from here?
Absolutely. First of all, both Gavin and Kevin were excellent executives that helped put Scientific Games in the great position that they're in today. And I think a combination of both of what they bring, which is an understanding of the gaming industry and knowing the market, the players and the customers, is incredibly important, as is the financial discipline that the organization needs to build on. And so both are strong pillars in how I plan on working going forward as well. I think it's extremely important to be customer-focused, market-focused as well as have the financial discipline. And that financial discipline will remain in place here with Mike Q. here as my right-hand man. And I really plan to make sure that this happens. I think in terms of -- I guess, it's a great question. I would describe myself as I'm a product strategy guy and more directly, a game guy. I absolutely love and appreciate games and gaming-enabling platforms. And to ultimately win, we need to build products that people love and our customers want to distribute and carry for us. So to that end, I plan to instill, I would say, a greater focus on building great games and betting products that our players love and the platforms and systems that enable those player experiences. Because in the end, Scientific Games is a product company. And it's important that our solutions deliver on these promises and that we can leverage these games and franchises across all of our business units. And if you think about it, as we plan and build products, the key to great products is a combination of art and science. The art is designing engaging games and features and experiences that are fun. The science is using data to understand where the biggest opportunity in the market is, what players want, prioritizing your reach sources and the capital more strategically on the near-term opportunities with the highest ROI as we look to drive our core businesses forward. It's -- the term that I like to call and I use a lot internally, is data-driven road mapping. It's prioritizing our initiatives, opportunities and the products and services that we build and innovate. Because essentially, cutting costs gets you the resources to spend. But data-driven road mapping directs those funds and resources to spend towards the highest opportunities. We did this in Social over the last few years and we doubled our EBITDA in 2 years.
Great, Barry, appreciate that. Hopefully, you can double EBITDA from here across the platform, which would be wonderful. But we won't hold you to that just yet. One other question I wanted to bring up, you talked a bit about the sports betting, OpenBet platform and your recently announced partnership with Caesars, one of the largest kind of market access partners in the U.S. And I wanted to know if you could talk a little bit about -- a little bit more detail about how Scientific Games is kind of positioning itself. There's been a number of various partnerships and strategies that land-based casinos are taking when they look for a partner in sports betting. So if you could talk a little bit about kind of your strategy and positioning, that would be helpful. And that's all for me.
Absolutely. And thanks for your questions. I think they're great questions. It actually is very related to the very first question in the sense of great product wins and really focusing on delivering the best product and experience. At Scientific Games, we spent a lot of time examining the sports market. We looked at what happened over the last decade of sports betting across international markets and we recognize that the best product will win, not the first to get out a PR announcement or first to do whatever. It is essentially building a product that players want to bet, have a great UI/UX experience, speed to bet, cash in, cash out, dependable. That is ultimately what's going to win. We saw that happen over time in the U.K. and in other markets internationally. We did diligence on everyone in the market and we chose NYX OpenBet. And that's ultimately how we have looked at our product versus others in the marketplace. We believe we have the most robust and proven sports solution in the market, speed, quality, it's scaled, proven, customizable, with high standards of compliance. It's the best equipped by far to enable B2C operators to win long term across multiple markets. It's a sports betting solution with all the bells and whistles. If an operator wants fast, glitch-free gaming, in-game betting for maximum player engagement, we believe we have that #1 platform. And as we have proven with Caesars, we can stand up and operationalize the customer very quickly, with the best product in the market, highest standards of compliance that won't fall down when the Super Bowl comes around. I mentioned a couple of these stats in the script, but during the World Cup, our platform processed over 177 million bets in the U.K. alone. One of our customers saw peak levels of 18,000 bets per minute. And during the Grand National, the number of sports bets placed for a single sports operator peaked above 20,000, with over 220 million account transactions handled over 3 days of the festival. These are the type of scale, quite frankly, that we see that are higher than an online retailer would see on Black Friday, I mean -- so that is really how -- that is where we believe that we have in the marketplace and how we're positioned against others.
And our next question today comes from Mike Malouf with Craig-Hallum Capital.
I'm just kind of following up a little bit more on the sports betting question. You talked a little bit about being the most robust platform. And certainly, those numbers that you're talking about in Europe are pretty amazing. Is there maybe a 2-step process that you see happening here in the U.S., where perhaps in the rush to market, someone might take a less robust product for a year or 2, see how it rolls out, see what the participation and the betting activity is and then perhaps switch to a much more permanent robust solution? And so perhaps you really get the second wave of benefit, but perhaps maybe not the first? I'd love to see your perspective on that.
Yes, and that's a great question. And again, we're not privy to the exact terms of the deals being cut out there. But I think you're seeing -- I think that's a good perspective. I think there's a lot of -- we're seeing activity -- you do see activity out there of people that are wanting to get out, as you said, test the market, see what happens in either a New Jersey or a Mississippi and then put themselves in a position where they can make longer-term decisions, but get out and be able to take a bet before the kickoff of the NFL, in particular. And again, I think that's why I feel we're extremely well-positioned is: One, is we can move fast, too, set up an operator; but number two, we believe that we have a long-term solution in the marketplace. And what people are going to see is once the market does open up and you see the various products out there, we believe we're going to provide an incredible experience out in the marketplace.
Okay, great. And then just a quick follow-up on your CapEx. You raised the CapEx guidance that you're going to be doing. As you look out into 2019, do you think that sort of the level will be similar to that? Or do you think you can come down from this? Is this more of a peak cycle here? And then could you just maybe just drill down just a little bit on what the increase again is focused in on? I know you kind of rattled it off pretty quickly.
Yes, sure. So a couple of things, what's driving the increase this year, then I'll come back to your first question about what we think for next year. So in this year, you did have carryover in lottery systems from the Maryland contract. Remember, that was challenged back when it was issued. And we finally went live this year. So you had CapEx associated with Maryland. And as we just launched the Kansas system just in the last couple of days. So you have 2 installs for systems this year for Lottery. New business opportunity that presented itself was installing the 9,400 Keno terminals in Pennsylvania. You also have the new opportunities presenting itself with iLottery and sports betting. And we're making the planned investments that we needed to there. We did sign a new 7-year contract with Ladbrokes Coral, which will be very similar, it's a 7-year agreement, where we put in fresh new equipment this year. And then that equipment will sit out there for the next 7 years and generate revenues for us. And then we have the continued refresh of our leased gaming machines. So this year is a higher year than what we have seen in the past, which is also contributing to the free cash flow shortage that we're seeing at this point. But that's pretty much planned at this -- for us for this year. When you're looking into next year, the expectation for next year is -- the wildcard is going be what happens with Pennsylvania. If we're successful in winning the RFP, that will be a sizable amount of CapEx that will be spent over the 2019 period. But that would be the only unusual item next year, unlike the items that we have here with iLottery, sports betting, the 2 systems and Ladbrokes combined.
[Operator Instructions] Today's next question comes from David Katz of Jefferies.
This is Erik Hellquist on for David. Yes, so sorry to pile on about sports betting, but I just want to touch on the partnership with Caesars and as it relates to OpenBet. I just wanted to see how you guys are viewing the rollout of sports betting there and kind of what you could expect to earn from a profitability standpoint, either for that partnership, or I guess, just representative of others? And particularly, like how many properties do you think you sort of need under these partnerships to generate meaningful cash flow?
Yes, so first of all, Caesars is a huge win for us. They're an amazing partner with a massive player base and numerous properties. We've already launched in 2 of their properties in New Jersey and with -- and scheduled for Mississippi in an upcoming date that we haven't disclosed. And I think in terms of we're not disclosing, obviously, what the economics or financials of the deals are with them. But we believe that again, partnering with a player like Caesars, with the great brand, market access that they have and the resources they have in the marketplace, we're excited to partner with them. And we believe, obviously, sports betting has a lot of what we just kind of call pent-up demand in the marketplace due to the betting that already occurs here. So we're excited about the possibilities, but we haven't disclosed any kind of particular financials about this contract in particular or kind of forward-looking economics.
Okay, yes. And just going back to more high level then, so we've seen a lot of these kind of partnerships. Can you just tell me how to -- kind of how investors can think about these sorts of partnerships going forward as it relates to the market?
Yes, it's Mike. I think the best way to look at it is when you look at just the overall structures of the deal, you're going to take some time for the gaming operators to ramp up the revenue side of the business. As that ramps up, our fee structure will be based on a percentage of revenues. So it really becomes a focus on how quickly can the markets ramp up. When you look at it on a holistic basis, by the end of this year, you're only going to have about 5 to 6 states operational. And some of the larger states, when you're looking at something like a California or a Texas, they're still early, early in the legislative state at this point. So I think it's going to take some time for it to ramp up. I think the telltale sign is going to be when the NFL season starts. People are going to be able to track the actual daily activities at that point in time. And I think that's going to be a clear indicator for everyone, not only just within the states with that popularity, but also for future states as they come online.
And our next question comes from Brian McGill of Telsey Advisory.
So I just have a couple. So on OpenBet, some of your European competitors traded 15 or even 20x EBITDA. And what I was wondering is maybe longer term, I know you just bought it, but would you think of spinning it out to generate liquidity?
No, that's not being contemplated at this point in time. What we want to do is focus on growing that business and maximizing the value of it for our shareholders.
Okay. And then when you say the additional contracts, I mean, should we think about it like you would only want to go after Caesars-sized companies? Or could you do operators with 3 or 4 properties or a number of major tribal properties? Or how do you think about the additional contracts when you say that?
Yes, we're actually set up and have the flexibility, we're structured such that we can accommodate a wide range of partners in sizes and approaches to the marketplace. So right now, we're in discussions with casino operators of all sizes.
Okay, good. And then just turning subjects here, I guess, with the new games coming out on the participation basis on WAP yields, I mean, does like James Bond, do we finally start to see that WAP yield stabilize?
Yes, if you look at it, James Bond is in the early stages. We've only launched about 14 games as of the end of the period. And as I commented in my prepared remarks, it was literally Friday that we went live in New Jersey on the new Gamefield 2.0 cabinet. So early indications are that the level of play is strong. We're pleased with that. But it's still early to tell. But we would start seeing the true impact of Bond-licensed games in Q3 is really when it will have an impact.
Okay, good. And then last one, just on international, should -- I guess, without new openings, which you kind of referenced, should we think about going forward kind of in the same range of, I guess, low 2,000s on shipments a quarter? Is that kind of the right run rate without major new openings?
Yes, I would agree. I think it's going to be low to mid-2,000s is about the right range for units shipped.
[Operator Instructions] This concludes today's question-and-answer session. I'd like to turn the conference back over to the management team for any final remarks.
Thank you very much. Thanks for joining us today, everyone. As you can see, our second quarter results are strong. And with continued growth from every business segment, our momentum is continuing. That said, we're not complacent and are excited about the number of opportunities to drive continued innovation and success with exciting products and services. We look forward to speaking to you next quarter or hopefully seeing a lot of you sooner at G2E in early October. Thanks very much.
And thank you, sir. Today's conference has now concluded, and we thank you all for attending today's presentation. You may now disconnect your lines, and have a wonderful day.
Thank you.