I have done a lot more digging into what happened in Michigan in addition to what I had previous researched about NPI. Here are my thoughts. 1. Not All EBITDA is the same
Regarding the comments about the Michigan Lottery being only $9MM of $107MM of EBITDA. Unfortunately, not all EBITDA is the same. When I had posted previously about the valuation of PBL stock when I assumed the iLottery revenue / EBITDA was a going concern, I suggested that PBL really operates 2 business under one company; the ticket printing business and the iLottery business. The nature of the Revenue / Revenue Growth / GM% / EBITDA and the conversion to cash of the two businesses are TOTALLY different and therefore are / should be valued separately.
The considerable amount of PBL’s EBITDA ($46M) comes from ticket printing. It is growing at single digits and has a gross margin around the 20-25% range. This EBITDA will not command anywhere near the same value as the iLottery business that is growing at 35-45% and accelerating, has gross margins of >70% and a high conversion to free cash flow and can scale with minimal new costs. I believe I used a 10X EBITDA multiple for the printing business and a 21X (what neogames was trading at pre-take out) for the iLottery business.
So, to say that the $9M of lost EBITDA from Michigan is only a small part of $107M underestimates the value had from a valuation perspective. If you apply 21x to $9M of EBITDA that represents $189M of market cap gone.
2. The reason PBL lost the michigan contract is publically available and is troubling. Here is a link to the contact aware from the state fo Michigan,
https://www.michigan.gov/msl/-/media/Project/Websites/msl/RFP-Documents/RFP-No-MSL-23-001-Internet-Sales-Platform-and-Related-Services---Award-Recommendation.pdf?rev=d4e7054d939840349145735d3ad5f860&hash=C840F15710A659E4778B3BA77B2829A5
It feels a bit like the contract requirements were setup in such a way that PBL was immediately excluded from consideration because they did not have a similar customer running their software for a least a year. I recommend people read the contract award justification at the link above. All Pollard could offer were some lottery customers in Europe. These seems likke very smart positioning from competitors (NeoGames) to knock Pollard out from future consideration.
Because Michigan was the first / largest iLottery state, I believe that it sets a very important precident for other US lotteries. If I am correct, as other contracts come due like Michigan, Pollard is going to be VERY challenged to even be considered let alone win.
3. The contract award above shows Neogames was the winner of the Michigan contract. Unfortunately, this is more than just a one off. New Hampshire was the first. This is now the second. I don’t think the remaining iLottery contracts in North America should be assumed to stay with Pollard or NPI. Pollard was in a VERY precarious position being the non-technology provider in the NPI relationship.
I think that the relationships Pollard had with Lotteries did initially have a lot of value but now that NeoGames has proven themselves, that role for Pollard holds little weight. It is technology and technology capabilities that now matter.
The fact that NeoGames is now owned by the much larger Aristocrat make the situation worse. I don’t think it is over dramatic to assume that NPI is pretty much dead beyond the existing contracts that it currently has signed. Clearly, NeoGames is going to try their best to entirely displace Pollard from their portion of NPI.
I think one must now question the future of Pollard’s iLottery business in North America. While they say they have a competitive iLottery platform, it is not installed in North America and therefore unproven.
Given the process that Michigan went through, Pollard is going to stuggle to compete at all in North America. At this point, NeoGames / Aristocrat will just wait for NPI contacts to mature and then take 100% of the business for themselves.
This leads us back to the question of valuation. Given the growing uncertainty that the Michigan lottery (and New Hampshire) introduces to the north america iLottery market for Pollard, the term of those contracts becomes very important. It can no longer be relied upon to be ongoing Revenue / EBITDA. I think, unfortunately, that it may now be discounted to zero.
Previous attempts to value the future of Pollard placed a value of $16/share on the traditional ticket printing business. Knowing this, I think the sell side analysts targets of $28 are still much to optimistic and fail to consider the uncertainty that the Michigan loss has introduced to Pollard and NPI. I think there is, unfortunately, significant downside potential for the stock still.
As much as I hate to say it, the shorts were right. My experience is that they often get information that is non-public. In this case, I think they may have known that Pollard was going to lose Michigan and began to short the stock. I will be curious to see the short interest update when it comes out to see if it drops dramatically or if the shorts also see a share price potential of well below $20 where they will cover.
I really like Pollard but I am afraid that their complacency inside NPI has / will continue to cost them dearly. For me, I would not be a buyer of the stock again until it gets to the $10-$12 level if I believe that the base business value is around $16/share.