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gaming companies in for huge 2011 - 23rd November 2010
Could online gaming firms be in the mix of the top stockmarket
investments to make in 2011? The
listing of Betfair (BET) at the conclusion of October on a fancy multiple and
the $3.3 billion megamerger between PartyGaming and Bwin (PRTY), due to complete
in the first quarter of 2011, appears to have added spark to the industry of late. Then
there is the prospect, albeit slight, of the liberalisation of the US igaming
market which has put the industry firmly on investors' watch list, including ours,
for next year. It
is understandable, as even a snapshot look at the stockmarket gains of the world’s
biggest online gaming companies between circa 2004-2006 reveals just how quickly
fortunes were made and lost. The
iGaming Global Top 30 Index, an index of the stockmarket performance of the biggest
30 online gaming companies, surged 40% between July 2004 and August 2005. This
was followed by 12 months of extreme volatility before sinking thanks to a controversial
piece of legislation in the US. Since
2006, online gaming’s real story has been dominated by America’s Unlawful
Internet Gambling Enforcement Act (UIGEA). The
multibillion-pound global industry virtually collapsed in a heap after its biggest
market - the US - was closed down overnight when Congress introduced a surprise
clause to legislation in September 2006, in effect making internet betting illegal.
Not only was that a blow for investors - it was a hugely expensive one. British-based
companies were among the biggest casualties. As
soon as the London Stock Exchange opened the following Monday morning, shares
in PartyGaming - then a FTSE 100 member - dived by 58%, while rivals 888 Holdings
(888) and Sportingbet saw their shares slide by 26% and 64% respectively, wiping
an estimated £4 billion off the sector's value. The
companies were forced to focus on opportunities in other parts of the world, but
the businesses have never fully recovered from the impact of losing their most
lucrative market. Last year, online gambling was worth an estimated $5.4 billion
(£3.5 billion) overall, a figure that could rise to $12-$16 billion if the
market was opened up, analysts say. Despite
the recent loss of a sympathetic Democrat majority in Congress last month, there
is renewed hope of floated gambling companies being dealt a good hand on both
sides of the Pond. The
new Republican chairman of the House financial services committee is likely to
be an old-style Alabaman named Spencer Bachus. Yet
he is likely to listen to the prospects of a reinvigorated gambling sector for
the ailing US economy. The Federal government’s non-partisan accountants,
the Joint Committee on Taxation, have estimated online gambling could generate
between $10 billion and $42 billion in new revenue by 2019, depending on the number
of states that opt into a federal regulatory programme. Yet
he is likely to listen to the prospects of a reinvigorated gambling sector for
the ailing US economy. The
Federal government’s non-partisan accountants, the Joint Committee on Taxation,
have estimated online gambling could generate between $10 billion and $42 billion
in new revenue by 2019, depending on the number of states that opt into a Federal
regulatory programme. And
you can see why if you glance at the forecast numbers. With
the US nationwide unemployment rate at 10%, 48 of 50 states facing budget shortfalls
and a Federal deficit approaching $1.3 trillion, the economic backdrop against
which to promote regulation and taxation of internet gambling has arguably never
been more favourable. Yet
those companies poised to get a real boost should America legalise online gambling,
such as the impressive PartyGaming/Bwin combine, are getting excited about the
future. "We
are seeing things from a legislative perspective that are quite exciting for us,"
says Jim Ryan, chief executive of PartyGaming, whose comments undoubtedly reflect
the mood of a growing contingent of gambling operators on both sides of the Atlantic. There
has been speculation that PartyGaming and Bwin have decided to merge at this time
precisely because they will be better placed than any other operator to seize
a huge market share should the US decide to legalise online gambling. You only
have to look at the market share that Party was able to capture by becoming one
of the first operators into the online poker market back in 2001. Analysts
agree the enlarged company is in a strong position to exploit the opening up of
the US market. In
a note to investors recently, the Morgan Stanley leisure analyst Vaughan Lewis
said: "The overall political tide is moving firmly in favour of regulation,
rather than prohibition. "With
its expertise... market-leading technology, strong marketing capability and good
brands, we think the combined entity of PartyGaming and Bwin would be extremely
well positioned to benefit from any market opening in the US. We include nothing
in our forecasts for the US, so any new market here is pure upside." And
in a recent Barclays Capital research note, the investment bank said: "In
the event of Federal regulation, we believe PartyGaming would be the likely key
beneficiary. "Under
this hypothetical scenario, we estimate the potential [underlying profits] uplift
could be 94% for PartyGaming and 58% for Bwin and 888. On a state-by-state hypothetical
scenario, we estimate the uplift for the group would be considerably lower, but
still meaningful." Meanwhile,
at the end of October analysts at Numis published a note saying there is 50% upside
potential at Party when the merger with Bwin completes in March 2011. With the
shares trading at around 230p at the beginning of November Numis have put a price
target of 400p on the stock. The
PartyGaming/Bwin merger has got the other big companies in the sector scurrying
around to do similar deals. They don't want to be left behind in what will become
a gold rush should the US legalise online gaming. 888
and Sportingbet are also possible future takeover targets as the industry consolidates,
but only once their legal liabilities in the US market are cleared. Serious negotiations
in the PartyGaming/Bwin merger were only concluded once Party had secured a $105
million settlement with US authorities. Analysts
say a resolution would clear the way for 888 and Sportingbet to re-enter the lucrative
US market should moves to overturn the 2006 legislation succeed. Sportingbet
has already acted telling shareholders at its latest results meeting that it had
made a £22.8 million settlement with the US Department of Justice over an
investigation into illegal internet gambling. The agreement means the firm will
avoid being prosecuted in the US for accepting online bets made by Americans between
1998 and 2006. Sportingbet
would hold the most appeal to potential bidders, analysts reckon, pointing to
its very strong market positioning in Australia and commenting that Ladbrokes
(LAD) and William Hill (WMH) could be interested in a takeover. Liberum
Capital analyst Richard Taylor recently highlighted the strength of Sportingbet’s
sports betting business, which he said had one of the best gross margins in the
sector at around 10%. In addition, he said Sportingbet’s management was open
to a bid, having previously stated up to 55% of their cost base could be removed. Another
former giant of the sector, now somewhat depleted thanks to the UIGEA, is 888. Analysts
say 888's attraction would be the potential for cost savings in a tie-up with
a rival online gaming operator, and that Party/Bwin might be a possible buyer.
What would make it attractive is that both Party and Bwin use 888 as a supplier. However,
the Shaked family who founded the company, and who control over 50% of the shares,
would be looking for a price significantly above the 40p at which the company
currently trades. There
have been whispers among London traders in the last few weeks that a £262
million, or 76p a share, cash bid from a much bigger industry player, possibly
US entertainment giant Harrah's, which already has close business links with 888
could be on the cards. Certainly
888 chief executive Gigi Levy has said recently that he looks at consolidation
as one of the possible routes to realising shareholder value. Another
giant of the industry looking to become bigger still is the mighty Betfair. Having
listed on the LSE at the end of October at 1,300p, the shares soon touched 1,600p-plus,
as tracker funds piled in confident it will canter into the FTSE 250 index at
the December review with a market value above £1.6 billion. If
things are hotting up at the Federal level for the online gaming industry there
are also some exciting developments at state level. So
far in 2010, four states have considered whether or not to legalise some combination
of online poker, casino gaming and sports betting: Iowa, Florida, California and
New Jersey. The
state making most headway is New Jersey, where internet gambling has been under
consideration by lawmakers since 2001. It is finally receiving serious consideration
in the state Senate where two bills, which would legalise internet sports betting
and casino gaming respectively, have already passed the committee stage this year. From
California to New Jersey to Florida, more state and federal congressmen are taking
the reality of a legal online gambling regime a lot more seriously. Whoever
wins the race, state or federal, one thing is clear: more and more stakeholders
in the US are finally coming around to understand the risks and implication of
a ‘do nothing’ strategy. This is an opportunity cost and gambling companies
are getting their bets on regardless. But
ongoing political deadlock clearly poses a real threat to regulatory efforts at
all levels of American government. But even as gambling industry stakeholders
duke it out in the halls of legislatures around the country, as well as on Capitol
Hill in Washington, the very fact that the conflict between them is intensifying
signals that interest and investment in pushing for online gaming regulation is
rising. With billions
of dollars out there to harvest and market share to win, the entire online gaming
sector looks ripe for an upturn in coming months. Investing in online gaming companies
has always been a white knuckle ride - and there looks to be every sign this particular
circus is once again rolling back into town. Website
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