Description

Description

Entain is a leading international gambling operator, resulting from a rollup strategy of European brands such as bwin, Ladbrokes, Partypoker, and Coral.  Entain also owns 50% of BetMGM through a JV with MGM.  

Buying Etain today allows you to gain exposure to 1) a European reopening, 2) online gaming growth, and 3) more specifically, the US iGaming market.   Entain stock is inexpensive despite receiving takeover bids from other gaming operators (MGM and Draftkings) over the past year.  

Entain is a strategic gaming asset and I believe it will either trade much higher over time – with substantial optionality due to BetMGM - or be bought by a larger company (likely MGM).  

 Prior takeover attempts

In early 2021 Entain received a takeover bid from MGM, where MGM offered 0.6 shares of MGM for every Entain share.  MGM had the support of IAC who was willing to chip in $1b to make this deal happen.  At the time, this valued ENT around 1,400 pence – a level that is only ~15% below Entain’s current price.  That offer was rejected by Entain as being too low and I consider this the real floor for the stock.  It’s worth noting that the same offer at MGM’s current price, would value Entain at ~1,980 pence, or ~20% higher.  

Later in 2021, Entain was approached by Draftkings, who floated an offer of 2,800 pence per share – a 65% premium to the price today (although at the time DKNG stock, which made up the majority of the compensation for the deal, was trading significantly higher).  The issue with this bid likely came down to the BetMGM JV and MGM’s unwillingness to deal with DKNG.  Either way, the deal never closed. 

I will touch on this later but the deal seemed to make sense for both MGM and DKNG.  MGM is a cash flow machine that would be taking full control of one of the top 2 or 3 premier gambling apps in a nascent market that, over time, threatens its brick & mortar operations , while also receiving cheap assets in Europe.  For DKNG, the deal made all the sense in the world because they’re currently in an arms race with 2 apps that are backed by cash flow machines (Fanduel, backed by Flutter, and BetMGM, backed by Entain and MGM) while also seeing strong gains from Ceasar.  DKNG is in an unenviable spot where they’re going to continue to have to spend their way to big market share, despite not having any cash flow to pay for the spending.  They’re also known primarily as a sports betting brand, not an iGaming brand, which lowers their odds of having a large market share of the total (sports + iGaming) GGR of online gambling in the US – and iGaming will be a large part of the market.  

Retail

The majority of Entain’s retail operations are located in the UK, with smaller exposure in Italy, Belgium, and other parts of Europe.  Retail is Entain’s slow growth business, as flat LT market growth in the UK is accompanied by LSD growth in the rest of Europe and faster growth in newer markets.  Over time, the betting shops and brick-and-mortar locations will continue to cede share to online gambling, which effectively means the retail operations are run for cash flow.  

With that said, retail is going to be a huge growth driver over the next year or so as European operations reopen.  The UK retail gaming market as a whole was decimated in 2020, down 60%, as betting shops were closed and sports were postponed.  This is just now beginning to show signs of normalization.  

From 2019 to 2020, retail revenue fell 40%, with operating profit moving from +$140mm to -$41mm as the company was barely EBITDA breakeven due to paying rent on locations that stopped earning revenue.  In 2021, the retail division had one brutal comp (Q1, as most retail locations were open the majority of that prior year’s quarter) then steadily improved throughout the year as the UK/Europe reopened, with Q4 revenue +60% and within 10% of pre-COVID levels.  Despite this, for the entire year retail revenue growth will be negative, and will generate a small amount of EBITDA.  

In 2022, we should see the year play out similar to Q4, where the company laps extremely easy COVID comps for 3 quarters, then starts to return to flat growth in Q4.   I’m assuming we don’t get back to pre-COVID revenue levels given, some of the mix shift to mobile is likely to be permanent (as betting shop players versus online players are somewhat different demographics), leading to EBITDA being ~£230mm (versus ~£275mm  in 2019), and then LSD growth from there.  So effectively, they go from no EBITDA in 2021 to 80% of pre-COVID levels within a year.  

Int’l Online

Entain’s Int’l online gaming business is their growth business and a way to play overall online gambling growth.  This has been a great business for Entain so far, with years of double digit growth and roughly ~30% EBITDA margins.  From 2013-2019, the total online market grew at 10-12%/year, and I assume this growth mostly sustains going forward, as more mature markets grow around 8% with newer markets growing at twice that rate.   Once they get through the near term regulation headwinds, Entain should be able to grow their non-US online biz at a 10% clip over the long term as they have a slower growth UK business coupled with faster growth in newer areas such as Brazil – non-core markets are around 25% of revenue today.   Note that virtually all revenue comes from regulated markets, and the majority of their markets are still only ~40% penetrated

In general, once a market consolidates, online gambling has been a good business for the larger players.  In Europe, for example, all the largest players did 20-35% EBITDA margins in 2019, regardless of mix between casino and sports.  At scale, high margins seem to make sense versus land based casinos.  What online apps lack in food, beverage, and lodging, they make up for in access.  Land based casinos are constrained by the number of bets a person can physically make, and will have limited sports/games to bet on.  Apps have no such issue, with 24/7 ability to gamble, globally, with no real negative stigma attached to it like a land based casino.  

I believe Entain’s margins will be higher than most competitors over time, simply due to larger scale (they are the #2 in the UK, #2 in Germany, #2 in Italy, and #3 in Australia – and have the cash flow to continue to spend to grow) and a higher percentage of games created in-house (leading to lower payouts to game providers).  I also believe that Entain’s higher mix of iGaming versus sports is a bonus, as in general that seems to keep customers from moving to other apps more often.  Online EBITDA should be around the £900mm level in 2021.  

2022 will start with a slight drop in revenue due to tough Q1/Q2 comps and Germany/Netherlands regulation.  However, the big event in 2022 will likely be UK regulation.  

The UK is considering maxing out online slots wagers at ~£2 per spin.  I estimate there’s approximately ~£50mm of EBITDA at risk here if this passes (the company has suggested a similar amount).  This risk is hard to handicap as the potential regulation has been politically unpopular, with <30% support in the past, and Entain has already taken steps to limit problem gamblers and they suggest their AI has eliminate 30% of problem gamblers from their servers.   This regulation has been in the news so much over the past couple of years that it feels fully absorbed in the stock already.  Regardless, I assume Entain bears the full impact of regulation this year, then returns to normalized growth in 2023.    

Valuation 

Entain should do roughly £880mm in 2021 EBITDA (assuming ~£75mm of corporate), and around £980mm in 2022 as the retail division springs back to life and is partially offset by UK regulation and a year of eSports spending.  In 2023, as they lap the eSports spending and regulation, I think they do ~£1,100mm in EBITDA.  Beyond that, I think they can grow EBITDA at ~8-10% for a long period of time. 

Entain currently has a market cap of £9.9b.  Given ~£1,100mm in EBITDA they should be able to generate at least £680mm in FCF (versus ~£500mm in 2020) in the core assets, leading to 14.5x P/FCF, growing 8%+ a year.  This seems more than reasonable for a premier online gaming company.  

Assuming the current price FCF is fair, it values the BetMGM asset at ~£0, which is way too low.  I think there is substantial optionality in the BetMGM asset.  

Optionality

It’s hard to overstate the giant shift that is occurring in the US gambling market – going from a world where gambling was difficult to accomplish due to a small number of casinos in limited locations, to a world where you can access any type of gambling, 24/7, in all sports, in a virtual casino in your hand with an unlimited number table games to play.  Given most US citizens only exposure to gambling is an occasional trip to Vegas, the gambling TAM in the US has expanded massively.  

I think over time the economics will be good for the US online players.  Land-based casinos have big advantages over online ones, including land-area monopolies, exclusive events and shows, less consumer knowledge shared (ie. you don’t realize that the Wynn sportsbook odds are more in your favor than at the MGM, because it’s across the strip), a unique consumer experience, and a lot of brand value built up over time.  But they also have the massive negatives of paying for this physical space (lots of CapEx), paying for these neat experiences, a general lack of knowledge about their customers (thus everyone is treated exactly the same, ex-VIPs), and the fact that they are only accessible with a ton of travel – casinos are almost always out of the way.  

On the flipside, online casinos have zero monopoly power (all sites are available everywhere), no exclusive events or shows (except in certain horse races), and very high consumer knowledge share (thus most odds given will always trend towards the worst house odds).  CAC should be high because in theory players will bounce back and forth between apps just to capture the best odds.  But from a positive standpoint, the online apps have a few crucial advantages – 24/7 access to you largely regardless of your location (compete omnipresence), unbelievable data on both individual consumers and the group as a whole, which culminates in the ability to throw so many bets at you, and hit you so effectively all the time, that the house odds significantly improve over time.  And they also don’t have to pay for space, which leads to high margin revenue if you can hook a consumer in (Entain’s European online biz does 40% incremental margins as it grows, versus <30% all-in margins today).  

The market seems to be consolidating in 3 big winners so far – DKNG, FanDuel, and BetMGM.  CZR and PENN are behind but CZR has been making great strides.  I think the way this plays out is a 3 horse race between FanDuel, BetMGM, and possibly CZR, with DKNG struggling as time goes on due to lack of cash flow.  I also think that over time, BetMGM and CZR will win the iGaming markets (not the sports markets), which is crucial.  

iGaming

On the iGaming side, MGM has a massive advantage versus DKNG and FanDuel.  MGM has significant brand value when it comes to slots/roulette/typical casino-games in the US, and they also have a big card program that they can transfer over to the land based players – they know these people well, and the point system/promotions that will flow through the casino will keep people playing on BetMGM versus any other app (because they are already hooked).  In the CZR thread from this week, a few posters touched on this, but the omnichannel presence here is huge.  FanDuel and DKNG don’t have the same sort of presence because of it.  BetMGM is already growing faster than peers despite spending half as much as them on marketing, due to their great brand.  They already start at an advantage due to lower CAC.  

iGaming (versus sports) is a good business because it’s highly addicting and there is no real “break” in the action – you can gamble virtually non-stop.  This prevents players from leaving  to open another app  (provides BetMGM with a high amount of lock-in) and also means BetMGM has better odds of putting up consistent margins (versus a huge one-off loss in sports betting).  

Beyond its customer lists and brand value, BetMGM also has the advantage of already having land based casinos in many markets, meaning they can avoid giving away revenue to a land based casino like DKNG would have to do if they made a deal to be their “skin” in a given state.  BetMGM will have structurally higher margins because of this.  

To put some context around iGaming numbers – and to understand why BetMGM is so interested in this market – you can peek at the Golden Nugget numbers from the past.  In Jersey, where they have a decent-sized iGaming presence, the average gambler was playing >2x more per month than the typical land based casino visitor, and was generating 7x more hold than an online sports bettor.  BetMGM has also stated that they expect iGaming customers to be more profitable.  

On the sports side, BetMGM has done a good job of trying to translate this hyper-addictiveness to the sports side, which creates more app lock-in (because you won’t be jumping from app to app while you do it – it’s too fast paced), by pushing in-play betting.  43% of their total sports handle is now in-play.  Mgmt has stated that these lower-stake, higher velocity bets are higher margin.  Which makes sense, as the information is coming at you so fast, it’s impossible to calculate whether or not the odds even seem fair.  

Opportunity

Over time management expects BetMGM to have ~25% market share of sports + iGaming, and do 30-35% margins.  I think if they can truly flex their omnichannel strategy over DKNG and FanDuel, these number are possible.  On a GGR TAM of $30-40b, with ~20% paid out in promotions, this would mean BetMGM could generate ~$2-3b in EBITDA.  I also believe that the TAM could end up being larger than most analysts expect, as it doesn’t even feel like we’ve scratched the surface on finding out how many people ultimately end up gambling on their phones in the US.  

BetMGM did ~$850mm in revenue in 2021 with a $1.3b revenue goal in 2022 – 52% growth, despite the fact that competitors are outspending them 2-to-1 on marketing – the brand matters.  They are effectively one year “behind” DKNG on revenue, but BetMGM also expects to start hitting EBITDA profitability in 2023, which seems to be in line with what DKNG is saying.  I personally think over time BetMGM outgrows DKNG, hits profitability faster, and will have higher margins, for many of the reasons listed above – all advantages that DKNG does not have.  With that said, if I value BetMGM at the same market cap as DKNG, Entain’s share is worth ~£3.0b.  If the current EV is “fair” today based on just the core assets, the market cap would have to rise 30% to capture BetMGM’s valuation.  

As a spot check on valuation, Jefferies recently valued MGM’s BetMGM piece at ~£7.0b.  If this was true, and the core is fairly valued, Entain’s price needs to rise ~75% to capture this.  

Endgame

I think the endgame here will be MGM buying Entain at some point.  They clearly want the asset, Entain trades cheap, and the reality is that MGM is always going to be the best buyer due to that relationship.  MGM just stated on their call that “an omnichannel customer literally is worth 2x, 2.5x a regular customer.”  I believe MGM knows that this asset is a huge benefit to them, and I think they buy it.  They have some leverage here, given any other buyer will want the 50% of BetMGM that Entain holds, so they could throw in a bid well below “fair value,” but I think at some point MGM buys this.  

 If it doesn’t happen, then I imagine at some point a small portion of BetMGM is spun to show the value to both MGM and Entain, resulting in higher stock prices for both companies.  Entain is undervalued in either scenario.  

Disclaimer: The information contained herein reflects the views of the author as of the date of publication. These views are subject to change without notice at any time subsequent to the date of issue. The author has an economic interest in the price movement of the securities discussed in this presentation, but the author’s economic interest is subject to change without notice. All information provided in this presentation is for informational purposes only and should not be deemed as investment advice or a recommendation to purchase or sell any specific security. While the information presented herein is believed to be reliable, no representation or warranty is made concerning the accuracy of any data presented. In addition, there can be no guarantee that any projection, forecast or opinion in this presentation will be realized. All trade names, trademarks, service marks, and logos herein are the property of their respective owners who retain all proprietary rights over their use. This presentation is confidential and may not be reproduced without prior written permission from the author.

Catalyst

- BetMGM valuation highlighted