Sure, the online gambling megatrend is just getting warmed up. But, it may be time to take the money and run with Landcadia Holdings II (NASDAQ:LCA) stock. Shares in the SPAC (special purpose acquisition company) have surged more than 70% in the past month, as investors await its acquisition of iGaming company Golden Nugget Online Gaming (GNOG).
GNOG has seen impressive growth in its home market of New Jersey. But, given the company’s lack of capital relative to its larger rivals, its potential success in other states is far from a lock. And with investors already pricing this as if growth projections are certainties, shares have gotten way ahead of themselves.
Yes, enthusiasm remains high for online gambling legalization plays. But, at today’s prices, risk/return is not in your favor. With this in mind, it may be wise to sell into strength if you own it already. If you don’t own it? Steer clear for now.
LCA Stock and Long-Term Uncertainty
Back on Nov. 16, I said it was time to take a gamble with Landcadia stock. Like with other SPAC stocks, shares sold off in October. Even after encouraging online gambling legalization news following the Nov. 3 elections, shares held steady in the days that followed.
But, as speculation in SPAC gaming stocks picked up steam, LCA stock bounced back to its high water mark. And then some. Even after pulling back a few days ago, shares today change hands at around $23 per share (versus $13.85 per share when I recommended it).
As investors are piling back into LCA stock, why am I changing my opinion? With the recent run-up, investors have gone from valuing projected revenue growth from a possibility to a certainty. And, reassessing the competitive landscape, it’s clear future growth remains uncertain for GNOG.
While it’s seen out-of-the-gate success in New Jersey (currently its sole market), it may have its work cut out for it in upcoming markets like Michigan, Pennsylvania and West Virginia.
Lacking the cash of rivals like DraftKings (NASDAQ:DKNG), not to mention land-based casino rivals like Caesars (NASDAQ:CZR) and MGM (NYSE:MGM), there’s no guarantee Golden Nugget can “crush it” in other states like it has in the Garden State.
Yet, with shares pricing in ambitious revenue growth goals (more below), there’s not much reason to hold onto shares after their rally in the past month. The risk shares pull back vastly exceeds the potential for additional substantial gains in the near term.
Potential Revenue Growth Already Priced-In
As InvestorPlace‘s Will Ashworth discussed on Dec. 10, LCA/GNOG will have around 70.8 million shares outstanding once the merger closes. At today’s prices, that’s a market capitalization of around $1.66 billion. Combined with its outstanding debt (net of cash), that gives us a pro forma enterprise value of around $1.72 billion.
Given GNOG expects 2021 sales of $122 million, shares trade for an enterprise value/sales (EV/Sales) ratio of around 14.1x. Sure, rival DraftKings sports a similar rich multiple. And, as a Seeking Alpha contributor recently discussed, Golden Nugget Online projects sales to soar to $635 million by 2025, making today’s pro forma valuation look reasonable.
But, relating to the point made above, it’s anything but a slam dunk to $635 million in sales. Operations have yet to start in new markets like Michigan. So far, we have little indication that a five-fold increase in revenues within four years is attainable.
Yet, today’s share price treats this ambitious 2025 revenue goal as if its a certainty. “Priced for perfection,” LCA stock could easily fall back to prior price levels, if next year’s expansion into new states fails to live up to expectations.
Bottom Line: Sell Into Strength
While I’ve changed my tune on Landcadia Holdings II in the near term, long-term I can see this being a great buy (at a much lower price). By the start of the next decade, the U.S. sports betting/iGaming market could surge to $20 billion per year in annual revenue.
Even if GNOG captures just a tiny sliver of that, its sales will be leaps and bounds above where things stand today. The only problem? Today’s valuation already reflects this potential and then some. In the near-term, as enthusiasm for the sector remains, this may not be an issue.
But, buying in the hopes speculation will continue is more like gambling than investing. And while gambling is this company’s bread and butter, gambling with your portfolio is hardly a recipe for long-term success.
So, what’s the play with LCA stock? If you bought it before the recent rally, sell into strength. If you haven’t bought it yet? Avoid for now, but give it another look if this “too hot to touch” sector sees a correction in the coming months.
On the date of publication, Thomas Niel did not (either directly or indirectly) hold any positions in the securities mentioned in this article.
Thomas Niel, contributor for InvestorPlace.com, has been writing single-stock analysis for web-based publications since 2016.
