Episode 10: Flutter

Kevin Murphy (00:01)
Welcome back to What Matters Most, Sands Capital’s podcast series in which we explore some of the trends and businesses that are propelling the pace of global innovation and changing the way we live and work today and into the future. Today, we are joined by Research Analyst Katherine Bates discussing Flutter, the world’s largest online sportsbook and gaming operator.
I think a lot of listeners are probably familiar with the expanding world of online sports betting but are probably much less familiar with the investments in businesses that enable this industry. Flutter is a leader in multiple areas, including revenue, technical capabilities, and product innovation. So we have a lot to dive into today.
But before we jump in, I want to take a moment to remind our guests that they can access our latest thinking by subscribing to Sands Capital’s newsletter in the podcast series description.

Kevin Murphy
So with that, let’s get started. Katherine, I think you’re a repeat podcaster here.

Katherine Bates
Yes, always happy to chat.

Kevin Murphy
Thank you very much for being with us here today. I’m excited to dissect some of the intricacies of Flutter. I admittedly am not an avid user. I don’t consider myself much of a gambler, but I’m definitely familiar with the explosive growth in that space, for sure. I mean, if you just gauge it by the number of advertisements that we’re seeing now on pretty much every sports venue and any sports channel that you watch, you’re going to see a lot of these companies represented.

But I think what’s interesting is this particular business and then also the overall market. I think you’ve characterized it as about a 300-plus billion dollar industry, and, as I mentioned earlier, Flutter is a key player in that business. So let’s start there. Let’s dive into the overall space of online gambling, and then we can go into some of the details about Flutter specifically.

Katherine Bates (01:45)
Yes, that sounds great. Thanks, Kevin. I’m happy to be here. I will say, maybe one of the reasons that you aren’t as avid a user is because you live in [Washington,] D.C. And the options in D.C. are pretty poor, but Flutter is actually taking them over. So maybe once that happens, you’ll be using it a little bit more.

Kevin Murphy
That’s a good topic. I think we’ll dive into a lot more, just the expanding market through changing regulation around different areas.

Kevin Murphy
All right, well, I didn’t mean to interrupt you. Go ahead, continue.

Katherine Bates (02:14)
I mean, just to level-set and zoom out a little bit. So gaming in general, whether we’re talking about online casino, in-person casino, or betting on any kind of sports or really any kind of competition you want to bet on—it’s one of the oldest businesses out there. It’s been a source of entertainment for centuries at this point. The industry has gone through a lot of evolutions. But like you said today, it’s an industry that’s worth over $300 billion. So it’s really pretty large, and it’s still continuing to grow.

And there are a few forces that are driving the growth. Two of the most important ones right now are mobile penetration and legalization. And they’re really driving the online segment in particular, as opposed to the land-based segment, which is the physical casinos that we think of.

So mobile itself is helping to drive the growth by just making gaming … It’s easier to understand. It’s more convenient because you can pick up your phone, place a bet anywhere, and start a game anywhere, rather than having to go to a physical location. It makes watching sports a lot more entertaining, and it can actually make the process of placing a bet safer because you no longer have to figure out how to find a bookie [as you had to do] if you were in the U.S. a few years ago. Or if you were in Europe, you know, take the time to walk to a betting shop, do things like that. Today, you can do it all from the app. So, it means there are also a lot more opportunities to engage with the industry. So it used to be that a lot of the bets that were placed happened before games started. What we’re seeing now is that there’s much more opportunity to place bets while games are going on, to do it live. So it makes everything just a lot more engaging.

Kevin Murphy (03:52)
And actually, let’s stop there for a second because I think that’s an important distinction or one of the advantages that Flutter maybe brought to the marketplace. And correct me if I’m wrong, but the idea of in-game parlay or in-game betting, right? That was an extremely complicated algorithm or math problem to solve. Talk to us about that. I believe Flutter was one of the first—or the prior company that became Flutter—was one of the first that actually solved that problem.

Katherine Bates (04:18)
Yes, so those are actually two different products, which can be combined. So let’s start with parlay. This is when you’ve got multiple bets that are all dependent on one another to win the ultimate sum of what you might potentially be able to win. And yes, it’s a huge math problem because the more legs that you add to a parlay, the more difficult it is for the operator to price it out.

And because the legs of the parlay might be happening at different points in time, they can be dependent on each other as well. Flutter was the first company to really launch this broadly. They did it in Australia first in the mid-2010s. And it was really, really well received.

And what’s interesting is that it both drove engagement and use of the apps because parlay’s really exciting. It’s kind of like a lottery bet in some respects. You can put down just $5, and depending on how exactly you’re structuring it, you could have the opportunity to win thousands. So it’s something that a lot of people like to do. And in addition to that, it’s a higher margin for the operators, too, because it’s hard to win these. You know, part of the reason why the payout is so high is because the likelihood of winning these parlays is lower.

So but all around from both, you know, the operator side of things and the consumer side of things, it’s been a proposition that’s been really, really well adopted. And Flutter was the first to bring that here to the U.S. And, they were able to do that because they had the existing capabilities from what they had already built in Australia.

When sports betting became legal here in the U.S., they were basically able to just port that over and be able to offer this product much more quickly than other operators—years before anybody else. And there are actually some operators that still don’t offer it up to the standard that Flutter is able to.

Kevin Murphy (06:06)
OK, excellent. I know we kind of jumped into the weeds here quickly, but maybe step back before we go any further and just describe Flutter’s business. Generally, what are their business units? How do they make money? And then another question that I had specifically on Flutter is: If you go to their website, they talk a lot about one of their missions, which is “disrupting our sector.” Maybe talk about how within each of those business lines, they’re doing that or they think they will be doing that.

Katherine Bates (06:34)
Yes, sure, definitely. So like you said, Flutter is the global leader in the industry. Any way you measure it really—by revenue, by margins, by geographic footprint—they’re the biggest and broadest player. The present-day—like the present version of—Flutter, you can argue that its legacy dates back decades. But the current version, really, I would say, got its start back in 2015. And that’s when Paddy Power and Betfair merged.

So Paddy Power was an Irish bookmaker that also owned that business in Australia that I referenced earlier called Sportsbet. And then Betfair was a U.K. bookmaker. So those two businesses merged. And then—over the course of the next, I guess, eight years at this point or something like that, nine years—they’ve made a number of other acquisitions. So I won’t go through all of them, but a few of the more notable ones are FanDuel here in the U.S. They recently acquired Sisal, which is one of the leading operators in Italy. And then they’ve made some acquisitions in other more nascent geographies like India, for instance. So they’ve grown through that M&A [mergers and acquisitions], and then they’ve grown organically as well. Because also they operate a number of brands all in different geographies.

And it sounds like it’s a pretty complex business because they’ve got a footprint everywhere from the U.S. to Latin America to Europe all the way to Australia. Sports betting, in particular, is a really local business because you have to understand what’s going on with the teams and the players that people follow individually. So it seems like it could be really complicated. And the way that Flutter has found that they can best manage this and make the businesses as efficient and productive as possible is to take what they call a federated approach.

So they’ve got a number of divisions, and each of these divisions focuses on a geography, and they’ve got all of the teams and the resources that they need to execute on, you know, the day-to-day operations of the business. So there’s a tech team in the U.S., there’s a marketing team that’s just for Australia, things like that. So that’s happening in the day to day.

And then, every once in a while, Flutter will see a product or a feature or a marketing strategy that’s working really well in one specific area. And they’ll say, hey, we think that this can resonate elsewhere—this is what happened with parlays, for instance—so let’s bring it over to some of the other divisions. And they’ve got the technical capabilities to be able to do this relatively seamlessly.

So what they have done is basically like taking the combination of having this really hyperlocal approach, and then they overlay it with a broad global approach. And it kind of has been able to give them the best of both worlds as they’ve built the business through the organic growth and the M&A that they’ve done.

Kevin Murphy (09:20)
OK, excellent. So I have a couple questions within questions here. So I’ll wait until you explain, but talk to us about how they make money. You know, we talked about new gamblers coming to the services. So that is, you know, I guess, unit growth. But is there also an element of share gain? Are they taking existing gamblers away from the brick-and-mortar casinos?

Katherine Bates (09:40)
Yes, so in terms of how they make money, they do it through the online sportsbook, which is primarily betting on sports matches—so, soccer games, football games, basically anything that you want. In the COVID [pandemic], there were some Korean sports that were doing really, really well, for instance. And then there’s an online casino business too. And that’s kind of typical casino games that you would think of—like slots or roulette.

On casino, it’s pretty easy. It’s pretty basic. The house always wins. They take a small margin on every game that’s happening. Sometimes, players will win big, but, on average, Flutter is able to pretty accurately know what it’s going to earn from that portion of the business.

Sports betting can be more dynamic or volatile. It depends on what word you want to use because what they do is they price out the odds. And it’s important to note they do almost all of this odds pricing in-house. So over 90 percent of the handle is priced in-house. That’s not easy to do. You need a really big team of people and technical capabilities and, you know, really well-developed algorithms to be able to do this. A lot of sports books outsource it to a third-party sportsbook. There are some other players who are also able to do this in-house, but Flutter has a real advantage because it’s the largest player. It has the most data, so it’s able to price these odds the most accurately. That being said, it doesn’t earn the same amount of money on every single bet that it’s taking in, but on average, it’s able to earn, call it a low double-digit margin on those sportsbook wagers that people are placing. So that’s, in a nutshell, how they’re making money.

Kevin Murphy (11:23)
And for those of us who aren’t steeped in the industry, “handle” is the total amount wagered.

Katherine Bates (11:29)
Yes, exactly, which is different from the total amount that Flutter’s actually collecting as revenue. So sometimes you’ll hear, you know, X hundreds of millions or billions of dollars sometimes even were placed on a big event like the Super Bowl. Flutter’s not collecting all of that money. They’re collecting, like I was saying, a low double-digit percentage of that and recognizing it as revenue.

Kevin Murphy (11:51)
Well, that’s helpful, thanks. I think it does a great job describing the business and the marketplace, but let’s maybe stay on the marketplace for a minute. This is a global market, as you mentioned, 300 billion-plus. Who are some of the bigger players in the market? Who else would be competing with Flutter in that sense?

Katherine Bates (12:09)
Yes, sure. So I mean, you can think of it as they’re competing with anybody that’s operating a gaming business. So you could think of some of the classic land-based operators, like a Las Vegas Sands, for instance, which operates only physical casinos. In some respects, they’re competition. But really, the more relevant competition is the other companies that have apps and are online-focused. Flutter has a few of its own retail shops, but most of the business today is online.

So here in the U.S., its most notable competitor is DraftKings. And then elsewhere in the world, it competes with … most of the brands that it competes with are at a local level. So I mean, I could go through all of them. But basically, they compete with some other global operators—like Entain, for instance, would be one example of that.

And then they also compete with—frequently there are local heroes in specific markets. So like in Italy, for instance, they have the Sisal brand. There’s another local operator that is their main competition there that doesn’t have any of the broader geographic focus that Flutter does.

Kevin Murphy (13:16)
Let me go back to the kind of traditional casino model. Why is it that Las Vegas Sands isn’t a big presence there or MGM? I mean, MGM might be because they advertise like crazy, but why wouldn’t you have listed them as kind of a main competitor?

Katherine Bates (13:31)
Yes, so MGM has the BetMGM brand here in the U.S., and they’ve actually launched it over in the U.K too. So technically they are a competitor with a few of Flutter’s brands. MGM is approaching it through a JV [joint venture] though. They don’t have the technical capabilities to launch, manage, or run their own sportsbook or online casino. They can do it better today than they could in the past because they’ve made some acquisitions to do it, but they don’t have anywhere near the experience and the depth of technical knowledge and team that Flutter does today. So what we see generally around the world, and it depends, based on how mature our market is, but typically there are some leading operators in a market that have a large amount of share, and then there’s a long tail of operators that have just a few percentage points of share. And MGM right now is, you know, in some states here in the U.S., it’s the number three player, but in others, it falls into that longer tail of operators.

Kevin Murphy (14:37)
OK, and that gets back to my very early question too. Let’s talk about the regulatory environment, how that’s changing and maybe opening the market to new customers.

Katherine Bates (14:48)
Yes, sure. So earlier when we were talking about the growth drivers, one of the first things that I mentioned was mobile penetration. But one that I haven’t mentioned yet is legalization. And that’s a really important growth driver too, because what happens basically as a geography legalizes … You know, basically anywhere in the world, if you want to, you can place a bet, you can find somebody who will accept it and hopefully pay you out, but it’s not necessarily legal.

And Flutter really doesn’t have a presence in markets that aren’t at least in the process of regulating. So when a market does legalize, it’s essentially “white space” [a marketing area that lacks products] for Flutter. And they can come in with one of their established brands and launch it and grow that way. Or frequently what they do is they’ll buy a local operator who has a local understanding, you know, who knows the customers, knows the sports teams and the players and stuff that are most popular, knows how people want to be marketed to, what types of bets they like to put on. They’ll go and acquire one of those players because the business throws off a lot of cash. So they have the money to do that. And they can expand their footprint that way.

So legalization around the world has been an important growth driver for the industry. It will continue to be an important growth driver. We just had Brazil legalized, for instance, which is a pretty big market, both just by virtue of the size of the population and also because it’s a pretty sports-obsessed nation. So we think that the industry will do really well here.

Over the past few years, the biggest legalization opportunity has actually been here in the U.S. So back in 2018, the Supreme Court made a ruling that allowed states to decide if they wanted to legalize both online sports betting and iGaming [internet gaming] online casinos. And what’s been happening since then is that, every few years, a handful of states has made the decision to legalize. So that’s just been kind of like a nice tailwind. As those states legalize, Flutter via the FanDuel brand is able to go into them and acquire a customer base and grow the market that way.

Kevin Murphy (17:02)
So, yes, in terms of customer acquisition, let’s stop there for a minute and talk about that because I know, you know, you mentioned “white space.” And I think, as I said at the beginning, we’re all very familiar with the deluge of advertisements, even in places that may not be considered white space. How does somebody go about picking, you know, one of these services over the other? What’s a feature or a benefit to Flutter versus competitors?

Katherine Bates (17:26)
Yes, so it depends on what stage the market’s at. So part of the reason that, you know, we’ve all been overwhelmed with ads for all the different sportsbooks is because when a state first legalizes, there’s kind of a land grab to acquire as many customers as possible. And the way that the sportsbooks will do that is by running promotions.

So I was just down in North Carolina last week. North Carolina legalized at the beginning of March. And every game there was a commercial break that was for a sportsbook that was offering, “Place a $5 bet, get $200 in free credit.” So that’s kind of like the easiest way to acquire customers.

That’s important, but what really matters is retaining those customers because the apps are all on your phone. It’s really easy to switch from one to another. And the best way to retain customers is,
unsurprisingly, by having the best user experience.

So it’s basics like making sure that the app is up and running through all of the big sporting events, which sounds really elementary, but some of the operators have not had the technical capacity to be able to do this. And obviously, if you’re betting during March Madness or the Super Bowl, and you’re not able to put a bet on when you want to, that’s a really frustrating experience.

It’s also being able to do things like make depositing money seamlessly and cash out seamless as well. Those are some of the technical basics, and then there’s the product itself. So it’s having the things that people want to do on the app, essentially.

So having the parlays, not just having, you know, the ability to make a parlay but also have custom packaged parlays and having them personalized to a user based on how they’ve placed bets in the past. Having parlays that are all for the same game. That’s a harder technical and pricing thing to be able to do. Not all operators have that. So the product really matters as well.

And then there is having a reliable pricing and good odds, like reliably having the right odds, which some operators are all over the place. Flutter doesn’t necessarily try to be always the lowest-priced operator, but it tries to be consistently one of the lowest-priced operators. And that way it builds a reputation for being fairly priced. And that helps to drive customers to come back to it organically and build loyalty that way.

Kevin Murphy (19:54)
So I think it’s fairly straightforward in the sportsbook business in terms of, you know, win-loss over-under. Those are pretty transparent. Either you won or you lost. But on the online gaming casino-based games, you know, you mentioned at the beginning of the conversation that the house always wins.

Katherine Bates
Yes.

Kevin Murphy
The house does always win but they can’t make it too obvious that they always win or nobody will use the house. It’s like driving to the gas station on the outskirts of Las Vegas because you know those machines are going to pay out more.

Is there an issue with Flutter or businesses like this having the perception that their fingers are on the scale maybe a little too heavily from time to time?

Katherine Bates (20:31)
No, because the margin that they earn on the casino business is smaller than the margin that they earn on the sports business. Part of that is just because sports is perceived as more of a game of skill, which is actually true. So it’s a pretty slim margin. So it’s not that noticeable.

And I think that players, you know, most people who are using these games are doing it as a source of entertainment. It’s not necessarily that they think that, you know, spinning the jackpot on one of these apps is going to be the lottery ticket that completely changes their life. It’s more, hey, I’ve got 15 minutes to kill. Let’s see how entertaining this is. And people are willing to pay, you know, $5 or $10 for that. There’s value there.

Kevin Murphy (21:11)
Got it, all right, thanks. That was maybe more of a personal question to make sure. I could go in all kinds of different directions, but one other question, I definitely want to get into the ethics behind this business and this marketplace, but before I do, talk to us a little bit about this service for nonsports betting. I believe, I don’t know if you can do it through Flutter, but I certainly know a lot of people placed bets on the presidential election, for example.

Katherine Bates (21:41)
Yes, you can absolutely bet beyond sports, and you can also bet on sporting events, on things that have nothing to do with sports. So like betting on different Taylor Swift potential outcomes at the Super Bowl was one thing that was happening. That is decidedly a more recreational, like one-time in nature kind of bet. And it’s not the type of thing that is really driving the business on a day-to-day basis though.

Kevin Murphy (22:07)
Oh yes. It makes for good headlines though, I think. Maybe throw that in the marketing category.

Katherine Bates
Exactly. Yes. I mean, anything that they can do to drive that marketing awareness.

Kevin Murphy (22:17)
So you know, you talked about league betting, you talked about, betting in March Madness and that sort of thing. One, I think, of the interesting aspects of this business that people may not be that familiar with—and I think you would say is a competitive advantage of Flutter—is daily fantasy sports. How do they address that market, and what makes them kind of a special player there?

Katherine Bates (22:38)
Yes, sure. So that is most relevant here in the U.S., actually. They still offer it. It’s a much smaller piece of the business today. But what really is interesting about the DFS [daily fantasy sports] business is that’s where FanDuel started. So for years, the only thing that FanDuel offered was the daily fantasy sports business. While they offered that, they acquired a customer database that numbers in the millions at this point. And that has proven to be a really strong competitive advantage when Flutter or when FanDuel specifically goes into a new state. So when a new state legalizes on day one, Flutter has their database of DFS users, which means that they know exactly which users are those that are most likely to be interested in sports betting.

DraftKings also has this advantage, too, to an extent, but none of the other operators really do. Like an ESPN BET, a Caesars, a BetMGM, none of them have any kind of database that’s comparable to this. And that’s proven to be a really important competitive advantage. It lets FanDuel go after the best customers right away, acquire them, and then retain them with all of the product advantages that we talked about earlier.

Kevin Murphy (23:51)
Yes. OK, excellent. Well, let’s move into the key components to the business case, as you mentioned, or not the business case totally but for thinking about digital and online gambling is sort of looking at it as a social media app where you want to have user growth, user engagement, and retention. Let’s talk about the engagement part, and then maybe put that into the ethical conversation. Problem betting is certainly an issue. How is the company addressing that?

Katherine Bates (24:19)
Yes, sure. So it is. I think that one of the ways to put it into perspective, though, is to consider the fact that, in some respects, a lot of things that consumers do, there’s some problem element to it, right? So you’ve got people who can have a few glasses of wine and have no problem, and then you have alcoholics. You have people who have no problem using credit cards, and you have other people who are racking up hundreds of thousands of dollars in debt.

Problem gambling is similar. There are a lot of studies out there. One that I saw recently says that about 2 percent of users here in the U.S. are identified as problem gamblers. So it’s a really serious issue for those users, but I think that it’s a lot less widespread than the perception that you might get if you’re just reading headlines because a lot of times those news stories focus on one particular outlier case. And it’s usually quite terrible—don’t get me wrong—but it’s also not the experience that 99.99 percent of the users of these apps are having. So that’s just a little bit of background.

Flutter definitely understands that it can be a problem, and they know that it is in the best interest of their business to do what they can to combat it. So they are spending about 100 million [British] pounds annually on different types of investments and efforts to mitigate problem gambling. Some of this is funding research and studies and training and educational awareness. And then some of it is like the technical capabilities that they’re developing for the products, developing different types of ways that they can actually interact with the consumers and get in front of them and allow the consumers to stop their playing before it really becomes a problem. So there’s things like real-time interventions that they’ll do within the app. Consumers have the ability to set deposit limits, set time use limits, things like that.

And about 40 percent of players are using at least one of these tools right now, which is good. They have an internal goal to get that to be even higher. And what the company has done since 2020 is they’ve actually linked the executive comp [compensation] to combating this problem gambling issue. And that proportion of comp has actually been increased. It was doubled over the past year. So they’re just focusing more and more on it.

I think another thing to do just in terms of like setting the stage and considering like what’s actually happening on the ground is: We know that the average FanDuel user here in the U.S. is spending about $100 a month on the app. So that’s not an egregious amount of money when you consider that it’s a form of entertainment and you think about other things that they could be doing with that money, like going to the movies or going out to dinner or something like that.

It’s all in the same ballpark. So that’s something that gives us some reassurance that the average person is actually using the apps as they’re intended. The last thing that I’ll mention on this is that Flutter’s actually been proactively trying to go after a more recreational player base as well. They don’t want the whales that are losing thousands of dollars a week or a month on the apps. They’d much rather have those people who are spending just a hundred dollars.

Kevin Murphy (27:35)
OK, excellent. Yes, I like that idea of real-time intervention. It just reminds me, if anybody listening has ever driven from Los Angeles to Las Vegas, you’re bombarded by billboards to dial an 800 number if you have a gambling problem. And that’s not real-time intervention. That requires you to actually acknowledge your problem and reach out. I think this seems like a much better way to deal with that, for sure.

Katherine Bates (28:00)
And that’s actually one of the advantages of, in some respects, gambling on the apps as opposed to doing so at a casino, right? Because the apps know exactly how long you’ve been on there, what you’ve been betting, if your behavior is different than it typically is. That’s much, much more difficult to detect in person.

Kevin Murphy (28:17
Great. Well, you know, this is an interesting company, to be sure, in a very interesting space. So I’d like to hear about how you cover it kind of on the ground. You mentioned you went to North Carolina. Any interesting stories other than just sitting, you know, in your room with your phone, placing parlays? Which I’ve …

Katherine Bates (28:36)
Well, it was during March Madness, so there was definitely a lot going on. Yes, but I do. Every time I go to … I also live in D.C., and the offerings here are not great. Anytime that I go to a state where it’s legal, I’m always using the apps a little bit more than I would otherwise, but that’s not the core way that we research this business.

There are really two activities that we do on a regular basis that I’ve found to be most helpful. So the first is: In the U.S., every state where either gaming or casino is legal, they release some kind of information on a monthly basis about what the operators are doing. And it’s not all the same across every state. States give different levels of detail. You’ve got different levels of insight into like the specific operators. But we collect all that research, and we analyze it on a regular basis just to make sure that everything is tracking in line with the way that we expect. So that was really important initially in building our conviction that Flutter really did have clear leadership here in the U.S. And it’s been important on an ongoing basis to just make sure that nothing major is changing.

The other thing that we’ve done in the U.S. is spend a lot of time thinking about what the legalization process might look like for the states where gaming isn’t legal yet. Because, as we discussed earlier, when a state legalizes, that unleashes a new wave of consumers who can come into the app. So that’s a pretty important growth driver. So we’ve got a section in our model that’s state by state—when we think they’re going to legalize and how popular betting might be in each of those states.

And then there’s the industry dynamics because understanding what’s happening with all the other operators is really important and also understanding what’s happening in every geography where gaming is available is important because there’s a lot of insight that can be learned from the geographies where the industry is much more mature.

So the way that I’ve found it best to stay on top of that is, I mean, there’s a ton of industry newsletters and stuff like that out there. I get, I don’t know, five to 10 emails every day in my inbox, sometimes more with all of the most recent news and headlines and stuff like that.

But then, there’s also a bunch of industry conferences that are really helpful to go to. And normally what happens at those is there are education tracks. So there’s usually one focused on betting and one focused on gaming, one focused on the legalization process, different payment methods, responsible gambling, things like that. So we’ll go and we’ll sit in on all of those and learn about what’s happening around the world for each of those topics. And then there’s exhibition floors, and we’ll walk those and we’ll see what new products are coming out and what people are excited about and what might be relevant for Flutter to be thinking about doing and launching over the next few years. So we’ll attend those regularly too.

Kevin Murphy (31:32)
On prior podcasts, we covered companies like Formula One, and you mentioned NCAA [National Collegiate Athletic Association] or March Madness. Are there licensing issues? I mean, does Flutter or do these gaming applications have to pay any sort of royalty or licensing compensation to the brand or league owners?

Katherine Bates (31:50)
Yes, there’s licensing for sure. Sometimes it’s to the leagues. More often, it’s to a third-party provider that itself works with the leagues. And then, all the operators have a relationship with them. But then there are also league relationships in that you can be an official sponsor, for instance, of the NFL [National Football League]. And those are relationships that Flutter definitely has as well. So there’s those fees. There are also state fees in the U.S., in terms of, you know, you have to pay to have a presence, essentially, in each state. A lot of times, you have to have specific technical capabilities for each state as well.

So there’s, yes, a lot of fees that are collected within the industry. But as annoying as it is to, you know, have to have the operators pay these fees, it’s actually something that eventually advantages the players that are the biggest because they have the ability to best absorb all these costs and have it not take as much of a hit to their margins. So that’s an area where Flutter is advantaged as well.

Kevin Murphy (32:53)
Is there any possibility or are there any leagues out there that prohibit gambling or the possibility that they may want to kind of do it themselves?

Katherine Bates (33:00)
No, it doesn’t make sense because the leagues don’t have the technical capabilities to be able to go and stand up their own sportsbook. Like even ESPN, which isn’t a league, but it’s the biggest sports brand out there. They’ve recently agreed to be branded as a sports betting app, and they haven’t been able to do it on their own. They’ve had to partner with PENN gaming [PENN Entertainment was formerly known as Penn National Gaming], which is a legacy brick-and-mortar online casino brand. So they don’t have the technical capabilities, the teams, or the talent, or anything in-house to develop any of that or maintain it. And maybe more importantly, I don’t think that they want to get involved with the perception of, you know, having any kind of influence over if there’s a huge bet out there, and they might have to pay it out, and the game goes the opposite way. You just don’t want to be involved in that from a league standpoint.

Kevin Murphy (33:51)
Got it. You mentioned PENN gaming. That reminded me that we did a lot of research years ago on International Gaming Technology [now known as IGT]. I know they were part of this story at some point, helping, I don’t know if it was Flutter, maybe it was Paddy, they outsourced the technology to IGT for a while. Are the IGTs still there? And would that be something you’ve looked at as maybe the arms dealer to this industry?

Katherine Bates (34:15)
Yes, so I think that’s more on the casino side of things, and it’s the games. And Flutter does license out a lot of its games. It has some that it’s developed in-house. But, normally on the iCasino [internet casino] side of the business what you really want is to have the broadest offering available possible. So Flutter partners with, I mean, tens if not hundreds of game providers to make sure that they have that broad offering so that when a consumer goes into their casino business, they can find the exact slot game, for instance, that they want to play. They don’t want to have them going to another operator that’s offering it instead.

And it’s interesting that you bring that up because FanDuel, specifically here in the U.S., has done really well on the sports betting side of things. It’s got over 40 percent share here. And it’s pretty established at this point. Casino has been weaker, which is surprising, because Flutter at a global level is the biggest online casino operator out there. But they’ve really lagged here in the U.S. Their share was just in the high teens or hovering around 20 percent a few years ago.

What we’ve learned over time through our research is that this was really a deliberate decision that they made. They wanted to get the sportsbook up and running because they thought that sportsbook would legalize more quickly than casino. That’s exactly what’s happened. And now that they have the sportsbook business doing really well, they’ve been focusing more effort on the casino business. They’ve brought in people who are experts from Europe and Australia to the U.S. to make sure that they have everything that they need to make this business as big as it possibly can be. They’ve brought in a lot more of those other games. They’ve increased their title count by something like over 80 percent in the last year. And what we’ve seen is over that past year, they’ve taken, you know, three, four points of share, which is pretty material in this type of market. And we think that they can continue to increase it from here too.

Kevin Murphy (36:04)
Excellent. One thing we touched on peripherally, what are some of the biggest risks to this business in your mind?

Katherine Bates (36:10)
Yes, we did talk about responsible gaming. And I think, I don’t think that is a risk that, you know, all of a sudden we’re going to have 50 percent of the people using the apps with a problem. I’m not concerned about that. But there are headlines associated with it, right? We actually just saw this last week. A senator sent out a letter to a bunch of gaming companies basically saying, what are you doing about the VIP [very important person] players? I want a better understanding of how you’re managing those relationships, and the stock was down that day.

So there’s that headline risk. We’re comfortable with it for the reasons that I discussed earlier, but it’s something that’s out there.

The other thing is that one of the consistent dynamics that we’ve seen play out in the industry is, over time, regulation does tend to increase. Sometimes, it’s limiting what younger players can do. Sometimes, it’s increasing the tax rate that the operators have to pay out to the jurisdictions in which they’re operating. We’re aware of this. We think that will continue. I certainly wouldn’t want to expect any regulations to be rolled back or even for the status quo to be maintained.

The way that we get comfortable with that is we think that it’s a pretty well-understood dynamic within the industry. So it’s reflected in the multiple that we’re paying for the business, and it’s also reflected in the terminal multiple that we’ve got in our model. So we can mitigate some of the risk that way.

Kevin Murphy (37:31)
What about, I mean, this is going to be way out of left field, but casinos back in the day were kind of notorious hubs for money laundering. Are there issues with fraud or how do they protect against that?

Katherine Bates (37:44)
There are know-your-customer [KYC] requirements. So yes, the operators have some read-through. They have to have some read-through into who’s actually using the apps. There’s really sophisticated like geofencing that happens today so that you can’t be placing bets in jurisdictions where it’s not legal and it might be easier to circumvent some of those KYC requirements.

Kevin Murphy (38:04)
OK, well, like I said, I could go on and on. This is a really interesting business and a really interesting marketplace. But in the interest of time, any thoughts you want to leave us with? Any kind of big picture ideas about this company? Or, I think also interestingly, the ecosystem. Is there anything else kind of within this ecosystem that you’re looking at or interested in?

Katherine Bates (38:23)
Well, we also own Evolution, which is a live-dealer provider. They’ve got a great business. The moat’s really strong. It’s very, very difficult to replicate what they do. Their margins are phenomenal. So that’s another business in the ecosystem that we’ve found.

We’ve looked at other operators. We don’t think that anybody else is worth owning in place of, or in addition to, Flutter, but we’ll always kind of keep our eye out there.

I think, the other two things that I’ll mention are, you know, we spent a lot of time talking about the growth that we can expect from the industry and from Flutter specifically, but complementing that—and what I think is a key element of our investment case—is the margin expansion that we’re expecting from the company as well.

So in the U.S. in particular, they’ve been investing money here for years and years. And it was just last year that they generated positive EBITDA [earnings before interest, taxes, depreciation, and amortization] for the first full year in the U.S. We think that is going to accelerate really exponentially over the next few years. We already saw they released their full-year results last week. They’re guiding for EBITDA in the U.S. to about 3X in 2024.

And we think that there’s a lot of room for it to expand from here. Margins are just in the single digits. When you look around the globe, most operators are in the 20 percent to 30 percent range. So that’s a pretty big jump. And we see no reason why Flutter won’t be able to achieve that in the U.S. Basically, they’ve been investing a ton of money into customer acquisition. A lot of those customers are now acquired because states have been legalized. So margins will ramp because there’s going to be less money they have to spend on that acquisition element. So that’s one thing that I think is important to mention.

And then, the other is just the duration of the opportunity. So we do still have states legalizing here in the U.S. This is going to remain an important growth driver for a while. But after that, I think that there will be other geographies that the growth baton will essentially be able to be passed on to.

I mentioned earlier that Brazil just recently legalized. That’s a really big market that has a lot of promise.

India is another market where Flutter has been slowly establishing a bit of a footprint. There are still a lot of restrictions in the market, but I think over time that’s another one that we should be keeping our eye on.

And then, there’s just the opportunity for them to continue to grow via M&A as well. There’s a lot of other small local leaders that they could acquire if the price is right, and that’ll just continue to add to the growth trajectory.

Kevin Murphy (40:53)
Great, well, excellent, Katherine. Thank you very much for walking us through this, and my personal thanks in particular because I really didn’t know much about this business. And I might actually start dipping my toe in the world of online gaming.

Katherine Bates
You know, when we’re in the office in Virginia, you can download all the apps.

Kevin Murphy
Yes, my wife will ask, why do you always go to the office, and I’ll say I’ve got I’ve got a parlay to deal with but …

Katherine Bates
You’re right. My husband sometimes goes on runs to Virginia on the weekends, so same thing.

Kevin Murphy
Yes, stops for a minute and places some bets.

All right, well great. Well, thanks again for doing this. This was really interesting. And I think a lot of people learned a lot about this business. Even though they want to say they know all about it, I don’t think they really understand the mechanics behind it as well as you do. So this was really a great insight into the company and the world of online gaming.

Katherine Bates
Yes. Great. Always happy to chat.

Disclosures:

The views expressed are the opinion of Sands Capital and are not intended as a forecast, a guarantee of future results, investment recommendations, or an offer to buy or sell any securities. The views expressed are current as the episode date and are subject to change. This material may contain forward-looking statements, which are subject to uncertainties outside of Sands Capital’s control. The securities identified do not represent all of the securities purchased or recommended for advisory clients. There is no assurance that any securities discussed will remain in the portfolio. You should not assume that any investment is or will be profitable. A company’s fundamentals or earnings growth is no guarantee that its share price will increase. For more information, including a full list of portfolio holdings, please visit our website at www.sandscapital.com.

As of April 30^th, 2024, Evolution was held in Sands Capital strategies. No other companies mentioned were held in any Sands Capital strategies at the time of recording and were mentioned for illustrative purposes only.