NEW YORK--()--Orange Capital, LLC (“Orange Capital”), a New York-based investment firm, has issued a second open letter (text below) to the Board of Directors of International Game Technology (NYSE: IGT) (“IGT” or the “Company”) in response to the Company’s recent share price performance and election contest with the Ader Group:
The full text of the letter follows:
February 20, 2013
Philip G. Satre
Chairman of the Board
International Game Technology
6355 South Buffalo Drive
Las Vegas, Nevada 89113
Dear Mr. Satre:
IGT’s share price remains at a steep discount to intrinsic value and trades near its all-time low on the basis of net income and cash flow. We reiterate our recommendation that the Board take advantage of the current share price and immediately commence a Dutch Auction tender offer for 25% of outstanding shares. As discussed in our first letter, such a transaction would have a minimal impact on the Company’s financial flexibility and be significantly accretive to earnings.
The decision to repurchase shares should be a function of (a) the current share price relative to intrinsic value and (b) a careful evaluation of alternative risk-adjusted investment opportunities. Unfortunately, IGT’s public comments and presentation materials suggest that the Board, in consultation with the Capital Deployment Committee, relies upon the dividend yield as the primary criteria when considering share repurchases. Specifically, IGT has repeatedly stated that the Company would “support a yield of 2%.”
IGT’s 2% dividend yield target is an arbitrary and ineffective method in determining the right price for a share repurchase program because the current dividend payout ratio bears no resemblance to the Company’s ability to generate sustainable cash flow. Instead, IGT should aggressively repurchase shares when they trade at a steep discount to intrinsic value based upon widely accepted valuation methods such as earnings multiples or discounted cash flows.
To illustrate the arbitrary nature of the 2% target, IGT’s current dividend of $0.28 per share implies the Company views share repurchases as attractive up to $14 per share. The Company’s dividend payout ratio of approximately 22%1 falls well below the S&P 500 average of 30% despite approximately half of IGT’s gross profit coming from the highly visible gaming operations segment. Should IGT raise its payout ratio to the market average, share repurchases would suddenly be deemed attractive up to $19 per share, or 17% above the current share price.
With regard to the current election contest, it appears that the Board does not share our position that a mutual settlement with the Ader Group is in the best interests of shareholders. Despite our differences on this matter, it is our expectation that the Board will act in good faith and immediately consult with its financial advisor to explore if (a) a 2% dividend yield target is an effective criterion in determining the price of a share repurchase program, (b) IGT’s current capital structure minimizes the Company’s cost of capital, and (c) an aggressive repurchase program is in the best interest of shareholders. We believe the Company’s financial advisor will agree with our conclusion that an immediate Dutch Auction tender offer is the best means to enhance shareholder value.
Should you have any questions or concerns regarding our views, I would be delighted to speak with the Board.
Orange Capital LLC
About Orange Capital LLC
Orange Capital, LLC (“Orange Capital”) is a New York-based investment firm. The firm is a value oriented investor in event-driven securities. The firm allocates across the capital structure on an opportunistic basis. Orange Capital was co-founded in 2005 by Daniel Lewis and Russell Hoffman. Prior to founding the firm, Orange Capital's portfolio manager, Daniel Lewis, was a director with Citigroup's Global Special Situations Group.
1 Midpoint of fiscal 2013 guidance