Technological advances shape us and our culture, just as our cultural habits return the favour and shape the technology. Apple’s first desktop computer in 1984 reflected our need for home computers the average user could actually understand, while simultaneously leading us into the golden age of home computing. God bless you, Anya Major, patron saint of geeks everywhere.
High speed connectivity from small powerful processing devices – being able to send and receive data quickly from your phone – is one of these advances, putting a startling amount of computing power in your hands. Wireless handheld connections average over 2 megabytes per second download, and less than 1 MB up. That’s fast. And phones are ubiquitous.
Mobility and high speed connectivity combine to be a disruptive hardware platform, with millions of killer apps for business. But outside of those business apps, and assuming there are no more YouTube videos of kittens chasing laser pointers or men getting hit in the crotch – how do users spend their leisure time online?
Contagious Gaming (TSXV:CNS) created a business plan to attack the leisure market.
Contagious’ financial statements say that it is “in the business of developing of software solutions for regulated gaming and lottery markets”. Apart from the horrid grammar, that statement tells us that Contagious helps people place bets. (These days the word “gambling” is mostly avoided. The politically correct term is “gaming”).
Online gaming excludes non-regulated online video games like
Call of Duty or
Halo, but it includes regulated games like bingo, lotteries, scratch-and-win, casino games and poker. This is a huge opportunity.
In 2012, the regulated betting segment accounted for $58 billion of the total global gross gambling yield, and is forecast to reach $70 billion in 2016. The global regulated market (including betting, poker, casino, bingo, gaming machines and lotteries) is forecast to reach $533 billion in 2017. That’s larger than Poland’s national GDP. (See the report for charts and analysis from RGA,
click here.)
For additional market information, look at this 2013 report (
click here) from H2 Gambling Capital calling for $5.5B market in 2017 in the United States alone, as various states embrace online gaming as a source of state revenue.
Finally, note that one of the best performers on the TMX in 2014 was Amaya Inc., a gaming company that ran from around $6 a share to roughly $28 a share on Dec 31/14. It’s currently trading around $31.
Contagious is attacking this global market with two different business segments, one being a platform, the other by providing in-game betting. And yes, it’s all legal.
First, the platform segment. In this business silo Contagious is a software developer supplying code to the two dominant players in the space.
GTECH and Scientific Games are the two gorillas on this mountain. GTECH is private, but its parent company has roughly 8500 employees across 52 countries. For the year ended Dec 31/14, Scientific Games (NASDAQ: SGMS) had $1.7B of revenue, up from about $1.1B a year earlier. Giving full year effect to acquisitions made during 2014, adjusted revenue would have been about $2.9B.
These are the only two players in the field. They bid against each other (and probably against some smaller local companies) on RFP’s put out by (for example) the state of California. Part of each bid would include Contagious’ engine, and according to Contagious management their software is part of both bids, which means Contagious is always on the winning side. The winning bidder then puts its own skin on top of the Contagious engine together with all the other software pieces for delivery to California.
I love infrastructure plays. In a gold rush, I’d rather own the railway and the hotel rather than go prospecting for gold. Here, Contagious partners with the two massive industry players to make money regardless of which bidder wins the bid and regardless of where the games are played.
You might sleep at night, but your money won’t because there are players awake and playing. Your money works when you don’t.
In Contagious’ second business silo, under the name GoalTime, Contagious takes a more prominent role in the process.
One of the current trends in gaming is “in-game pari-mutuel betting”. Pari-mutuel betting is like the racetrack where all the bettors’ bets go into one pool. The house takes its cut off the top – this cut is called “the rake” or “the house”. The winner of the bets wins what’s left after the house gets paid first.
As much as I love infrastructure, I love getting paid first even more. No matter how the betting goes, no matter who wins or loses or ties, Contagious gets paid first by taking the rake.
Assume we’re watching a Premier League Football match in a pub in London, where in-game betting is legal. It’s the Gunners vs those *&^*$# from Tottenham.
A football match is 90 minutes long. GoalTime divides the game into 15 segments of 5 minutes each. Either before the match or during play, using your phone and its high speed capabilities, you can bet one pound on which 5-minute segment will see a goal. Will the Gunners score 20 minutes in? The Spurs in the first 5 minutes of the second half? As play develops, as players get penalties, as the ball moves around the field, you can use your phone to place additional one pound bets during the game on the next 5 minute segment.
This sounds kind of dull in writing, but it’s like the excitement that surrounds March Madness every year. You don’t need to know anything about the game to participate, it’s a lot of fun for groups, GoalTime doesn’t need special hardware in the pub, and the payouts to the bettors are fairly decent.
Click here for a video description of GoalTime and then look around the site for additional information.
The beauty of this business model is that every day, every match, every hour, every minute, every second, someone can bet, and Contagious as the house gets a rake on every bet.
GoalTime’s penetration should increase with better marketing – there are plans to include pre and post game commentary from former pro players. Bigger pools mean a bigger rake. As GoalTime rolls out, revenue should grow faster than the COGS, which should contribute to a healthy gross margin.
For now, England is the only jurisdiction where this has been rolled out. Given how much money can be made by the government by way of taxes, it’s not a stretch to expect pari-mutuel betting, already legal on the horses and dogs and jai alai, can spread to other jurisdictions.
These two business silos are independent and geographically diverse. Much of the risk normally associated with smaller high tech companies has been mitigated here.
Contagious is a fairly new public company, having gone public by way of reverse takeover in September, 2014. The market is currently valuing Contagious at roughly $30M. When the financial statements for the quarter ending March 31, 2015 are filed, we’re expecting to see revenue growth and COGS management to support that valuation. Because Contagious is in growth mode and that requires re-investment of cash flow, don’t expect to see earnings for some time.
Further equity financings will be needed to fund working capital as the company grows the revenue line. Because the revenue should grow faster than the COGS, those financings if managed correctly will prove accretive to the shareholders.
The other thing I appreciate about Contagious Gaming is its leadership team. Look at the
bios here for the board and management. These people know the industry, with significant experience in high tech and gaming.
But like with every company, there are reasons for caution. While this is a board full of qualified generals, every board needs at least one sergeant who has been there, done that. Contagious needs a Canadian corporate finance street-fighter to take it through the coming financings.
The theory of how the company engages with the financial markets needs to be re-visited. I was tweaked to Contagious by Mr. Paul Benwell (Paul runs an excellent advisory firm in Montreal). Curious at first, I had to work far too hard slogging through the presentation, website, MD&A and financial statements to figure out what the business plan really is and how Contagious earns its revenue. Like many high tech companies, they seem to be so enamoured with their products that they forget the investing world wants it slow and simple. GeekSpeak doesn’t always translate well into MoneyTalk, and Contagious needs to improve in this area. This communication issue, easily rectified, might be related to the “too many generals, not enough sergeants” issue.
You can get a copy of the most recent presentation,
click here. Skip over the
pro forma financial summary on page 13 (there are too many normalizations to be helpful) and go directly to the actual financial statements,
click here.
The major risk is of course legislative, but this is largely out of the company’s control. The business operations appear to be within the law and given the amount of revenue earned by governments on gaming, it’s unlikely that any changes will be restrictive.
The online gaming market is the next big leisure activity, propelled by better technology and better platforms. Contagious Gaming looks to score a big win for its shareholders. We will be re-visiting the company when the March 31/15 financials are released and as it rolls out its business models.