Three big questions to come out of the 2020 financial results

To speak in football clichés, 2020 was definitely a year of two halves. What began with a mix of trepidation and fear at the competing plagues of Covid-19 and European regulation ended with party poppers over Zoom and sore palms from all the self-congratulatory pats on the back. While retail was shuttered, the online sector boomed and the big two of Entain and Flutter added £1.8bn of online revenue between them during 2020 with combined revenue growth of 30% year-on-year (YoY). To put that in context, it is like adding another market the size of Italy in the space of 12 months. Flutter grew online revenue from £3.8bn to £5bn, adding £1.2bn over the year with growth strongest in Australia (+58% YoY to £1.1bn) and the US (+80% YoY to £695m). The UK and Ireland side of the business also performed well, with Paddy Power Betfair (PPB) and Sky Betting & Gaming (SBG) combining for growth of 21% YoY to reach some £2.1bn for the full year. Entain, meanwhile, added £577m of online revenue to reach £2.7bn in 2020, with revenue growth of 27% YoY, and fairly astonishing EBITDA growth of 51% to reach £804m for the year. The massive jump in profits was in part due to a much lower rise in marketing spend, with marketing as a percentage of revenue down to 20.4% for the full year and management noting this was not going to be the norm going forward. But the top line numbers do look very healthy even with the mess that is Germany impacting things in the second half. Germany’s regulatory tightening has had a dramatic impact on operator revenue in the country, with most reporting drops of 50% or more in the face of very strict deposit and staking limits. It’s a bit of a warning shot for the UK sector and one that Entain has felt the brunt of. Germany has gone from a major growth engine to a large brake on the wider business, with full-year revenue up 3% YoY and management honest about expectations for 2021 by saying they saw “very material impacts to the gaming business”. But elsewhere things look very promising. The UK was up 27% to around £960m in revenue, Italy was up 53% to around £240m and Brazil and Australia were up 56% and 55% respectively. The latter is now the second largest market at around £390m in revenue. Growth was also strong across the product set as sports and gaming rose 26% and 30% respectively, with market share gains claimed in all territories in all products. And the momentum has continued into Q1. But what are all these big numbers really telling us about the underlying story in online gambling?

Three big questions

We went into 2020 with three big questions to be answered: What just happened? What now? And what next? The first was answered quite quickly in terms of quickly finding a new normal around the pandemic operating conditions and getting more certainty and confidence around the outlook for key markets such as the UK and Germany, while Italy’s advertising ban turned out to be a much smaller concern than first feared. The industry, it seems, always finds a way. The second question of what now is still only partly answered, however. The short-term growth trends are encouraging but feel less than stable and the regulatory issues looming over the sector have either been proven to be as bad as feared (Germany) or remain as large looming question marks (UK), while the Netherlands presents a fresh challenge ahead. So, it still comes down to what next and where the next phase of growth is coming from. It’s clear the answer to that question at most of the big firms is the US, but that cannot and won’t be the only answer. Outside of new markets, both within and outside Europe, one of the big potential areas of growth is product expansion, be that into new sub-verticals or new areas such as esports or casual gaming. But there are still underexplored verticals within online gambling itself, with poker first and foremost here. It has previously fallen into the “too hard to solve so don’t bother” bracket for most in the industry, but its value was proven during the early stages of the pandemic for both Entain and Flutter. It’s easy to lose sight of PokerStars amid all the noise about the US and the UK, but it remains a money machine with an extraordinary £545m of EBITDA in 2020. And the scale and growth of that casino business really shouldn’t be underestimated. Half-a-billion pounds of casino revenue from a business that is still being built out and still has minimal direct customer acquisition is extraordinary. And with the product still having headroom to improve, alongside talk of management flexing the marketing muscle more, it’s likely we will see even more invested in this side of the business. PokerStars will also be the lead brand for Flutter in international markets, which makes sense when looking at the other available options and the limited cut-through the business has had with Betfair internationally. This will undoubtedly mean continued investment in poker product and marketing as this remains the most cost-effective acquisition and retention tool it has. But make no mistake, this will be increasingly a business focused on hoovering up casino market share in various international markets.

Gambling on gaming

Gaming generally was a strong point for Flutter in 2020, but sports betting revenue was exceptionally strong in H2 2020 across the business, with SBG growing sports by 22% and PPB online also growing sports by 22%. Much of this was margin benefit as football results were unusually friendly, but part of it is also more sustainable growth as we see more land-based migration and more recreational play. Sports betting revenue for the full year across SBG and PPB combined was £1.3bn, with £670m coming from PPB online and £590m of that from Sky Bet. Overall, the business will have seen small market share gains in sports betting, with the exchange declining by 19%, PPB sportsbook up around 12% in line with the UK market and SBG growing 33%. Flutter was keen to stress this was a growth story fuelled by new customers, and this was most prevalent in gaming. New players, old players, reactivated players, cross-sold players and land-based players moving online all added up to strong double-digit growth nearly everywhere. But gaming is a sector under intense scrutiny and is going to continue to feel severe downward pressure on revenue from regulation in the coming years. The ability to use sports as both an acquisition and retention tool for a broader gambling portfolio is well known, but you sense a strong sports betting revenue engine will be singularly important as we head into the middle of this decade. Gaming is only going to get squeezed more by regulatory pressure in the short-term and direct acquisition will become more difficult and more expensive if marketing avenues are cut yet further, not least if cross-sell is clamped down upon as we’re starting to see emerge in some markets such as Germany where there is clear separation between the two products. But looking more broadly, the story of H2 being one of strong customer growth, partly from switching, partly from land-based migration and partly from recreational players looking for lockdown entertainment, is a pretty compelling one in terms of what drove the revenue rise. This feels a much more sustainable model for future growth too. And it was a similar story over at Entain. While it wasn’t as forthcoming with player numbers, there was a clear theme in each of its varied markets around actives growth. UK: a significant increase in the number of recreational actives Italy: record numbers of active customers and FTD volumes in Q4 Brazil: c58% of the active customer base had been acquired through 2020 NGR in each of those markets was 27%, 52% and 56% respectively and management emphasised the drivers of growth when asked about the strong start to 2021 they’ve already seen. “Actives were up very materially in January, up 30%,” said Rob Wood, Entain deputy CEO, “and those customers are depositing more per head…and they’re playing more frequently. And all of that is contributing to the NGR growth.” He also noted that FTDs were “up very significantly year-on-year” while CPAs were trending down.

Finding the growth story

The question is, however, how long can this momentum be sustained? Most of the major European markets remain in some form of lockdown at the time of writing and certainly were throughout January, so we’re yet to emerge into a post-Covid world. And this will be a real test of the operating environment. Will player activity levels remain at the level they are now? Will they significantly decline or will most of the activity remain? These are really deeper questions about just what has driven the increase in players and deposits in this period. On the one hand if this is land-based spend that has migrated over and perhaps even increased its share of wallet due to the better user experience online then there is no expectation for gains to fall away. On the other hand, if this is substitutional spend in a period where leisure spending options were hugely limited then we should expect to see a large proportion of it fall away as things return to normal. That is unless you believe the product and UX is so good these days that players who have got accustomed to it during lockdown simply won’t be able to do without it once the bars, cinemas, shops and restaurants are back open. And it’s an increasingly challenging outlook to try and work in. Operators are quietly confident about the year ahead with a big sporting summer and good early trends at the start of the year. Entain is somewhat cautiously guiding to single-digit revenue rises in 2021 overall, with tough comparatives in Q4 and some softening of growth expected in Q2 and Q3 as society returns to something like normality. And this feels sensible with some clear headroom for growth if it can manage to execute better on product and marketing. But ultimately, we entered 2020 with three big questions to answer and exited it with all three still intact. The industry, however, emerged in a healthier state, surer of itself and its growth prospects and more confident of its ability to navigate the complex political landscape that lies ahead. As centuries of society will bear testament to, everything is a bit easier when you have a lot of money in the bank to fall back on. And that is certainly the case for most of the big players in online gambling. The reality is 2020 should be viewed as a blip – a weird shortcut the industry found itself taking on an otherwise long and difficult journey from A to B. That route hasn’t got any simpler or any easier and it would be foolish to think that some double-digit growth in gaming has solved any problems at all or proved any concepts in terms of land-based migration. The industry is often telling analysts not to get carried away with a run of favourable sporting results and it would be wise to turn that logic back on itself here. To end on another football cliché, tomorrow is another day, Clive, and Stoke away is always a challenge.