This is not investment advice. Do your research before taking a position in any of the securities mentioned in the post below.
Why bother with a de-merger?
Anyone who has read Seth Klarman's content will recall that the right demerger/corporate restructuring is often a great way for investors to earn excess returns. There are many reasons why this is the case, however, generally, the returns come from the following:
One entity is hamstrung by being part of a bigger group
Most business combinations don't work (e.g. Tatts/TAH had mixed success)
Demergers can be complicated & so some investors don't bother
Sentiment towards the business parts is not equal, so neither is pricing
For a big deal like this- there is no shortage of sell-side research but I would encourage people always to read the actual offer documents (even though it is time-consuming)
Pricing of TLC vs. TAH
Blind Freddy can see TLC is a more stable business: It is so obvious that the Lottery Business (TLC) is the stable part of the business & TLC is priced accordingly
TLC is priced at 17x EBITDA/20x EBIT vs 12x EBITDA/16x EBIT* for TAH
For TLC they have 85% EBIT conversion primarily being $(9)m overhead and amort costs
Whilst TAH has big D&A costs from the Tatts merger & other "significant items"
TLC already has >35% online penetration vs. 5% in US (noting their state regulation has recently changed). Despite the business already getting a 'pop' from digital penetration - it still grows revenues at a 6-8% CAGR
TLC can have 3x the gearing that TAH does (on a ND/EBITDA basis) and still maintain a 70-80% dividend payout ratio because
TLC won't have the huge D&A charges from the Tatts deal
TLC has far less "earnings surprises" (see below)
TAH invests more in capex/digital & has almost 5x the headcount
Wouldnt you buy TAH for that juicy dividend & discount to takeover?
TAH dividend windfall is big but so are integration costs: Although TAH will pay a Sep’22 dividend equivalent to 5-months of TLC earnings (c.$140m of NPAT) this is offset by
$120m of TAH demerger costs (separately there is c.$150m for TLC)
$23m pa of overhead
$3m of performance rights issued to staff
Despite the BET/Apollo bids, TAH is tough to sell: You may have remembered that Apollo/Betmakers made a bid for the wagering business. Whilst this can occur again, I consider it unlikely because
These were scrip deals when stocks were at a high
These deals never shifted past the early stages
It is tough to sell a wagering business via a trade sale because bidders are not granted DD into state & racing-body data (e.g. regulatory hurdles)
Negative earning surprises for TAH are huge: There appears to be a never-ending list of earning surprises for the TAH business
QLD’s lawsuit is an unknown;
Racing NSW’s agreement has not been closed out;
VIC may consider new licence holders due to POCT/digital/vision issues
WA TAB sale could lead to an equity raise
New Tabcorp’s venture strategy may detract from wagering (re: SunBets)
TAH has flagged "ongoing incremental technology costs”
Check out the number of significant items they have to footnote in the New TAH accounts...
So what should one do?
There is absolutely no one right answer, but I will be making a small allocation to TLC at this level:
TLC is clearly the better business: Despite the clearly higher multiple; the premium for TLC is justified given the contractual monopolies it has over the following locations is appealing
TLC is not cheap, but it's hard to time when to buy: It's fair to say that the board's timing to spin-off TLC was good (i.e. in a strongish market, looking for a defensive play) and generally I think there is an above-average likelihood for an earnings disappointment or multiple contractions for TLC in short-term
By comparison to the long term, FdJ in France is on a 14x EV/EBITDA shown below.
What will move the dial for buying more:
I would consider the following
General deterioration in share price (e.g. opp to buy more)
OzLotto generating higher returns due to its change in jackpot sequencing
Acquisition of NeoGames; a good/cheap iLottery player in US
What about TAH: Generally, I think the physical moat that TAH now has is quite limited. Whilst it is cheap; I would need to see:
Stabilised relationship with Racing bodies
Meaningful progress in their Wagering Services
Lower operational burden from the Tatts merger
In conclusion, whilst this is not an earth-shattering headline, an investment in TLC is not cheap (17% higher than long-term EBITDA multiple than France's comparable - FdJ). Nonetheless, the synthetic monopoly that TLC has is quite unique in Australia and arguably it is cheaper than other similar monopolies (e.g. infrastructure or JIN).
On the other end, despite the cheapness of TAH vs. the Apollo/BET bid my gut feel is that the Wagering has much lower earnings certainty & I consider TLC's/lotto to more sensible investment
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