RP iGaming Index: Not buying the story

The Index rose 4% in February but Paul Leyland isn’t convinced the positive newsflow is cutting through to a suspicious and conservative investor community. The period also saw Cherry and Mr Green depart the Index, with new addition Better Collective the stock in focus The RP iGaming Index has continued to perform positively in 2019 (+4.0% in February), but has also materially underperformed the benchmark NASDAQ (+7.8%). This follows the pattern of the last few months – in gambling, negative volatility currently counts for more than positive, even in the start of a reporting period of largely ‘in-line’ or better results. The muted positivity of the index continues to be broad based. Twenty-one stocks reported gains, with 14 of these double digit (the same number as January). Again, there is little pattern in the behaviour, with strong results driving some outperformance (e.g., Evolution Gaming +29.5%; Scientific Games +14%). Four stocks fell by double digits, including NetEnt (-15.1%), Kambi (-17.8%) and Betsson (-12.5%), all of which produced results that did not impress investors. Gaming Realms (-8.3%) also announced its complete withdrawal from B2C gaming (via M&A), repositioning to B2B content only. During February the market got clarity on Netherlands legislation, though regulatory detail is still scant. Sweden also vented its increasing frustration with the aggressive trading practices of many of its licensees, while Norway also escalated its ongoing attempts to disrupt dotcom businesses. However, these points of detail, while flagging up a number of significant risks in the medium term, have not materially affected the market’s view of risk. A similar observation can be made ahead of the FOBT B2 ban and Brexit, affecting much of the Index to some degree and 12% of it significantly (GVC, WH). However, volatility has not increased despite these seismic events now being less than a month away (on the current Brexit timetable). To an extent, this represents a functioning market – the risks are known, the impact estimated and therefore the best guess at the likely outcome has been priced in. However, while the market tends to be very good at understanding risk on narrow parameters with very liquid stocks (tens of billions, not the relative minnows of the gambling sector), this is not usually the case with gambling. There are three important reasons for this. First, gambling-specific risks are fiddly, difficult to predict and therefore can be very hard to price in accurately. Second, the gambling sector, in common with many other sectors, tends to talk up opportunities and talk down risks, which increases the risk of negative shocks (buy on hope; sell ahead of reality). Third, gambling stocks range from the very small to the upper end of midsized – liquidity is therefore relatively low (e.g., Vodafone trades an average of £100m worth of shares per day, GVC trades c. £4m, Kambi trades c. £40k). This means that even if investors wanted to take a view, it is difficult to do so efficiently – bad news is far more likely to create exiting disappointed holders than closing short positions, even when the market could see the bad news coming. This lack of liquidity also holds a bigger issue for gambling: outside the very largest stocks they are relatively easy for investors to ignore. In the good times, gambling companies can offer cash flow, growth and the frisson of regulatory excitement. In the bad times, even good quality stories can find it very hard to cut through a more suspicious and conservative investor community. Oversold regulatory upside and self-inflicted regulatory downside is likely to add to this risk. Unfortunately, in 2019 we see the balance of risks and emerging reality making it much more difficult for gambling companies to cut through to investors than the high-growth period up to 2016, flattering margins in 2017 and the US and World Cup-fuelled 2018. Stock in focus: Better Collective With MRG leaving the Index, having been bought by William Hill, we have added Better Collective. Better Collective is a Stockholm-listed gambling affiliate and customer education business, founded in 2002, which listed in June last year. It has a market capitalisation of SEK3.0bn (£240m) and in 2018 it reported revenues of €40.5m (53% three-year CAGR; i.e. tripled in size), with EBITDA of €16.1m. It has 250 employees in seven offices, mostly in the Nordic area. Its websites provide professional tipping networks and product information to prospective gamblers. Inevitably, it is acquisitive and has launched US-facing products post PASPA. Better Collective demonstrates the next generation of affiliate business – customer- and content-centric rather than the historical focus on funnelling as much heavy user traffic as possible. While affiliates tend to get a bad press in the matrix of market maturity and domestic regulation, it is worth considering that many remain valuable, high-growth and with highly relevant assets. Better Collective will be a useful market bellwether of these developments.  Disclaimer The narrative provided represents the opinions of the authors. Any assessment of trends or change is necessarily subjective. The information and opinions provided are not intended to provide legal, accounting, investment or policy advice, nor should they be used as a forecast. Regulus Partners may act, or has acted, for any of the companies and other stakeholders mentioned in this report.