For significant detail on
Neteller’s business please see skca74’s excellent write up and Q&A from
July of 2005. I suspect there are at least a few VIC members interested in
getting an idea what the remaining business of an e-gaming company may look
like. This write-up will focus on the financial metrics.
As of 1H’06 the company
had 536,000 active customers, broken out as follows:
Active
Customers Growth in past year
(000s)
North America 460.7 43%
Europe
58.0 100%
Asia/Rest of World 17.2
101%
Total 535.9 49%
I am assuming that their
North American business is 90% US and 10% Canadian, which translates into 415k
active customers in the U.S. and 46k in Canada.
The US government now has
270 days to implement regulations enacting the law. I am assuming that once
that occurs that all but 1% of Neteller’s U.S. business is gone. (I am
maintaining one percent as I suspect at least some gamblers will find a way to
circumvent the law.) I am further assuming that the rest of the business grows
from mid-2006 as follows:
Active Customers:
2006 YOY% 2007 YOY% 2008
Growth Growth
United States 414.9 -99% 4.1
0%
4.1
Canada
45.8 20% 54.9
15% 60.4
Europe
58.0 66% 96.3 33% 64.6
Asia/Other 17.2 100% 34.3
50% 51.5
Total 535.9 -65%
189.7 29% 244.2
I’ve tried to be
conservative growth estimates, but it stands to reason that growth could be
much higher in unexplored markets.
Neteller reports that in
the past 12 months the average customer generated $432 in revenue which amounts
to about 14.0 cents per dollar of revenue deposited in their e-wallet.
A oversimplified
breakdown of how that revenue might be generated is as follows:
North American Customer:
Instacash
8.9
Less: bad debt (2.0)
Tranfers, 2 @ 3.1c 6.2
TOTAL 13.1
Instacash is the product
that allows users to gamble immediately after depositing their funds. Neteller
charges the customer 8.9c for the service and in turn guarantees the gaming
site that the funds will be good. The charge to transfer funds from site to
site is 3.1c.
Fx conversion on the way in/out, 2 @ 1.9c 3.8
Transfers, 3 @ 3.1c 9.1
TOTAL
14.9
With the loss of the U.S.
business the metrics change as Instacash is really only offered in North
America, thus only Canadians are likely to continue using this feature.
(Because of this I will reduce bad debts in the income statement by 90%.)
I also suspect that after
the U.S. is completely rolled off that gambling websites may stop using US
dollars as a main currency and may more often use Euros. (I need to check this,
as I am not an online gambler.) If so this may reduce the number of Fx charges
as some customers may not need to convert.
I believe this is likely
to be somewhat offset by increasing business in other parts of the world
including Asia, LatAm and South Africa. If I reduce the Fx charges on the
remaining base by 50% (from 2 to 1) I get the following per customer revenue
generating picture:
Remaining Customer:
Fx conversion, 1.0 @ 1.9c 1.9
Transfers, 3 @ 3.1c 9.1
TOTAL 11.0
According to the company,
Europeans transfer their funds from site to site more frequently looking for
better deals, hence the higher assumed number of transfers.
This suggests that the
remaining customers may generate 11.0c divided by 14.9c, or 74% of the revenue
of the current customer base. If the current active customer base generated
$432 in revenue per customer in the past 12 months, then the remaining active
customers (and new additions) being non-US may generate about $319.68 in
revenue per year per customer. ($432 x 74%)
I see active customers by
mid 2007 (assuming loss of 99% of US biz) on the magnitude of 189.7K (see
above), which translates into about $60.7M in revenue.
Revenue 60.7M
Costs:
Cust Support
5.5 9.0%
(up from ~7% now)
Website maintenance 2.1 3.5% (up from ~2+% now)
Depost/Withdr fees 3.9 6.5% (same as now)
Bad debts
0.8 1.3%
(One-tenth of current 12.6%)
Depreciation 10.0 (same absolute number as now)
G&A 15.2 25.0%
(See below.)
Operating income
23.2
Tax 2.3 10%
(Isle of Man)
Net income 20.9
EPS $0.17
Shares 123M
EBITDA 33.2
NI + Depr 30.9
Less: capex
(10.0)
Free Cash 20.9
I’ve tried to be conservative,
especially with the G&A estimate. I’m using 25% which is well above the
~11% of revenue in 2004 when the business was of a similar size to what I
believe it is now going to be and also above the 17% they are at now. This
assumes they cut back some admin due to the loss of the U.S. but not all.
As of the end of the 1H
the company had $136M in cash. I believe they are likely to generate
approximately $60M in additional cash by year’s end, leaving $200M in cash on
the balance sheet. After the U.S. business is gone the company should also free
up restricted cash on the order of $26M. This represents 90% of the restricted
cash. This restricted cash is cash in excess of the funds needed to manage
Instacash and which should return to them when the U.S. business ends, less the
10% or so of it needed to manage the Canadian Instacash business.
Finally, as noted above,
one year of business without the U.S. should generate another $20M in free
cash.
Taken together:
Balance sheet cash
6/30/06 136M
FC generated by 12/31/06 60
Return of restricted cash 26
Cash first yr smaller biz 20
TOTAL by end of 07 242M
Market Cap:
Shares 123M
Price 170pence
FX to USD at 1.884 GPB/$
= $3.20
per share
Market Cap $394M
Enterprise Value:
Market cap 394
Less: cash
(242)
Enterprise Value 152
2007 2008
EBITDA 33.1 42.7
EV/EBITDA 4.6 2.9
(To get my 2008 EBITDA, I
use the active subscriber estimates from the top of the write up along with the
same metrics and margins used to obtain 2007 EBITDA and free cash.)
The assumptions provided
suggest the stock is cheap. Now the future of the company rests on the
regulatory regime established in the rest of the world, particularly Canada and
Europe.
Canada does not permit
online gaming companies to operate in its jurisdiction. However, Canada serves
as a location of operation for a number of online gaming operators (or portions
of their ops) by virtue of carve outs for Indian reserves. (The PartyGaming IPO
prospectus is a good primer on regulation throughout the world.)
The UK has already
developed a set of laws and regulations governing Internet gambling. This
insures these companies have a safe location from which to operate. A number of
other countries in Continental Europe are making noise about restricting
e-gaming in order to preserve local monopolies, France in-particular. Unlike
the U.S., the restrictions are typically not based on moral objections (such as
the U.S. law), but rather on the potential loss of tax revenue.
European Union Article 49
provides that no member state may impose restrictions on the freedom to provide
services from one member state to another. However, they can impose
restrictions to safeguard the public interest. If a country already permits
gambling then to restrict e-gambling is not a matter of public interest.
I am just ramping up on
the country-by-country situation. France has arrested executives of bwin,
stating that their activities violate the French state monopoly on gaming.
However, this would be in direct opposition to EU law and is one of a few
different examples of how this could be brought to a head.
In searching the web,
“Gambelli decision” is a good key word as it will bring up a related case in
which the EU has begun to lay the groundwork for overturning efforts to
prohibit gaming in states which have other forms of gaming.
I had excellent access to
information regarding the proceedings to ban e-gaming here in the U.S. Lacking
that access in Europe, I do not know what the outcome of the European
regulatory environment will be or have a way to monitor it other than the news.
While I can’t predict the outcome of the EU situation, I think it is wrong to
make a blanket assumption that it will turn out like the US. First, at the EU
level e-gaming is likely to be supported based on the trade mandate of the EU.
Second, the regulatory battle is likely to go from state to state (as opposed
to one big vote like in the U.S). With the UK already in-line it sets a model
for other states to follow and makes it harder for other states to oppose it,
at least in the end. (Long-term, I do not believe the U.S. government or the
E.U. will manage to stop the spread of internet gaming.)
Markets seeing that business is being conducted as usual outside the US. Clarity on European regulator situation.