Entain is in dire need of a reset. Investors are demanding far more favourable odds to take a punt on the giant gambling group delivering on its growth ambitions.
The owner of Ladbrokes and Coral is coming to the end of a torrid year that has seen its share price contract by a quarter. That translates to an enterprise value of just ten times adjusted earnings before interest, taxes and other items, less than half the 2021 peak and lower than 13 in January.
The list of banana skins is long. A post-pandemic comedown in online gambling coincided with a cost of living crisis and new affordability measures being put in place in Britain. The group was also wrongfooted by the outcome of sports matches this year. Then there were regulatory upsets. Dealing with changes has cost the group £485 million in earnings this year, Entain has estimated.
Online net gaming revenue is expected to decline somewhere in the low-single digits this year, down from the “low to mid-single digit growth” in August. A return to growth is not expected until the second half of next year.
The turbulence culminated in the departure of Jette Nygaard-Andersen as chief executive earlier this month. It adds to uncertainty over the recovery plan she set out shortly before making an exit. Feverish merger and acquisitions activity is to be dramatically reduced and the focus put back on core geographical markets including the UK, continental Europe and Australia.
The aim is to boost the online gaming margin from 25 per cent to north of 28 per cent by 2026, as well as boosting organic growth from that business to 7 per cent by 2025, closer towards the rest of the market. Achieving the latter target rests upon the impact of regulatory changes, like spending limits, annualising.
A bigger question is whether the US expansion story remains intact. BetMGM, Entain’s 50/50 joint venture with MGM Resorts, lost market share this year. The joint venture’s share of the US iGaming and sports betting market, the great hope for growth, has declined to 17 per cent, from around 23 per cent in August last year. The aim is to increase that back to between 20 and 25 per cent. That will cost.
The joint venture is still on course to hit profitability, albeit after stripping out a heap of deductions, but the expectation is that profitability will be scaled back in the near term. Analysts at Investec slashed earnings forecasts out until 2026, including a 28 per cent cut next year, partly reflecting a weaker contribution from BetMGM.
High leverage is a concern, the Irish brokerage Davy notes, particularly in a sector prone to regulatory upsets. The deferred prosecution agreement entered into earlier this month by Entain over alleged bribery offences in its former Turkish business, which pre-date Nygaard-Andersen’s appointment in 2021, could set the group back £615 million.
Net debt stands at £2.59 billion, or around 2.8 times adjusted earnings before interest, taxes and other charges. The ambition over the next three to five years is to bring that down to a multiple of below two.
Yet there are several potential catalysts for the shares ahead. The appointment of a permanent chief executive, most likely an industry insider, would help spur confidence that the group is on a path to greater stability.
The arrival of Corvex Management, a US hedge fund that disclosed a stake of 4.4 per cent in the group earlier this month, could push the gambling group to go further in its shake-up of the strategy.
Ricky Sandler, founder of Eminence Capital, which owns a 5 per cent stake in the company, is expected to be named as board director by the end of the year. In an open letter in June, Sandler said shareholders would quite likely “support a sale of the company to MGM at a materially lower price than previously assumed”.
A potential bid for Entain by MGM Resorts seems more probable than it has done for some time.
Advice: Hold
Why: A takeover bid and activist interest could spur a recovery
Rentokil Initial
Megadeals can be hard to swallow. For Rentokil Initial, digesting its $6.7 billion takeover of Terminix at the end of last year has been made more difficult.
Consumer and corporate spending in the key North American market has weakened. During the third quarter, organic growth in what is Rentokil’s largest market declined to 2.2 per cent, from 4.1 per cent during the first six months of the year.
The Terminix deal was designed to enhance Rentokil’s scale in North America, giving the group better procurement power. Consolidating its 600 branches in the US to 400, each producing at least double the revenue of the previously more bloated footprint, is hoped will add to the savings. Cost savings were set at $200 million a year by the end of 2025, including $60 million this year. Those targets have been maintained.
A more positive update from its US rival Rollins a week after Rentokil warned of a slowdown stoked investor suspicions that company-specific issues could be the reason for the London-listed group’s woes.
That will not become apparent until next year, when greater economic certainty could emerge for the US economy. With markets betting on a cut to US interest rates next year and inflation having cooled, greater business and consumer confidence could prove a fillip for Rentokil.
Rentokil has cut guidance for the adjusted operating margin it expects to generate in North America to between 18.5 per cent and 19 per cent this year. Crucially, a better performance elsewhere is set to pick up the slack.
Guidance for the overall group operating margin stands at 16.5 per cent, its highest in 20 years. Each of the group’s four other markets reported organic growth north of 5 per cent in the third quarter, including almost 10 per cent in Europe, the second largest.
The scale of the sell-off looks overly dramatic. The shares now trade at just under 18 times forward earnings, a discount to the long-running average of 23 and around the lowest since 2016.
Free cashflow remains strong, at £229 million in the first half of the year, helping pay down the group’s bigger post-deal debt burden. The leverage ratio stood at 2.8 at the end of September, down from 3.2 at the end of last year.
Rentokil is adept at integrating deals, even if Terminix is much bigger than its usual target.
Advice: Buy
Why: A recovery in the US could send the shares higher
