On June 1, DraftKings (NASDAQ:DKNG) closed at $43.70. This Monday, DraftKings stock closed about 2% lower.
That trading is somewhat interesting given what’s transpired over those five and a half months. Pretty much everything has gone right for DraftKings. The external environment has steadily improved. And yet, DraftKings stock has stayed stuck.
At some point, this long consolidation will look like an opportunity. But I don’t believe we’ve reached that point quite yet. Near-term challenges remain. So do long-term questions.
I’m a bull on the sports-betting opportunity in the U.S. And I’m a bull on DKNG — at the right time and the right price. But I think investors can do better on both fronts. Particularly after Friday’s earnings report, there’s simply no rush.
A Solid Few Months for DraftKings Stock
Had an investor known on June 1 how the next six months would play out, she likely would have bought DraftKings stock hand over fist.
After all, the news looks nothing but good. Sports have returned essentially in full. College football has seen some cancellations of late due to Covid-19, but the major conferences are all at least playing. That was far from definite in June, and even as recently as September.
The NBA completed its season in the Orlando “bubble.” The NFL, the biggest moneymaker, has stayed on track. At the very least, it could be far, far worse.
The market, too, has cooperated. The three major indices have rallied an average of 20%. Investor appetites for growth stocks or “pandemic winners” hasn’t budged much, if at all.
This has been about as good an environment as DKNG shareholders could have asked for. Yet the stock hasn’t really moved. A rally past $60 early last month reversed almost as quickly as it occurred.
That kind of trading isn’t quite a red flag — but it suggests some caution. Even with this good news, DKNG can’t sustain a rally. Evidently, there are a lot of investors not willing to pay a price above the low $40s for the stock.
As seen recently, those investors haven’t budged even when DraftKings posts strong results.
Indeed, it’s hard to find anything to quibble with in DraftKings’s third-quarter release. The company posted a classic “beat-and-raise” quarter, with results above Wall Street expectations and the full-year outlook increased.
Revenue nearly doubled. Excluding help from the acquisition of back-end supplier SBTech (which occurred at the same time as the so-called “SPAC merger” with Diamond Eagle Acquisition), the top line rose 42%.
It’s not just how much revenue grew, but how it grew. Monthly unique payers increased 64%. Revenue actually took a hit from an unlucky week three in the NFL. (DraftKings only recognizes its “win” as revenue, so if bettors do well, both revenue and profits decline.)
Investors should look to 2021 guidance as well. DraftKings expects revenue next year of $750 million to $850 million. That’s in the range of 45% growth relative to 2020.
Simply put, DraftKings is doing what it needs to do.
The Case for Caution
So why has DKNG stayed stuck?
One possible reason is valuation. Even looking to next year’s guidance, DraftKings stock trades at over 18x revenue.
That multiple doesn’t seem all that high in this market, particularly for a company growing the top line 45%. But for a business like DraftKings, it is potentially a bit stretched.
After all, competition remains intense, and will only get more fierce. Profit margins relative to revenue won’t be as high for DraftKings at maturity as they would be for, say, a SaaS (software-as-a-service) company. 18x is a big number.
Another explanation is that investors still want to wait and see. Sports-betting legalization has moved quickly, including a few wins this election season. But major states like New York, California and Texas remain on the sidelines.
Even some states that have legalized sports betting haven’t yet legalized online or mobile sports betting. And that, in terms of revenue and profits, is an enormous distinction.
Both factors go to the broader logic behind the flattish trading in DKNG: the stock simply was priced for perfection, or something close. And if that’s the case, the problem is that not all that much has changed.
Whatever the specific cause, recent history suggests that investors at least have time. I do expect DraftKings stock to be a winner over the long term, but I also don’t believe that investors need to be in any rush.
On the date of publication, neither Matt McCall nor the InvestorPlace Research Staff member primarily responsible for this article held (either directly or indirectly) any positions in the securities mentioned in the article.
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