I last wrote up DraftKings (NASDAQ:DKNG) stock last month when it was higher than today. I expected DraftKings stock to fall and since then it has lost about 25% when it was trading at $39.41 to $31.15 as of the open July 15.
DraftKings can fall further given its high valuation. For example, its present valuation is still rated as 21 times revenue for 2020 from the average of 11 analysts’ estimates polled by Seeking Alpha. Yahoo! Finance has a poll of 12 analysts whose average estimates put the stock on a price-to-sales ratio of 22 times for this year.
Even though both sets of analysts polls show revenue climbing over 50%, the implied valuation for 2021 is still high at over 14 times revenue. These are ratios for stocks’ earnings, not their revenue.
It almost seems to me that absent any profits (which is the case here), the market is substituting revenue for earnings. That is absurd and is probably a sign of an overvalued market.
Cracks in the Competitive Landscape
One analyst on Seeking Alpha argues that DraftKings is now going to face significant competitive pressure in the online sports betting market. A number of other companies are coming to the market.
For example, an investment JV between MGM Resorts International (NYSE:MGM) and GVC Holdings, a private equity firm, called Roar Digital, recently raised $350 million. That brings total capital for the JV to $550 million so far for online betting.
Roar Digital has two betting apps under the BetMGM and PartyPoker brand names. Roar Digital will be live in 11 states by the end of 2020. In addition, it has market access agreements in place with 19 states with coverage of over 50% of the U.S.
In fact, with revenue coming from just one state, New Jersey, Roar Digital is elected to make $130 million this year in revenue. So it will become a major competitor to DraftKings within the next year or so as it rolls out into 10 other states and beyond.
DraftKings Stock Valuation Drawing Other Players
DraftKings is already fighting competition from FanDuel, which is privately owned. But the CEO of GVC recently said that they were committed to spending “whatever it takes” to end up on top of the sports betting pile. That essentially means their marketing, fees, and advertising campaigns would likely evolve into a price war with both DraftKings and FanDuel.
In fact, the GVC CEO said he was more interested in market share than profitability right now.
Why did he say all this? The article quoted above from Legalsportsreport.com says the CEO of GVC, a 50-50 partner in Roar Digital saw the huge valuation in DraftKings. This motivated him to put more money into the JV with MGM.
And why not? MGM right now has a market value of just $8 billion but DraftKings stock has a market value of $10 billion. But MGM is much larger than DraftKings. Its revenue is expected to be over $5.2 billion this year and $8.8 billion next year. Compare that with DraftKing’s expected revenue of $489 million this year and $743 next year.
The BarStool Sports and Penn National Gaming Deal
Don’t forget about Penn National Gaming’s (NASDAQ:PENN) 36% ownership of Barstool Sports. PENN has the right to buy a 50% stake and later a controlling stake in Barstool Sports.
PENN stock is up over 500% to a $4 billion valuation since bottoming out in March. It is another casino company that is trying to get in on the sports betting action with Barstool. The company announced the deal to acquire Barstool Sports in January, but the final takeover amount is still not yet determined.
I suspect that valuation will likely be much higher with DraftKings’ $10 billion valuation. As I point out in my articles on PENN stock, analysts are raising its valuation due to its new ownership in Barstool Sports. But even this is a derivative of the extraordinary high valuation of DraftKings stock.
What to Do With DraftKings Stock
Right now it’s a land grab. Major casinos are trying to keep their foot in the sports betting arena and “glom on” to the DraftKings’ valuation effect. They must believe that the DKNG stock valuation is here to stay.
It’s not about profitability. That is what the market is saying right now. Eventually, profits have to show up. But cash will be king. Who can spend the most on marketing, competitive pricing, etc.? That will determine the winner.
I suspect this will be like the original internet spike in the late ’90s and the inevitable bust in 2000. For right now, DraftKing’s super high valuation is likely to last a good while. If it ends up on top, the profits will show up.
Potential investors in DraftKings stock have to decide if they are willing to pay this high valuation. If so, they have to hope it goes even higher. This is despite the fact that competition is going to be fierce. It could be a very rocky road indeed.
As of this writing, Mark Hake, CFA does not hold a position in any of the aforementioned securities. Mark Hake runs the Total Yield Value Guide which you can review here.
