For my first post on this new platform, I want to address the Swedish company Kambi Group. Ticker symbol: KAMBI, Stock exchange: First North Sweden.
Profitability and valuation numbers for the last twelve months:
Gross margin: 69%
Operating margin: 39.8%
ROIC: 88.9%
ROE: 39.8%
EV/E: 13.54 (256.4 kr/share)
EV/FCF: 14.23 (256.4 kr/share)
Mcap: 7948 million Swedish KR
Net cash position: 719 million Swedish KR
History
Kambi was actually a spin-off from Kindred Group(Unibet’s parent company) in 2014, which explains why Kindred is their biggest customer, and will probably remain so for several years. This made sure that they could acquire customers that weren’t very happy to hand over money to one of their biggest competitors.
The business model
Kambi provides sports betting operators with sportsbooks services that are driven by massive amounts of data harvesting. Sportsbooks are complex and are driven by probabilities, acquiring and having capabilities of analyzing huge amounts of data is paramount for making a good sportsbook.
Rewind 10 years and players could not place bets while the event was running. The customers expect the experience to run smooth, they will be able to bet on a number of outcomes and x amount of games in a short amount of time.
I remembered from Kambi’s capital market day in 2020. According to Christian Nylen(CEO), Kambi adjusts the odds after a penalty in under one second from the event taking place. A penalty or even a goal has an enormous effect on the probability that one team wins or loses, the technological capabilities that are needed to adjust the ods in this short amount of time are extraordinary.
Having a sportsbook service that satisfies the customer and is on par with the largest betting operators is not easy, especially for a smaller or a midsize operator. It costs resources and especially time to develop a sportsbook service. You might not even end up having better margins than an operator who runs on Kambi’s platform. Just compare Kindred’s sportsbook margins (former parent company to Kambi) to Betsson’s.
The competition between operators is immense, and switching costs for customers are low. A smooth sportsbook experience for end customers is probably a large point of separation between operators. If an operator disappoints, the customers can easily switch to a competitor, they will even get a bonus from the acquiring operator.
Shared upside
Kambi has a profit-sharing agreement with the operators utilizing their platform. This reduces the operator’s fixed cost on sportsbooks and incentivizes Kambi to improve their platform to increase the end-user experience and further increasing the operator’s revenue.
This mentality resonates with me. I particularly like companies that value their customers as business partners.
So why should an operator develop their own sportsbook?
To control a larger part of the value chain.
They have a large revenue base to distribute development costs.
They already have the technical know-how to produce a great sportsbook.
They’re already located in the markets they're interested to be in. Expanding to other markets usually brings the challenge to be compliant with local regulations.
Size matters and for companies like 888 Holdings or BET365 it makes sense to make the investments for a sportsbook. But for fairly new companies like Penn National gaming and Draftkings that is additionally expanding rapidly in a newly regulated United States, it makes sense to focus on the most important thing, which is to acquire customers. Let Kambi operate the platform and make sure that it functions perfectly.
Obviously, this doesn’t matter for Draftkings anymore, since they used their large market capitalization to acquire a competitor to Kambi. To our (Kambi shareholders) amusement and proof of Kambi’s stability and product, the transition from Kambi’s platform over to SBTech doesn’t go flawlessly. It could as well lead more customers over to Kambi, rather than to SBTech since operators would rather prefer not to hand over money to a competitor if they could choose an independent supplier.
Scale
By looking at Kambi’s financial statements and watching different CMD webcasts, one can confirm that Kambi’s has a lot of fixed costs and variable costs are mostly related to gathering data. Employees cost has decreased from 58.5% of revenue in 2013 to 36.59% of revenue in 2020. Employe cost is definitely the biggest expense accounting for 43% of operating expenses in 2013 and 50% of operating expenses in 2020.
One can clearly see the effect of operating leverage in Kambi’s results, an increase in revenue will boost the companies margins. As you can see on the chart below, margins on incremental revenue are quite large, much larger than the overall operating margin.
The elephant in the room
Everyone knows that Draftkings are leaving the platform and will take a fairly large chunk of revenues, while I don’t have the exact numbers, 25% has been speculated on Twitter. The company will eventually replace revenue from DK, but earnings will probably be flat for a year until revenue from new clients and increased revenue from existing clients fuel further growth.
As I was writing this write-up Penn National Gaming announced they would acquire a Score media and gaming, because they want to develop their own sportsbook. Thereby ditching Kambi. No surprise, the stocks take a beating. People are obviously afraid that the big operators will develop their own sportsbooks instead of using external providers like Kambi. It’s very difficult to assess the probability that Kambi will lose a large part of its customers over time due to this, but this is a major risk that one should reflect on as a shareholder or if you’re interested in becoming one.
Another risk is that moats in the software business might last shorter than one would think. Development happens rapidly and competitors might develop a product as good as Kambi faster than one might imagine.
Betsson has a great history of making good spin-off’s and it could become relevant to spin off their sportsbook business. This might produce another competitor that Kambi has to fight off.
Growth opportunities
As stated by Kambi on the latest CMD, they estimate for the global total addressable markets ranging from €44B-€63B from today’s less than €20B. This represents a growth in TAM from 17%-27.6% CAGR in the next five years. The opportunities are huge, and Kambi has a great position in the US. Can they execute? After Penn announced they’re going for their own sportsbook, this is going to affect growth going forward. How much is hard to tell.
Moat
Does the company have a moat in the terms of an advantage over competitors, and will it enjoy high returns on investments, retain customers and acquire new customers more easily?
Switching costs: As stated earlier in the post, Draftkings is having problems migrating from Kambi’s platform over to SBTechs solutions. This poses a serious risk to operators on the Kambi platform if they choose to change sportsbook suppliers, or develop in-house. Switching costs for end-users are low and if problems occur like in the DK case, they might not have the patience to endure temporary problems and will switch over to a more stable operator.
Network effects: The more data Kambi can acquire from their customers, the better they get at delivering odds. If Kambi detects suspicious activity on the operator, they can alert the other operators on Kambi’s platform and intercept before potential match-fixing, manipulation, or other types of corruption happen.
Intangible assets: Kambi has a stellar reputation amongst operators. In 2020 they won the “sports betting supplier of the year” and the “Sportsbook platform of the year award” from EGR. In 2021 they won “In-play betting software” and “sports betting supplier of the year” from EGR.
Low-cost production: Kambi doesn't produce any tangible items and in turn, they have small variable costs and high fixed costs. To earn high operating margins they have to reach a particular level of revenue. I would not assign Kambi as the sole beneficiary of low-cost production, since this is not anything new to the software business.
Conclusion
In my opinion, there is no need to make a DCF for this company. By looking at today’s valuation at around EV/E 14, incremental margins at above 50%, returns on equity 30%+ and in addition their located in an industry that’s growing over 10% per year in the foreseeable future. “DraftKings migration from Kambi’s going to become yesterday’s news in a while, comparable numbers might become hard to beat for a year but in my opinion patient shareholders will be well rewarded in the future”. (lol, wrote this yesterday before today’s news on Penn National Gaming)
Can I make a 15% CAGR return on this investment? This is the question I should ask myself. It’s difficult to look past today’s news on Penn, but Kambi has a great product. Is it weird that a company like Draftkings with EV/S of 43 and $20 billion in market cap uses its massive market capitalization to acquire SBTech? Penn National has a market cap of $10 billion and acquiring a company with only $23 million CAD in LTM revenues for $2 billion seems a lot in my oppinion. How fast can this company develop a sportsbook and will it become comparable to Kambi’s product. Does Kambi’s other costumers or potential customers have the firepower to use billions of dollars to acquire companies like Score, which have no guarantee for success? There is a lot of unanswered questions arising from today’s events, and time will tell if I was a moron by increasing my holdings from 200 shares to 320 shares. You are either a genius for adding on days like this, or you'll become another bagholder that looks stupid in retrospect for not seeing the obvious.
I want to thank everyone on #Fintwit for being supportive and contributing to making an awesome community.
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Disclosure!!
Always do your own research before investing in a stock!! I own shares in Kambi, and because of that my views on the company might be overly optimistic, and I might be inclined to overlook risks. No one knows whether a stock will go up, down, or sideways at any given time, and I’m no exception to that rule. I hope that you enjoyed this post but It should not be considered financial advice.
Sources
Kambi investor relation annual reports and Capital market day 2020
Borsdata financial data
Great post Jon!