GVC Holdings — Update 3 May 2016

GVC’s 2015 results represent its best financial performance to date with revenues up 10% to €247.7m (an average €679k per day, up from €616k per day in 2014). Clean EBITDA was also up 10% to €54.1m, while normalised operating profit was up 21.7% to €46.3m. Normalised and diluted EPS rose 24% to 76.4 cents.

Pro-forma 2015 revenues for the combined business were €809.8m, with adjusted EBITDA coming in at €163.5m (a 20.2% margin). Within proforma revenue, sports accounted for 42%, gaming 54% and other 4%. By geography, the largest market (Germany) accounts for 25% and the largest market which is not locally regulated, 12% (Turkey). The enlarged group has a very broad geographic spread elsewhere including the UK, Greece, Italy, Spain, France, Brazil and various East European markets.

GVC reported strong trading across the board in the ytd to 20 April 2016, up 13% at the group level. This was led by the GVC brands where revenues were up 18%. Bwin.party brands also delivered strong performance with revenues up 11% largely due to improved performance of the bwin sports book where gross win margins were up to 9.6% (Q1 from 1 February) versus 8.3% in 2015. Cross-selling performance also improved markedly.

The year-on-year growth in revenues at PartyPoker was a positive surprise within the trading update, marking the first year-on-year gains in five years. The market headwinds for online poker continue to be challenging and consequently we believe that growth has come as a result of market share gains. Management attributes this to the fresh energy that has been brought to the vertical after a challenging period. PartyPoker was placed under a new leadership not long after the takeover was completed and as a result has benefited from a number of new initiatives for the first time in a while. This is encouraging, however we recognise that the environment for online poker remains bearish and as a result a stabilisation in poker revenues over the year would still be seen as a positive result.

We discussed GVC’s business as enlarged by the bwin deal in some detail in our recent Outlook report dated 4 February.

The bwin acquisition closed on 1 February giving GVC’s management less than two months to move forward with its integration plans. Despite this GVC’s management has already conducted an internal review of the bwin business and begun a number of initiatives designed to reinvigorate the business. Management reports that it found a business that is in fundamentally sound shape but with a number of structures and processes that are not supportive of a high performing culture. Early areas of improvement that have been identified include: improving the sports margin on the bwin sports book, increase the focus on cross-selling from the bwin sports book to its casino products and an across the board increase in customer service and the customer journey.

Early indications are that bwin was essentially in good shape, but with clear additional potential. While the initial success in the efforts to integrate and revitalise bwin is undoubtedly encouraging, we are conscious that it is still early, and management recognises that there is still “lots to do”. GVC intends to explore US opportunities over time and all necessary submissions (including executive interviews) have been made to support its application for a New Jersey gaming licence, with a decision expected within two months. CEO Kenneth Alexander also revealed that no gaming brands are up for sale, despite some early speculation around the Cashcade (Foxy Bingo) business.

GVC gave an update on the progress of its application for a move up to a premium listing and a New Jersey gaming licence in America. An application has now been made for a premium listing and the company is presently completing an audit of its Q1 results (36 months of audited financials are required), which together with a number additional supporting documents should put it in a position to achieve a promotion before the end of 2016. This should be a positive catalyst as it widens the potential shareholder base.

2015 pro-forma clean EBITDA for the enlarged group was €163.5m, higher than our previous forecast of €158m as a result of lower than expected costs at both GVC and Bwin.

2016/17 outlook - increase in 2017/18 EBITDA estimates

We have raised our 2016 pro-forma revenue expectations from €824.4m to €850.0m in recognition of the reported strong start to the year. We have also revised our 2017e and 2018e revenue forecasts upwards (from €873.9m to €878.5m and €924.6m to €930.0m respectively) as a result of the higher 2016e revenue base and the early demonstration of the potential for a higher level of cross selling within the bwin business. Our 2016P EBITDA forecast remains unchanged largely due to a change to the trajectory of the realisation of cost synergies, an additional €10m of which was achieved by bwin in 2015 (€25m versus our previously expected €15m). We now expect the company to achieve an incremental €20m in 2016 followed by €50m in 2017 and €30m in 2018, bringing the combined total to the previously communicated €125m. Our 2017 and 2018 EBITDA forecasts have been raised to €250.0m and €285.0m (from €236.5m and €277.4m) reflecting the higher expected revenue and the higher margin nature of cross selling revenues.

Net finance charges - we include both interest and fees

GVC provided a detailed analysis of the interest and fees it will bear if the Cerberus loan runs to maturity, both on a cash and an accounting basis. However, our model assumes (as it did before) that the loan will be refinanced in Q117. Our finance charges in Exhibit 1 are analysed in Exhibit 2 between the cash profile of interest and fees and the accounting profile.

The interest is 12.5% on the €400m Cerberus facility until end February 2017 followed by an assumed 7.5% on a new facility of $200m although this is tentative at this stage (and our assumed rate could be 1-1.5% too conservative). Our assumed fees include facility, anniversary (1%) and early exit fees (3%) although the debt could be refinanced before the one-year anniversary (saving €2.3m). By contrast, GVC’s guidance has to be based on an assumption that the debt runs to maturity and all fees are paid (whether or not they are incurred) implying a P&L charge of €71.0m in 2016 (versus our estimated €64.2m) and €52.0m in 2017 (our estimate €32.4m).

Management expects to release a more detailed than normal interim set of results in September in order to support its debt refinancing discussions, which it expects to begin sometime during Q316. Falling interest charges, alongside the forecast synergies, are the key components of our forecast rapid recovery in normalised diluted EPS, from 25.2c in 2016e to 66.0c in 2018e.

Rapidly declining net debt

GVC’s net debt at end 2015 was €10m but post the bwin acquisition net debt at 17 April was reported to be €193m. 2016 will bear material exceptional cash costs (restructuring €55-60m, working capital and bwin liabilities €25-45m, deal fees of €27-30m), largely offsetting the group’s natural underlying cash generation, and we expect end-2016 net debt of €180m (up from our previous €120m due to our re-evaluation of the timing of cashflows and higher working capital). However, this still stands at less than 1x our forecast 2016 normalised EBITDA. It also implies a high level of cash on the end-2016 balance sheet (est. €226m) which puts the company in a strong position. Post 2016 the one-off restructuring and deal costs fall away while the cumulative synergies continue to grow to the forecast €125m total. As a result we expect net debt to decline rapidly and potentially to be eliminated by end-2018 depending on the dividend payout and before any potential acquisitions. Management’s desire to restore a high dividend payout will be balanced against its ability to deploy surplus funds to grow the business and our forecasts now allow for a c 50% dividend payout ratio from 2017.