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In defence of risk in unregulated markets

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Simon French of Cenkos Securities argued six years ago that listed operators should continue “making hay while the sun shines on unregulated markets”, nothing material has happened since to persuade him otherwise.

Leading sector analyst Simon French of Cenkos Securities argued six years ago that listed operators should continue “making hay while the sun shines on unregulated markets”, and nothing that has materialised since has persuaded him otherwise.

It was six years ago that I first wrote for iGaming Business about “making hay whilst the sun shines” in unregulated markets. The slow pace of regulation across continental Europe since has only served to reinforce that view.

Now I fully expect that over the next five years the path of regulation will accelerate in Europe and further afield but those companies that have been operating in these markets for a number of years will have a competitive advantage due to the brand awareness and loyalty generated with existing customers.

We regularly discuss with investors what we call revenue arbitrage, in that the London Stock Exchange (not seemingly Stockholm) has historically ascribed a far higher multiple to revenues that are generated from regulated markets than to those that are not. We think risk is misunderstood and certainly mispriced by the market, although there were signs during 2016 that this was changing.

Risk can be just as high in regulated markets as unregulated. it just manifests itself in different ways. Take the UK as an example, where the Department for Culture, Media & Sport is currently undertaking a review of advertising and social responsibility and the Competition and Markets Authority into consumer protection.

That's not to mention the potential for HM Treasury to review the tax rates applied to the online gambling industry on an annual basis. Why these types of risk are deemed more acceptable by the market is increasingly hard to understand.

Risk brings higher margins – no tax, less above-the-line advertising and less competition – but a smaller addressable market, limited by payment processing.

The overall result is a contribution margin of 60-70% compared to 30-40% in a regulated market, we estimate, which is significantly bigger on a per capita basis, but comes with higher levels of competition.
Q4 revenue growth rates of -10% at William Hill (ex Australia) and -3% at Paddy Power Betfair Online, according to our estimates, compared to +7% at GVC, neatly characterise the benefits of risk. Scratch beneath the surface and Paddy Power Betfair Online increased Q4 unregulated market revenues by 9%.

We continue to suggest that operators should still strive for that balance between regulated and unregulated, high-multiple and high-margin revenues, aiming to reinvest cashflow from unregulated markets into regulated territories to win market share.

Having a presence in an unregulated market also provides a competitive advantage when markets transition to a regulated model with established payment systems, loyal customer base and high levels of brand awareness.

Furthermore, growth in regulated markets is slowing rapidly. We think the Australian, UK and Spanish markets will struggle to deliver double-digit revenue growth this year, whilst Italy, Greece and France remain under pressure. Six years on I find repeating myself to “make hay whilst the sun shines”.

Related articles: DCMS to review gaming machines, social responsibility measures
CMA to probe online gambling in UK
William Hill to post lower-than-expected results FY 2016
GVC soars after strong close to ‘landmark’ 2016
Paddy Power Betfair expects full-year growth despite unfavourable sports results

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