Why Penn National Gaming Continues to Confound

Penn National Gaming (NASDAQ:PENN) reported its second-quarter results Aug. 7. Better than analyst expectations, PENN stock climbed more than 12% since. Up some 82% year to date, its stock is on a major roll. 

Penn (PENN) National Gaming logo on the website homepage.
Source: Casimiro PT / Shutterstock.com

Historically, Penn averages an annualized total return of 12.9%, in line with its casino peers. While I like the company’s play on sports betting through its investment in Barstool Sports, I’m at a loss where it heads next. 

PENN stock continues to confound me. Here’s why. 

PENN Stock Has a Nosebleed Valuation

Penn is currently trading at 1.35 sales, about double its five-year average. Its enterprise value of $17.2 billion is now 20.9 times its earnings before interest and taxes for the trailing 12 months. That’s 1.4 times its five-year average. 

If you believe in reversion to the mean, as I do, and consider the novel coronavirus to be far from over – a reality that’s necessary for casinos to get back to anywhere near capacity – PENN stock is ridiculously overpriced. 

Further, when you consider that many Americans are struggling to keep their heads above water, I find it hard to believe that a large segment of the gaming population is going to be able to return to the casinos before the end of 2020.

Sure, Penn’s Q2 2020 sales were 23% higher than the consensus estimate of $249.1 million, but well below last year’s revenues of $1.3 billion. Further, even though it “only” lost $1.69 a share, 37 cents less than analyst’s expectations, it was still a loss versus a profit of $51.4 million last year.

Short-Sighted Celebration

In this kind of environment where no one knows just how bad business is going to get, to celebrate a loss of any kind seems rather short-sighted. Analysts get paid to produce financial models even when they’re wildly inaccurate. 

Just because the 12 analysts who cover PENN were too low in their earnings and revenue estimates, does not mean the casino operator is ready to set the world on fire. If you consider the target price of those analysts is $46.36, below where it’s currently trading, I could see the second wave of Covid-19 putting a load of hurt on overoptimistic shareholders. 

I see that most of my InvestorPlace colleagues like Penn in the long term. In June, although I too liked its long-term prospects, I wasn’t overly optimistic about the near term.

“Long term, I think Penn’s a good investment. However, I think it’s going to take a major catalyst to push the stock into the $40s or higher,” I wrote on June 17.  

“If you own PENN and are a buy-and-hold investor, I wouldn’t sell, keeping some dry powder in reserve should it fall back into the $20s. If you’re not a long-term investor and only bought to make a short-term play, I’d definitely exit before some of your profits disappear.”

It was trading at $33 at the time. Now at around $50, my words apply doubly so.

Don’t Hang Your Hat on Barstool Sports

InvestorPlace’s David Moadel recently discussed how Penn’s 36% stake in Barstool Sports would take the company to the next level as online sports continues to make inroads in the U.S.

“While the traditional casino business was hit hard by lockdowns and social distancing, e-commerce thrived during the first half of the year. The gaming industry had to adapt to this new environment or risk being put out of business,” Moadel wrote on July 24. 

I agree that the company’s investment in Barstool Sports should reap the rewards in the future as there’s no question online sports betting could become more popular for the average person in this country than stock investing.

That’s why I’m very high on DraftKings (NASDAQ:DKNG), which I consider to be the “Best of the BETZ” when it comes to sports betting and iGaming. For my money, if you’re going to bet on online sports, and DraftKings and Barstool Sports were your only options, I’d go with the former, not the latter. 

First, Barstool Sports founder Dave Portnoy has a less-than-stellar reputation. If he continues to spout nonsense as he has in the past, that is going to hurt, not help, PENN stock. Regardless of the potential upside of sports betting, associating with someone of his ilk risks permanent brand damage.

Secondly, every ounce of good news related to sports betting is already baked into Penn’s stock price. 

“Live sports returning is more than priced into the stock. Sports returning wouldn’t surprise anyone,” said Carlo Santarelli, managing director at Deutsche Bank Securities, in an email to CNN Business. 

Bottom Line on PENN

From a rational perspective, I see DraftKings in a far better position than Barstool Sports to take advantage of the surge in sports betting.

However, as we’ve seen in recent weeks, nothing about Penn’s gains is rational.

Long term, I like PENN stock, but at $50, I have a hard time recommending it to new money.

Will Ashworth has written about investments full-time since 2008. Publications where he’s appeared include InvestorPlace, The Motley Fool Canada, Investopedia, Kiplinger, and several others in both the U.S. and Canada. He particularly enjoys creating model portfolios that stand the test of time. He lives in Halifax, Nova Scotia. At the time of this writing Will Ashworth did not hold a position in any of the aforementioned securities.


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