It’s called legislative risk and it is often credited as the reason that casino stocks sell at valuations below those of other hospitality and entertainment industries.
That risk—the threat that legislatures will damage the profit prospects of companies through high taxes or restrictions on business operations—has finally hit online sports betting stocks.
The catalyst was the decision by the Illinois Senate to raise the tax on sports betting revenues from 15 percent to as high as 40 percent. Because this would be a graduated tax with the top rate kicking in only on revenues over $200 million, the impact is not as bad as the headline might suggest. DraftKings may see a 3 percent EBITDA impact and Flutter Entertainment could see somewhat less, as its FanDuel is a smaller part of its operation. Other operators might be hit by 1 percent or so.
Further, companies were quick to point out that they could make spending adjustments and might, over the long-term, profit handsomely from digital anyway, if more states decide to seek revenues by adding iGaming to online sports betting, or in states yet to go digital, to legalize one or both.
Still, the effective tax rate amounts to 32 percent for the most recent trailing 12 months, making Illinois the third-highest tax rate after Pennsylvania’s 36 percent and New York’s 51 percent, analyst Jeffrey Stantial of Stifel calculated.
That, and more so the fear that other states will hike taxes, caused a big sell-off, with DraftKings down over 10 percent and Flutter nearly 8 percent on the day after the Senate’s action.
As of this writing, the tax raise could still be moderated by the Illinois House but that may be beside the point now as investors have been spooked by the reality of legislative risk.
We have long warned about legislative risk, though less from the tax perspective than from what we continue to see as possible restrictions intended to address problem gambling.
To date, the headlines that could motivate legislatures to tighten rules on sports betting and digital gambling have been scattered—a few Iowa college athletes betting on sports and baseball superstar Shohei Ohtani having millions of dollars stolen by his trusted translator to satisfy gambling debts, for example.
But we have yet to see the inevitable—a legislator in some state succeeding in passing severe restrictions by using the perhaps tragic stories of youths fallen prey to gambling and families in financial ruin because of Dad’s or some other family member’s addiction.
Of course, some gaming companies are touting their anti-problem gambling programs and others are appealing for regulations not so strict that they would drive gamblers to what they term unscrupulous and unlicensed operators.
But once a state enacts tough restrictions, legislators in other states will notice and follow. That’s the way of the legislative world.
As an aside, one reform we would recommend is to ban sports betting advertisements during live game telecasts. There’s nothing like an attractive young woman appealing to viewers to place an exciting bet while junior is watching the game with Dad to set the kind of bad example that will fire up legislative righteousness.
None of this means that the right balances won’t be found in taxation and/or regulation. With billions of dollars involved among powerful media companies and now sports franchises worth billions of dollars, and with the online betting genie out of the bottle, practical solutions will be found.
But it is a reminder that while sports betting and online gaming will remain growth industries for some time, their valuations probably should come down closer to those of their brick-and-mortar cousins.
