2023-04-20 16:41:36 ET
Summary
- We now believe DraftKings has finally gotten serious about curtailing the overspend on new player acquisition costs.
- Up over 80% YTD, DraftKings stock has moved from its wildly overvalued status in spring '21 to a fair value range at the least.
- DraftKings has been a total sales growth play - and still is, but now there are more reasons to see the light on profits by 1Q24.
"The two most powerful warriors are patience and time…"
Leo Tolstoy.
Virtually from the day it went public in 2020, DraftKings Inc. ( DKNG ) fell into the gushing hands of pom-pom twirlers. Predictions that the eventual annual revenue of legal sports betting spreading to 40 states would top $200b drew nods from many otherwise prudent analysts. Mr. Market clearly agreed, brushing away the naysayers and trading the shares to an all-time high of $71.75 in mid-March of 2021.
By that September, superfan Cathie Wood moved her Ark funds position to 15m shares at ~$61. After the bludgeoning the shares have taken since, she unloaded the first of this month a total of 325,000 shares at the recent trading range~$20. She still has 21m shares. Whether this signals a total loss of faith or merely taking money off the table within the overall context of her current views on the stock or the market, in general, is not quite the point. What is clear to me here is DKNG's rise from a December 22 price of $11, to a double-range rise. Yes, the company's sequential sales growth continues and probably forms the foundational bull case. But I believe there is more to it. DKNG management is finally getting religion.
Analyst consensus at the moment for Q1 2023 targets an (84c) loss against a robust revenue estimate of $688m. I'm a bit warier of the 84c target than the revenue number. I think the $688m is realistic against my overall estimate of total sports betting industry revenue of $10.7b for this year. Management has raised its revenue target for this year to ~$2.85b to $3b. If it reaches the higher number, the prospects for turning EBITDA positive grows significantly just ahead by 1Q24.
Market share
Our best estimate is that DKNG will lose some of its current #2 market share position with ~27% to a sustainable 20% by the 2030 out year. FanDuel Group of Flutter Entertainment plc ( PDYPY ) retains #1 in my calculation, but also trims its current share of ~48% to 40%. Assuming the industry revenue hits my forecast of $50b by 2028-30, that still puts DKNG into that mature industry with $10b in revenue fully EBITDA positive. But while tailwinds are driven by possible new states to legalize, there are also headwinds to note here, some of which impact the entire industry.
The UK Gaming Act Review White Paper expected shortly
The entire global online gambling industry has been holding its collective breath for the publication of the long-awaited (and feared to a degree) White Paper on Gambling to be issued shortly by British regulators.
Dramatic, if not draconian, new regulations are expected to focus almost entirely on what officials see as a dangerous increase in problem gambling. To address this problem, regulators are expected to extend player data mandates beyond standards regarding name and address creditworthiness. There are continuing leaks indicating that the government might move to require players to disclose and prove their incomes. This, the government asserts, would enhance the ability for sites and regulators both to judge whether a given player can afford to gamble at the level that person is currently, or formerly, playing.
Other guard rails are under review involving stepped-up education about the pitfalls of problem gambling, particularly among the young. Betting limits will also come under review. But among all the threats industry associates we spoke to on this issue noted, the personal income disclosures are the most problematical. Many people engaged in cash businesses simply won't reveal their incomes. Others do not see why they have to reveal their incomes to any government agency beyond the Inland Revenue (Their IRS).
Still, others see it as a clear invasion of privacy. Said one gaming executive we spoke to:
"The proof of age declaration should be enough. If you are old enough to vote, serve in the armed forces, and think sensibly about how you spend your own money is sufficient. We already have trigger points in our systems to detect betting patterns that appear to signal a player may have the beginning of a problem."
Clearly, the White Paper will be the result of the research and studies of UK government and their investigators. What does this have to do with the U.S.? Of course, the individual states which have legalized sports betting since 2018 have built guard rails and firewalls they believe are strong enough to deter massive increases in problem gambling. But the UK White Paper is expected to resonate globally. Right now, anti-problem gambling programs are rapidly increasing from every institution that has skin in the game.
The sites all have message ads constantly urging bettors to gamble responsibly. The industry as a whole has grouped themselves under a huge initiative by the American Gaming Association to educate bettors. Other programs sponsored by the platforms plan to embark on public service advertising program commercials featuring star athletes aimed at a younger demo.
Industry concern here centers on state government officials using the White Paper recommendations to ignite debate and investigation of their own current problem-gambling laws. Government never needs much of an excuse to intrude into the lives of citizens and industries when politicians see issues ripe for exploitation. Investors in the space should not be surprised if the publication of the UK White Paper doesn't stir a brief, downside ripple in sector shares.
Above: Note 31% of responders lean negative despite strong firewalls.
The final impact the UK action could have on the U.S. sports betting sector is conjecture. It may be just a ripple. Clearly, all groups with skin in the sports betting game, private and public, have already demonstrated an awareness and willingness to invest and sustain problem gambling initiatives. But in a political process that could involve public hearings, one should expect the spate of horror stories, grandstanding politicians, and demands for action.
The tailwinds remain strong: DKNG is a stable hold
The sales growth of the U.S. sports betting market will continue strong unless impeded by one unexpected headwind or another through to 2030. For a while, DKNG had mostly given lip service to analyst and shareholder concerns about the unabated marketing costs. The company has attempted to reassure investors that lowering customer acquisition costs remained a high priority.
But at the current state of the sector, they averred, it was necessary to sustain these costs to build market share in new states and hold market share in mature states. We are beginning to see that finally, dollar by dollar, overall marketing costs are falling, and negative earnings showing signs of improvement. Despite this, sentiment that DKNG is still overspending and for that reason even overvalued at its current trade remains. Timing is an issue, as are potential macro headwinds like a looming recession that would cut severely into discretionary spending.
The NBA and NHL playoffs are currently at full throttle, giving some momentum to revenue gains in this and the next quarter. But the NFL season remains the single biggest revenue generator by far. And that doesn't show up until at least the tail end of 3Q. So, at the moment, any bullish forecast on DKNG might not meet the same positive sentiment - apart from metrics - that it would in August with football and hockey beginning.
DKNG: A transaction remains a hidden catalyst for some
A year ago, billionaire entrepreneur Tillman Fertitta sold his Golden Nugget branded sports betting site to DKNG in an all-stock deal then worth $1.6b. (~$15 at market then). My immediate response then was that it was potentially a big plus for DKNG. It expanded its database, but because it brought Fertitta into the company at a time when an adult was needed in the room it had collateral value.
There was also my contention, and still is, that DraftKings Inc. is ripe, almost overripe you might say, for a deal. It was at a point where DKNG either continued to try to spend its way to profit by chasing massive volume or a tempting deal came with the promise of bringing growth at a reasonable premium to a share price. DKNG could either continue to look at the 10 single-digit market share competitors they could buy with DKNG stock or move in another direction:
Diversify by buying a casino operator thus joining the casino/sports betting fraternity of Caesars ( CZR ), MGM Resorts ( MGM ), and Barstool Sports (Owned by PENN Entertainment ( PENN ). This expands a platform's reach into the large rewards databases of their casino patrons. All managements of the combined operations have confirmed that the migration of sports bettors to their casino floors has brought younger blackjack players in significant numbers who become dual customers.
DKNG raised a poorly thought out offer of $20b to acquire UK's betting giant Entain in 2021, when its stock was flying; otherwise, DKNG hasn't stirred much in the acquisition pond. Yet a current set of circumstances suggest possibilities. Last October, Fertitta moved on the shares of Wynn Resorts, Ltd. ( WYNN ), buying 6.1% of the shares valued at $385m.
It was a great bet as, since then, Wynn has nearly doubled from $56 to $116. In January of 2022, Wynn announced it had put the for sale sign up on its WynnBET platform, asking $500m. Perhaps it's too facile to suggest but we can put a little puzzle together from this. Fertitta could be a land bridge between his DKNG and Wynn holdings. His track record says he rarely buys in unless he has a longer-term vision to acquire the entire company. He could have a great long-term agenda here.
He has also announced a land buy on the Vegas strip. So we begin to see signs - omens of things to come - or just thinking out loud ruminations, of Fertitta building his Wynn position as an opening act to an idea of merging Wynn and DraftKings. Perhaps even bring Uncle Carl Icahn into the deal. Remember this is precisely what Carl did in engineering the El Dorado. CZR deal. The deal makes sense. You put WynnBET, a small player in the sports betting sector, into DKNG. A merger puts DKNG in the casino business. A strong player in Las Vegas, a Boston property, and perhaps a sale of the Macau business for a huge chunk of cash to help grease the financial wheels of such a deal. We cite this as only an example, of course. But we see numerous such connective tissue in the broad gaming space today for DKNG as it begins to move toward profitability.
It seems to us a good question for an analyst to pose at the upcoming earnings call: Are you guys open to doing a deal as an alternate path to growing the company into a healthy state?
DraftKings Inc. is slowly moving toward positive EBITDA with a real need to broaden its path to robust growth ahead. This puts our guidance for DraftKings Inc. at hold , with a forward look to buy if we see continuing reduction in costs by 2Q23.
For further details see:
DraftKings: Q1 Should Show Shrinking Negative EBITDA, Positive Sentiment Ahead