DraftKings: A Long-Term Bet On Online Gambling Growth (NASDAQ:DKNG)

DraftKings Inc. (NASDAQ:DKNG) has been trending upwards since late 2022 as its stock is up 90% over the past year and 15% on a YTD basis. With that in mind, I believe DraftKings has more upside to realize in the coming years due to the substantial growth in online gambling and sports betting more specifically. This is seen by the record betting activity on this year’s Super Bowl, as well as the men’s and women’s NCAA Basketball tournaments. In my opinion, the growth witnessed by the sports betting industry will be a main driver to substantial revenue growth for DraftKings, considering its position as the number 2 sports betting platform in the US and its growing market share.

Moreover, DraftKings’ acquisition of Jackpocket will allow the company to tap into the $100 billion lottery industry. Jackpocket will also provide DraftKings with the opportunity to market its sports betting platform more efficiently thanks to Jackpocket’s low customer acquisition costs. These cost synergies as well as the expected growth of the sports betting and lottery industries lead me to rate DraftKings as a buy with a price target of $103, representing 153% upside from current levels.

Interest In Sports Betting Is At An All-Time High

Legal sports betting hit record revenues in 2023 as Americans wagered $119.8 billion on sports betting, 27.5% higher than 2022, according to the American Gaming Association’s Commercial Gaming Revenue Tracker. Those bets resulted in $10.9 billion in revenue, representing a 44.5% YoY increase. I expect this trend to continue this year following the record betting activity on recent major sporting events.

According to the American Gaming Association, a record 67.8 million Americans planned to place bets on this year’s Super Bowl. Bettors planned to wager about $23.1 billion on this year’s Super Bowl compared to $16 billion last year, a 44% YoY increase. Out of the projected $23.1 billion, a record high $1.5 billion were projected to be bet with legal outlets.

The men’s and women’s NCAA Basketball tournaments were another big win for the sports betting industry. According to the American Gaming Association, US bettors were expected to wager more than $2.72 billion on both tournaments using legal sportsbooks. That figure is nearly double the amount placed on the Super Bowl through legal channels. Based on these early results, it appears likely that the sports betting industry might be on track to post record revenues once again, considering that the NBA playoffs and the NFL season are still coming up.

Market Share Gains

These early results are promising for DraftKings’ future prospects, considering its market share growth this past year. Since sports betting legalization became a state issue, DraftKings and Flutter’s (FLUT) FanDuel have been operating a duopoly over the industry, as they control about 75% of the entire industry.

At the end of 2022, DraftKings’ market share was 25% compared to FanDuel’s 43%. That changed last year as a study by Eilers & Krejcik Gaming found that DraftKings has a 34.1% market share in sports betting compared to FanDuel’s 39.3%. In my opinion, DraftKings was able to grow its market share last year due to its exclusivity deals in both Oregon and New Hampshire. These deals have given DraftKings a monopoly over legal sports betting in both states, as it is the only legal sports betting site in both states. Moreover, DraftKings’ only competition in Maine is Caesars (CZR) where both companies are the only 2 sportsbooks licensed in the state.

This mainly due to Maine’s law giving its 4 tribes exclusive rights to online sports betting. On that front, DraftKings is partnered with the Passamaquoddy Tribe while Caesars is partnered with Wabanaki Nations: the Houlton Band of Maliseet Indians, the Mi’kmaq Nation, and the Penobscot Nation. As such, it’s almost impossible for FanDuel to have a presence in these markets without changes in each state’s sports betting laws.

DraftKings’ market share gain is especially promising considering the industry’s expected growth. According to FanDuel’s parent Flutter, the total addressable market for sports betting and iGaming in the US is expected to reach $40 billion by 2030. This forecast is in line with DraftKings’ own forecast of the sports betting and iGaming markets’ total addressable market of $33 billion in 2028 in existing states alone, per its 2023 investor day presentation.

If DraftKings maintains its 34.1% market share, it could generate $13.6 billion in annual revenues in 2030. That said, I believe DraftKings’ market share will increase in the coming years as more states legalize sports betting and its availability in more markets. As such, I predict DraftKings’ market share in 2030 will be around 38% which is a reasonable estimate considering the company’s growing market share over the years. Based on a 38% market share in 2030, I’m forecasting DraftKings’ 2030 revenues from sports betting and iGaming to be around $15.2 billion. The company’s revenues in 2030 will also benefit from the anticipated acquisition of leading lottery app, Jackpocket.

Jackpocket Acquisition

When DraftKings announced its 2023 annual results, it also announced its acquisition of Jackpocket for $750 million, of which $412.5 million will be in cash and $337.5 million in shares. However, if DraftKings’ share price is above $42.86 or below $31.68, Jackpocket shareholders will receive a fixed number of shares of 7.8 million or 10.6 million, respectively.

According to DraftKings’ Q4 investor presentation, US lottery ticket sales in 2023 were $108 billion and are expected to grow at a CAGR of 5% through 2028 to reach $138 billion. Meanwhile, Jackpocket’s revenues grew at a CAGR of 114% from $8 million in 2020 to $78 million in 2023, and is forecasted to generate $135 million in 2024, a 73% YoY growth. Given that Jackpocket’s customer acquisition costs are 80% lower than DraftKings, the acquisition could improve DraftKings’ adjusted EBITDA by $60 to $100 million in 2026 and $100 to $150 million in 2028.

In addition, it’s worth noting the cross-sell opportunity between DraftKings’ and Jackpocket’s offerings. Diligence conducted by DraftKings found that overlapping customers between DraftKings and Jackpocket generated 53% higher sports betting and iGaming gross gaming revenue than its customers who didn’t engage with Jackpocket.

These synergies could help DraftKings reduce its marketing costs, considering that Jackpocket already has 1.8 million total paying customers and 700 thousand monthly unique players as of the end of 2023. This would be another tailwind to DraftKings’ future profitability prospects.

Considering Jackpocket’s revenue growth rate, I believe applying a 25% CAGR from 2024 through 2030 is a fair assumption. At this rate, Jackpocket could generate revenues of $515 million in 2030. Adding this figure to my aforementioned revenue forecast from sports betting and iGaming, I’m forecasting DraftKings’ 2030 revenues to be $15.7 billion.

Click to enlarge

Valuation

In DraftKings’ 2023 investor day presentation, the company forecasted an adjusted EBITDA margin of 30% in 2028 without including the impact of the Jackpocket acquisition. Given the positive contributions of Jackpocket’s low acquisition costs, cost synergies, and revenue growth, I expect DraftKings’ adjusted EBITDA margin in 2030 to be 35%.

Based on my aforementioned revenue forecast, DraftKings’ adjusted EBITDA in 2030 would be $5.5 billion. Applying a 9.16 EV/adjusted EBITDA multiple, the sector median, would imply an EV of $50.3 billion. Assuming the company issues 10.6 million shares for the Jackpocket acquisition, the worst-case scenario, and subtracting the $412.5 million from its cash balance, my price target for DraftKings is $103 per share, implying 153% upside from the current share price of $40.68.

Click to enlarge

Risks

Risks to my bullish thesis on DraftKings include increased competition from new entrants in the sports betting industry, especially Penn Entertainment’s (PENN) ESPN Bet venture. ESPN is the number 1 sports media brand in the US, and its ability to cross-sell ESPN Bet during its broadcasts could help it gain popularity and become a threat to DraftKings’ and FanDuel’s duopoly over the sports betting industry. As such, ESPN Bet could gain market share from both industry leaders, which would have an impact on my forecasted revenue and in turn my price target.

Moreover, there are regulatory risks with Jackpocket since it operates as a lottery courier service, meaning that tickets are purchased by the company on users’ behalf and earns revenue from commissions on deposits into users’ balances. Currently, Jackpocket is licensed in New York and New Jersey only, which means that it operates in a gray area in most of the 18 markets it operates in where a third party buying a physical lottery product on behalf of another customer is unregulated. As such, Jackpocket faces the risks of regulatory questions over its courier model and state adoption of an online lottery, which would undermine its utility as a courier.

Conclusion

In summary, I’m bullish on DraftKings due to the expected growth of the sports betting industry considering its leading position in the industry. The company has also been gaining market share over the years, which could be attributed to its presence in more markets than its competitors. Those 2 factors could help DraftKings to increase its market share in the coming years, as I’m forecasting it to reach a 38% market share in sports betting and iGaming in 2030.

Moreover, the anticipated Jackpocket acquisition will further boost DraftKings’ bottom line in my opinion, thanks to its low customer acquisition costs, overlap in customers, as well as the anticipated growth of the US lottery industry. I believe these factors could contribute to DraftKings posting a 35% adjusted EBITDA margin in 2030, which is why I’m rating it as a buy with a price target of $103 per share, 153% higher than current levels.