Description

Disclaimer: This report is the work of an investment adviser affiliated with the author. The report is the result of the adviser executing its investment strategy. The adviser holds a position in the security, however there is no assurance that the adviser will continue to hold the investment or make additional investments and will not update the information to reflect future changes in the adviser’s assessment of the investment.

Kindred Group - Write-Up

Kindred Group is an event-driven situation with an imminent catalyst, offering an attractive risk-reward skew over a one-year time horizon.  In a sale case, we see 21%-33% upside in the next ~3-6 months.  If a sale doesn’t transpire, we see the shares trading modestly higher twelve months from now.  We think the new activist-driven board “driving the bus” provides downside protection as it will likely force the company to immediately wind-down the loss-making U.S. business and utilize its overcapitalized balance sheet to aggressively repurchase shares or pursue accretive M&A.

Situation Overview

Kindred is a leading, pureplay online B2C sportsbetting and igaming business, operating primarily in continental Europe and the Nordics.  It historically derived a large portion of revenue from unregulated markets but this mix has been steadily decreasing over time.  Regulated markets represented 81% of total revenue in 1Q23, up from just 30% in 2015.

In May 2022, Corvex (the U.S. activist fund run by a protégé of Carl Icahn, Keith Meister) disclosed a 10% shareholding (since increased to 15%) and put out a press release suggesting the company explore strategic alternatives. 

It should be noted that Corvex is also a large shareholder in MGM and Meister is on the board of MGM and BetMGM (Entain and MGM’s 50/50 online sportsbetting and igaming JV in the U.S.). Corvex’s view is likely that the online sportsbetting and igaming space is rapidly consolidating and Kindred is an under-levered, subscale but highly strategic asset.

Kindred’s board appeared to not fully acquiesce to Corvex’s requests throughout 2022.  During the year, Corvex appointed one representative to the board and Meister became head of the nominating committee and helped nominate an additional 5 independent directors in late December 2022 (one of which is a former gaming & leisure investment banker).  All 5 new directors were voted in by shareholders on April 20, 2023.

On April 26th, the newly assembled board of Kindred announced they were exploring strategic alternatives and hired three financial advisors (PJT, MS, Canaccord) to assist with the process.  The press release noted, “such alternatives could include a merger or sale of the Company (in whole or in part) or other possible strategic transactions”.

In the week of May 15th, Kindred’s CFO and long-tenured CEO both resigned.  Last week Bloomberg ran an article stating that there is indeed a sale process being run and the timeline for first-round bids has been moved up following the executive resignations with bids due at the end of May.  MGM, Flutter Entertainment, Entain and Evolution Gaming were cited as potential participants.

Thesis

We think it is quite likely that Kindred will be sold to a strategic acquirer.  In a sale, we estimate the shares could be worth SEK 153 - SEK 168/share, or 21-33% upside.

If a sale doesn’t take place, we think there is less downside to the share price than may be appreciated by the market.  The shares today are still cheaply valued, trading at 8x EV / 2024E EBITDA (vs. an average of >10x from 2010-2021 despite having significantly higher unregulated exposure then) and a 9% unlevered 2024E FCF yield.  Moreover, there are two obvious value-accretive levers we think the new board will pull in the event the sale process falls through: 1) leveraging the balance sheet to buy back stock or pursue accretive M&A, and 2) winding down the perennially loss-making U.S. business.  Given Corvex’s shareholding and the new board, it seems highly likely that these levers would be pulled.

The CEO resigning is likely also a sign that the above two initiatives are in late-stage discussions as his abrupt resignation came a few weeks after the board’s strategic alternatives announcement.  We have heard here that country managers at Kindred operate quite autonomously and are well-regarded so we don’t see much near-term disruption from the CEO and CFO departures.

It should be noted that Kindred’s net cash balance sheet is unique within the online gaming space.  Flutter, Entain and MGM are levered 3.9x, 2.8x and 3.4x Net Debt/EBITDA, respectively. 

The strong balance sheet is a function of both Scandi management conservatism and Kindred protecting itself from the financial impact when the Netherlands decided to regulate sports betting.  The Netherlands was formerly an unregulated market where Kindred’s Unibet brand had a dominant market position.  Due to the lack of betting duties paid under the prior regime, Kindred always had a large percentage of its EBITDA coming from the Netherlands.  When the market decided to legalize online gaming, the regulator gave a head start to the local land-based gaming operators and effectively kicked Kindred out of the market for 8 months.  Kindred consolidated EBITDA declined from €390 million in 2021 to €188 million in 2022 as a result (guidance is for >€200 million in 2023). Netherlands revenue is still ramping in 2023 for Kindred and management are guiding to reclaiming their #1 position in the market by the end of the year.

All in, if the shares trade at the same EV / Forward EBITDA multiple they were trading at prior to the announcement of the strategic alternatives—after layering in earnings accretion from debt-funded buybacks and winding down the U.S. operations— we see the shares being worth at least SEK 130/share, or modestly above the current share price, over the next twelve months.

Transaction Rationale

Our industry contacts have maintained that Flutter Entertainment (FLTR LN, $35bn market cap), Entain (ENT LN, $11bn market cap), MGM Resorts (MGM, $9.8bn market cap, $27bn EV) and Fanatics ($31bn private valuation) would all take a look at Kindred if a sale process were ever run.  We think the strategic rationale for specifically MGM and Flutter makes a ton of sense. 

For Flutter it would seem to make the most sense as they’ve been executing extremely well in the U.S. (50% online sports betting market share in a highly competitive market), which has led to significant share price appreciation (trading at 19.7x EV/NTM EBITDA, though U.S. profitability is still low).  They have a target of deleveraging and using their shares as consideration would seem to be a no-brainer as a Kindred cash & stock transaction would put them one step further ahead as the largest and best-capitalized sports betting player globally.  Flutter could easily pay a 30% premium from here and see healthy EPS accretion.  Kindred would also complement Flutter’s existing European portfolio as it lacks a meaningful market presence in France, the Benelux and the Nordics.

For MGM, it would appear less obvious as the company has a 50/50 JV with Entain in the U.S., BetMGM.  But conversations with former executives from MGM point to the company actively attempting to build online gaming capabilities internationally as the JV with Entain is a bit of a stalemate (MGM was rebuffed when it tried to buy Entain outright and they’ve announced they’ve tabled another attempt for now).  MGM also recently bought LeoVegas, which was publicly-traded in Sweden, for its igaming tech capabilities.    And Barry Diller’s Interactive Corp became a ~20% investor in MGM during COVID so the entire organization is making a hard digital push, led by former IAC exec Gary Fritz.

We have heard private equity would also take a look at Kindred given the cash flow generative nature of these assets, but a PE buyer seems less likely due to the lack of synergies and the relatively large check size.

Sale Case Upside Math

Kindred are guiding to >€200m of EBITDA in 2023, but that guidance includes something in the range of €25-€30 million of losses from the U.S. and nearly €10 million of elevated P&L expenses in building out a new sportsbook (Kindred Sportsbook Platform, KSP).  Combined with the Netherlands earnings still ramping up, we see ~€250m of normalized EBITDA.  Applying a 10.0-11.0x multiple on this gets us to SEK 153 - SEK 168/share, or 21-33% upside. 

We ascribe no value to the U.S. business but based on the recent Pointsbet transaction, we estimate It could be worth an additional ~$50 million, or another SEK 2.50/share.  Note that synergies in online gaming transactions typically represent 5-10% of target revenues (or SEK 39 - 78/share, capitalized at 10x) and any of the rumored bidders could likely extract something closer to the high end of that range.

While precedent transactions have taken place at higher multiples (e.g. LeoVegas at 13.3x, Enlabs at 12.5x), we think the above multiple range accounts for Kindred’s moderate growth prospects and unregulated exposure (acquirers tend to ascribe lower multiples to unregulated “gray market” EBITDA as these can get hit when governments decide to regulate).

Other Notes

1. Technical dynamics – Kindred is headquartered in Malta but listed in Stockholm and many LOs and pension funds in Sweden can’t own gaming assets for ESG reasons.  As a result, Kindred true value is likely best recognized in a sale

2. The founder of Kindred (and former chairman) with a 3% shareholding, has come out publicly in favor of a sale:

   1. https://igamingnext.com/news/anders-strom-kindred-five-things/

3. Insider buying - Management and board members have steadily bought shares in the open market since summer 2022 and through May 2023

4. Since the announcement of the strategic alternatives Blackstone and Eminence Capital (both firms with online gaming experience) have popped up on the shareholder register

Business Background

Kindred is the third-largest publicly-traded B2C online sports betting and igaming operator in Europe. Split is roughly 50/50 online sports betting / igaming.

Kindred has a well-known brand in “Unibet” and very strong (#1 or #2) market positions in regulated markets of Netherlands, Belgium, France, Denmark, Sweden and Romania.  Most of these markets can be described as attractive with the top 3-4 players comprising a majority of the market. “Unibet” has extremely strong brand equity in its core markets and “Unibet” is used as a verb meaning “to gamble on sports” in the Benelux.

These European markets have trended towards consolidated market structures as over time as governments tend to increase taxes, which puts pressure on smaller players.  France is a good example of this where the tax rate is extremely high (55% of revenue) but this has consolidated the market down to a point where the top 3 players now have >80% market share.  And online penetration in France is still very quite low, so the market is growing double-digits.

Kindred has a much smaller market share (#6) in the larger but more competitive market of the UK. 

Brand equity, tech and economies of scale dictate competitive advantages in this space.  More specifically, scale combined with a hyper-local marketing approach tends to lead to #1 market positions.

General feedback from competitors and former executives is this is a quality asset and (was) a solid management team.  The main negative is that they “missed out” on the U.S. market and don’t have a ton of growth angles beyond the Netherlands.  Still, Kindred’s markets are secularly growing in the mid-to-high single-digit range and the space historically has been recession-resilient (grew through the GFC, though online penetration was lower then).

Regulations are constantly in flux so having a diversified footprint of regulated markets is key for long-term success.  No market represents more than 20% of revenue for Kindred today.

Kindred’s medium-term targets are for 21-22% EBITDA Margins and CapEx/Revenue of 3-4%.  Entain and Flutter given their larger scale earn 25-30% EBITDA Margins in their European markets.

Catalyst

Acquisition 

Shut down of US business