Warwickb September 12, 2019

Ardent Leisure Group Ltd (ASX:ALG): Initial Interest Post and Request for Scuttlebutt

Posted by: Warwick Bagnall

ALG consists of two main parts; the Dreamworld/White Water World theme park in Queensland, Australia and the Main Event chain of family entertainment centres in the US.  I’m interested in ALG mainly to try and understand why it is the largest position (>20% and growing) of a value/activist LIC (Ariadne Australia Ltd, ASX:ARA) which I hold.  ALG is cheap compared to its past share price and on a (depressed) P/S basis but it has been loss making since 201. Hence this write-up is part of a reverse-engineering exercise.


ALG’s financials take a lot of work to understand.  By that I mean that the reporting is complete and efforts have been made to attribute costs and revenue clearly.  However the company has recently sold business segments, changed from a stapled structure to a simple company, is dealing with a major safety incident (below) and has opening new stores.  There’s a lot going on in the accounts.


When ARA went activist they published a plan for realising the value in ALG.  The plan addressed ALG’s management and operational shortcomings and suggested a final valuation of at least AUD 3.58 versus the current share price of AUD 1.05.  That’s fine as a start but it doesn’t address the main things I want to understand – who visits ALG’s businesses, why do they visit, how robust is the business model and will there be any worthwhile growth?


The theme park segment of the business is loss-making due to a fall in visitor numbers and per-capita spend following an incident involving one of the rides in 2016 in which several people died.  The inquest into the incident concluded last year (2018) but the final report hasn’t been released yet. ARA gained control of the board in 2017 and significant improvements in safety, operations and per-capita spend have since been made.  


The park has a similar catchment size and scale to a typical Six Flags park but has more competition in the form of a nearby Warner Bros. Movie World and Sea World plus some smaller attractions. Fortunately, the area where the park is located attracts a lot of tourists year-round and there are few, if any, comparable parks left in Australia.  People travel to the area from other states to holiday so the number of potential customers is likely higher than what the surrounding population catchment would indicate. Now that per-capita spend has increased, if park attendance returns to 2016 levels then the parks segment should be profitable. Even if this doesn’t happen the stock is valued such that the market seems to be pricing the parks segment at less than the value of the underlying land.


The Main Event chain is much more interesting.  Main Event is headquartered in Plano TX, has 42 sites and plans to open around five more each year.  An average store does USD 7.4 MM in revenue at an EBITDA margin of 33% and ALG claim the first-year ROI on new stores is around 41% (excluding pre-opening costs).  That sounds like a good way to reinvest capital but is the business robust and what could limit the rollout?


It’s easy enough to see from here (Australia) what a Main Event store looks like – a bunch of amusements (arcade games, laser tag, bowling etc) with a restaurant attached.  What I can’t see is – who visits these places? It looks like there are perhaps two types of visitor – those attending kid’s birthday parties and others visiting individually, perhaps as part of a weekly bowling league.  People may go there just for a meal – I really don’t know.


It looks (from here) like a reasonable comparison for Main Event is Dave & Buster’s (NASDAQ:PLAY).  Or more specifically, the smaller PLAY locations. PLAY has 110 stores in 38 states and plans to roll out 15 new stores each year.  A smaller-sized PLAY location costs USD 5MM to set up and has an EBITDA margin of 25% on first-year revenues of around USD 5MM. Around 58% of PLAY revenue comes from amusements (of which 74% is redemption games) and the balance is food and beverage (F&B).  Alcohol is 32% of F&B revenue – so it sounds like there might be a significant number of adult customers who visit just to eat. If you’re reading this and have been to both PLAY and Main Event, how do they compare in terms of their offerings and clientele? How likely is it that Americans would stop spending money at this type of business in a recession?  I visited the US frequently in the years following the GFC and it seemed that some restaurant chains still attracted plenty of customers and others didn’t – where does Main Event sit on that spectrum?


PLAY list their real estate requirements (25,000 ft2 with 300 to 400 car spaces and a 2-level facade for smaller stores) on their website and both PLAY and ALG state that surrounding competition is a factor in choosing new locations.  Looking at the Main Event’s recent opening it seems like they are seeking buildings which formerly housed big-box retail stores.  


Another comparison I’ve looked at from a store count point of view is Bowlero, the bowling alley operator.  Bowlero has 293 centres in the US under various brand names. Some of these are being upgraded and re-branded to include F&B and amusements which would put them in more direct competition with Main Event and PLAY.   There may be other competitors I’m missing – please let me know if there are any other large operators out there.


Putting this together, I would infer that the number of stores that the Main Event can roll out each year is going to be somewhat limited by real estate availability and by the number of competing stores already in existence.  It sounds like there may be plenty of suitable real estate being vacated by closing retail chains such as the 27 stores JC Penney plan to close this year (although these may be too large for Main Event). However, I think competition is going to be the limiting factor – providing the market stays rational.  


The best logic I can come up with on store numbers is that Main Event and PLAY combined are unlikely to exceed the 293 centres that Bowlero owns.  It might be much less than that – PLAY stated in 2017 that they are targeting a total of 211 stores throughout the US and Canada. That means that if both chains are competing for the same locations then the number of locations remaining is somewhere between 59 to 141.  If both chains combined maintain a constant rate of store openings at around 20 per year then they only have three to seven years of rollout growth ahead of them.


So that’s where I’m up to with ALG at the moment.  If I can confirm the business is robust I may write it up in full.  I could put a valuation on it based on the above terminal store count in say, five years.  But that would be assuming the Main Event business can make it through a recession and I’m not that confident about that.  If you have an opinion on ALG’s business I’d really like to hear it.