Three small cap gaming stocks to watch

If small cap gaming stocks are on your holiday wish list, then Roth Capital Partners has you covered. Analyst Edward Engel published on Thursday a Gaming sector report featuring three picks heading into the new year, with Engel saying the three names offer the deepest values and are best-positioned for a January rally in small-cap stocks.

“Each of these companies is generating strong and stable cash flows today and our bull thesis does not require any long-term speculative earnings thesis. Rather, as investors enter 2023 and assess stocks with the most imbalanced quality/valuation, we believe these stocks will stick out with 15-20 per cent free cash flow yields,” Engel wrote.

First up is Century Casinos (Century Casinos Stock Quote, Charts, News, Analysts, Financials NASDAQ:CNTY), a $212-million market cap company which operates regional casinos across North America and Poland. 

The stock has seen better days and is down plenty over the past 12 months, but Engel said two transformational acquisitions are expected to close over the first half of 2023, which pro forma would increase Century’s EBITDA by 51 per cent and bring 72 per cent of its EBITDA as stemming from the US market versus 17 per cent in Canada and 11 per cent in Poland.

“We believe pending M&A and leverage concerns are core drivers of CNTY’s 42 per cent year-to-date declined. Pro Forma for M&A, we model ~$45-$50 million steady-state free cash flow which implies a ~20 per cent free cash flow yield. Meanwhile, we expect ~3x net leverage as these acquisitions close,” he said.

Next is B2B gaming tech company Inspired Entertainment (Inspired Entertainment Stock Quote, Charts, News, Analysts, Financials NASDAQ:INSE), which has over half of its earnings coming from licensing iGaming content. Engel noted that INSE’s EBITDA from its digital and online segments was up over 31 per cent year-over-year in this year’s third quarter, with 77 per cent margins.

“INSE also generates ~50 per cent of EBITDA under revenue share agreements from more traditional slot/gaming machines which have been remarkably stable despite a choppy macro environment,” Engel wrote. “Despite INSE’s strong organic growth profile, the stock trades at a 15 per cent free cash flow yield alongside limited 2.3x leverage and 100 per cent fixed rate debt.”

Finally, Engel recommends North American slot machine company PlayAGS (PlayAGS Stock Quote, Charts, News, Analysts, Financials NYSE:AGS), which the analyst said has turned its business around over the past four quarters by retaking lost market share and generating revenue growth across its core footprint.

Engel said gaming supplier valuations typically rerate as market share gains are made, but AGS is currently trading at “a deep discount” to its peers at about a 20 per cent free cash flow yield.

“A core concern has been leverage at ~4x where 100 per cent of debt is variable and cash interest costs were 28 per cent of EBITDA in 3Q22. However, with an EBITDA multiple of 4.9x, we believe AGS is the best value for longer-term investors taking a view that higher interest rates are transitory,” Engel said.

Stock: Century Casinos

Roth Capital Rating: Buy

Target Price: $11.00

Projected 12-month return: 55 per cent

Stock: Inspired Entertainment

Roth Capital Rating: Buy

Target Price: $18.00

Projected 12-month return: 43 per cent

Stock: PlayAGS

Roth Capital Rating: Buy

Target Price: $10.00

Projected 12-month return: 120 per cent