Bookies’ Year-End Numbers and Budget Woes

This was an interesting week for certain sectors given the UK budget. Annuity insurers were stunned by the scraping of the requirement to purchase annuities upon retirement, thereby denying the sector of a statutory ability to rip off customers. Hopefully, the move will result in innovation in the insurance and fund sectors in providing customers with retirement products of genuine value by way of low cost index following returns with elements of longevity protection.

The other sector which got hit was the bookmakers with an increase in taxes on gaming machines (aka fixed odds betting terminals or FOBTs) to 25% from 20% and an extension of the horse racing betting levies to include offshore operators. A previous post on the betting sector outlined some of the dynamics at play (I still have to follow that up with a post on betting exchanges, specifically Betfair). The FOBT tax increases apply to both category B2 machines (casino games) and B3 machines (slot games). The timing of the tax increase caused surprise as the UK Department for Culture Media and Sport are looking into how the FOBT can be restricted to reduce its appeal to younger men with low incomes and gambling problems.

Shares of UK bookmakers took a hit from the news, particularly Ladbrokes as the UK bookmaker most dependent upon FOBTs. The graph below shows the impact.

click to enlargeShare Price 2012 to March2014 William Hill Ladbrokes Paddy Power

The reason for Paddy Power’s performance over Ladbrokes and William Hill is explained by their relative low exposure to gaming machines as the exhibit below shows (which updates revenue and operating profit breakdowns for the three firms).

click to enlargeBookie's books YE2013

Analysts estimate that the FOBT tax increase could impact the profits of Ladbrokes and William Hill by £20 million and £16 million respectively (compared to 2013 net income of £67 million and £226 million respectively).

The budget increases are on top of the introduction of the online point of consumption (POC) tax of 15% due in the UK from December. The impact of this tax upon the online operations of bookies (and indeed upon Betfair) is unknown and something I will hopefully return to in the future. In its 2013 annual report, William Hill offered the following:

Taken together, the competitiveness of our digital offering and our healthy financial position leave us well positioned to tackle both opportunities and challenges created by the posited introduction of a Point of Consumption tax on UK online gambling in December 2014 which we believe is likely to result in a dislocation of the UK online gambling market given its likely impact on industry operating profit margins. While it will lead to a significant additional cost for the Group – of a size we consider impossible to mitigate in full in the short term – we do believe there is potential for larger scale operators to benefit from increased market share as smaller operators may be squeezed out of the market by the additional tax burden.

As can be seen from the above graphs, Ladbrokes looks like a business under real pressure. Its brand is strong but its business is far too reliant upon UK retail and gaming machines in particular. Many analysts favour William Hill due to its balance between retail & online and between sports & gaming.  Paddy Power’s 500% share price rise over the past 5 years has been muted in the past year due to industry headwinds and how they manoeuvre the POC issue will be fascinating (as it will be for other pure online bookies and the betting exchange BetFair).

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