Evolution: Continued strong growth, slightly higher cost pressure

Research Update

2022-11-01

07:45

Redeye updates on Evolution post Q3-results which came in stronger than expected driven by better than forecasted revenue growth while profitability was in line with expectations.

Hjalmar Ahlberg

Anton Hoof

Douglas Forsling

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Strong Q3-results

Evolution reported strong Q3-results with revenue coming in 5% above our estimates and EBITDA 4% higher than expected. On a regional basis, revenue was stronger than estimated in all markets except North America which came in slightly lower than expected. Overall, we slightly lift our growth expectations on the back of the stronger-than-expected growth.

Slightly higher cost inflation

While growth was stronger than expected profitability was in line with our estimates and although the company reiterated its margin guidance for 2022E the cost inflation looks to have become slightly higher. As such we have increased our cost assumptions going forward and we lower our EBITDA-margin forecast to 68% for 2023-24E (previous 69%).

Estimates increased 2%

In summary, we increase our sales estimates with 3% on the back of stronger growth while EBITDA is increased slightly less at 2% due to higher cost assumptions. Our valuation range is lowered somewhat however, as the increased estimates are counteracted by a slightly higher discount rate owing to higher risk-free rate. Our new base case stands at SEK1,500 (SEK1,600) and the new bull case us SEK2,400 (SEK2,500) while the bear case is unchanged at SEK1,100.

EURm	2020	2021	2022e	2023e	2024e
Revenues	561.4	1,068.8	1,450.8	1,801.9	2,159.3
Revenue Growth	53.6%	90.4%	35.7%	24.2%	19.8%
EBITDA	351.9	734.7	1,007.0	1,233.6	1,469.2
EBIT	319.4	654.1	908.0	1,098.4	1,307.3
EBIT Margin	56.9%	61.2%	62.6%	61.0%	60.5%
Net Income	284.9	605.5	852.3	1,010.5	1,189.6
EV/EBIT	45.8	40.5	21.9	17.6	14.3
EV/EBITDA	41.6	36.0	19.8	15.7	12.7

Growth outlook remains strong but slightly higher cost inflation

Evolution continues to report strong growth with 37% revenue increase in Q3 driven by solid performance in all geographic regions, albeit with slightly lower than expected growth in North America (57% vs our estimate of 60%). Asia saw stronger growth than expected and the growth deceleration slowed down in the region (growth of 67% in Q3 2022 vs 69% in Q2 2022). The company also grew strongly in Other markets where the company saw good growth in Latin American and Africa.

Coming to the growth per product, Live casino performed stronger than we expected (revenue of EUR310m vs our estimate of EUR293m) while RNG was slightly weaker than expected (EUR68m vs our estimate of EUR69m). Commenting on the performance of RNG, Evolution said that the segments pro-forma growth of 2% is not satisfactory while it reiterates the target to achieve double digit growth in the segment. The company expects growth to improve by better execution and quicker releases of new games.

While growth surprised positively in the report, profitability was in line with our expectations with an EBITDA-margin of 69%. The company also comments that it sees a slightly higher cost pressure although it reiterates the margin guidance of 69-71%. Looking into 2023E, the cost pressure can likely continue and as such we have taken a slightly more cautious view on profitability for 2023-24E where we now expect an EBITDA-margin of 68% (previously 69%).

All in all, we slightly increase our EBITDA-estimates with 2% as we have lifted our revenue forecasts with 3% which mitigates the lower margin assumptions. The tables below summarize key financials for 2020-224E.

Investment thesis

Case

Market leading platform company with long runway for growth

As the market leader in the online live casino supplier segment Evolution is well positioned for continued growth as the global casino market transitions from offline to online. The company has built a strong position by providing high-quality and innovative products which helps it to stay ahead of the competition. We expect Evolution to continue its growth journey driven by immature markets such as North America, Latin America and Asia while the more mature European market will see slower growth. Overall, we forecast average revenue growth of c. 20% over the next five years and around 15% in average over the next ten years. We expect profitability to remain stable yielding solid profit growth as well.

Evidence

Strong track record and large market opportunity

Evolution has a strong track record of growth and profitability. The company has increased revenue from EUR75m in 2015 when it was listed to around EUR1.4bn in 2022 which has largely been from organic growth. It has also increased profitability from an EBITDA-margin of 36% in 2015 to around 70% in 2022. The strong track record supports our view that the company should continue to capture growth from the ongoing transition from offline to online casino. The overall online gambling penetration is around 25% in 2022 with mature markets like Sweden and UK at around 50-60% implying a significant remaining growth potential for the total market.

Challenge

Emerging competition and regulatory risks

While Evolution remains the clear market leader in online live casino the competitors are gradually catching up. This could result in price pressure impacting growth negatively, however, Evolution has a strong brand among players which ensures that operators need to offer Evolution games or it might risk losing players to other operators. Another challenge is that Evolution also has a high share of revenue from non-regulated markets which creates a negative perception and could be a risk when they are regulated. However, we expect the share of regulated revenue to increase which should ease investor uncertainty and historically regulations have also typically been positive for Evolution.

Valuation

Base case DCF supported by strong growth and profitability

We find a base case valuation of SEK1,500 per share for Evolution which is derived from a DCF-valuation. The base case implies an EV/EBITDA multiple of 24x on our 2023E EBITDA while the share has historically traded in a range of 15x to 45x twelve months forward EBITDA. Our base case assumes average growth of around 20% over the next five years and a gradual decline over 2027-37E to a terminal growth of 2% by 2038E. We estimate a stable EBITDA-margin until 2027E whereafter we assume a gradual decline towards a terminal EBITDA-margin of 60% by 2038E.

Summary Redeye Ratings

The rating consists of three valuation keys, each consituting an overall assesment of several factors that are rated on a scale of 0 to 1 points. The maximum score for a valuation key is 5 points.

People: 5

We judge management and the board as very capable. They bring solid experience and impressive track records in the industry, where several of them have extensive experience. We view the company's communication as transparent and honest. The company has a strong ownership structure with the board, management and founders having significant ownership, creating strong alignment with minority owners and supporting long-term shareholder value. Furthermore, the company has several institutional owners which we view as positive.

Business: 4

Evolution Gaming has an impressive track record with a market-leading position and a wide revenue base with rapid growth in all markets. It has defensive moats in both technology and organization supporting pricing power and an impressive return on capital.

Financials: 5

Evolution Gaming has a strong cash position and very solid cash flow, which supports it taking M&A opportunities. The company has an impressive return on both equity and invested capital. We expect that it will maintain strong profit margins and EPS growth in the years to come. The company has increased its dividend rapidly without jeopardising its financial position or growth possibilities.

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