DraftKings’ M&A ambitions depend on wobbly share price

Ask yourself a question: would you buy shares in DraftKings right now? This is the question that is central to the company’s M&A efforts and the answer is far from clear cut.

Tear yourselves away from G2E for a minute and direct your attention to the recent news about Zoom and its merger bid for California-based call center software provider Five9.

The deal was all about Zoom hoping to bolster its position in the videoconferencing world in the face of an increasingly competitive environment. 

Crucially, the $14.9bn price tag was to be covered entirely by Zoom shares. All well and good back in July. 

In the intervening two-and-a-bit months, though, the share price dropped by 28%, causing Five9 shareholders to baulk. The deal was called off last Friday by mutual agreement.

Read across to DraftKings

One of the issues identified by analysts with DraftKings’ $22.4bn bid for Entain is the extent of the share-based component. 

Of the £28-a-share offer, only £6.30 is in cash with the remaining four-fifths payable in DraftKings paper. 

Entain has said the paper component will be determined by an exchange ratio “fixed immediately prior to the first agreed public announcement.”

However, an official spokesperson for Entain confirmed that they did not know whether that ratio has yet been set or whether it will be set at the time of a further announcement.

In the meantime, the DraftKings share price has, similarly to Zoom, been on the slide and on a one-month view they are down 17.1% to around the $50.56 mark.

Volatile for a reason

Clearly, the DraftKings share price is no one-way rocket. Over the past year, its performance has actually been quite volatile, up to levels of over $71 in the spring of this year before slumping to $41 in mid-May.

Such volatility makes DraftKings a risky bet.

Yes, the story around state-by-state regulation of sports-betting and online gaming remains generally a positive one.

But the caveats are starting to appear both more numerous and potentially more significant. 

The news around New York (taxes) and Florida (Seminole monopoly) is less obviously positive right now. California remains as opaque as ever. 

Meanwhile, the evidence since the start of the NFL season is that the customer acquisition side remains punishingly expensive. 

The major operators are now caught in a trap of their own making; having to effectively conduct national advertising campaigns but, as per the AGA, with only 43% of the market actually open.

DraftKings is hugely loss-making. As of the end of the first half, it had racked up operating losses of $651.8m - comfortably exceeding total revenues of $609.9m. Sales and marketing expenses hit $399m in the first half or 65.5% of total revenues.

Hence the race for scale and, with the Entain bid, cashflow. 

The deciding factor

For all the debate around whether a bid for Entain makes sense for DraftKings, ultimately the fate of the deal depends entirely on the Entain shareholders in the UK.

Unlike with the Golden Nugget bid where Tilman Fertitta, 46% shareholder, has accepted an all-shares transaction (along with a seat on the board), UK shareholders simply can’t take the shares.

The big mutual funds at the top of the shareholder register have strict limitations around holding US stocks, not to mention the corporate governance issues around Jason Robins’ voting rights control.

This isn’t a judgment on the prospects for DraftKings. But the UK shareholders will need to be accommodated to avoid an unsustainable stock overhang at completion.

Analysts believe that for them to be persuaded to accept the bid two things will need to be offered. 

First, there will need to be a much larger cash component of at least 50% of the bid total. Second, a mix-and-match facility will need to be put in place to enable those who want more cash to exchange that with others willing to take the shares.

MGM is crucial to the deal

Enter MGM. If it was to weigh in with cash for the half of BetMGM it doesn’t already own, it might provide at least some more cash in order for a mix-and-match to be doable. 

Such a scenario would make MGM the kingmaker and raises the previously asked questions around what exactly they would be buying with BetMGM in terms of tech and expertise.

Or DraftKings raises the cash needed directly from shareholders. 

The choice is clear: To avoid the fate of Zoom’s recent merger failure, DraftKings will either need an arch-rival to bring the necessary financial heft or it will need to raise money through a rights issue.

So, we come back to our opening question. Would you buy shares in DraftKings right now?