eBet heading back to the future

The gaming systems group is set to boost cash flow as it refocuses on its core business.

If “cash is king”, gaming systems group eBet (EBT) is well placed to find strong support even after its stellar share price rally.

While net profit could dip or come in flat for 2013-14, the group’s cash flow is poised to jump 38% for the current financial year, before surging a further 87% to $7.9 million in 2014-15.

This leaves plenty of room for the stock to appreciate further even after its three-fold increase in value to $3.31 since I first recommended the stock as a “buy” back in June last year.

The flow of money from eBet’s business operations is significant to the valuation of the stock as discounted cash flow is one of the key ways we measure value. From that perspective, I believe eBet will need to run up another 30%-plus to reach fair value and this will be driven largely by eBet returning to its roots (which I’ll explain later in the article).

Graph for eBet heading back to the future

It seems that the market has gotten a better handle on what makes the group tick in recent months. It isn’t an easy model to understand due to differing state regulation on the gaming industry and the group’s changing product mix.

eBet was originally counting on sales of poker machines to hotels, bars and clubs to fuel growth. Management signed an exclusive agreement with US-based WMS industries to distribute WMS gaming machines in Australia.

However, the WMS machines have yet to gain material traction against leading brands here and the US company decided in February to take over the responsibility of selling the systems – leaving eBet to provide maintenance and other technical services.

The change in the sales agreement with WMS is likely to lead to a drop in revenue as machine sales contributed around 17% of total revenue in 2012-13 and will drop to zero by 2015-16.

It’s back to basics for eBet, which built its original business on backend management and networking systems for poker machines at gaming venues. This division has matured considerably over the past five years and looks poised to deliver double-digit growth in the coming years as eBet expands its reach in Queensland and Victoria.

The group’s stored value gaming card system, called CARD IT, could be the de facto standard in Queensland in the next 12 months because CARD IT is backward compatible with older poker machines that account for around 90% of the east coast market. Rival systems are not backward compatible.

The stored value card is an easier way for punters to transfer cash between gaming machines and to cash out winnings without the help of an attendant.

The group’s ability to cross-sell maintenance and monitoring contracts to venues adopting CARD IT gives eBet a distinct advantage over its peers, such as Max Gaming, and the group has recently received approval from the Victorian government to sell its products and services in that state.

It is this thinking that prompted eBet’s chief executive Tony Toohey, an entertainment and leisure industry veteran, to acquire business intelligence company CDOL earlier this year. The deal will allow eBet to offer a more complete suite of management solutions to gaming venue operators.

The company may still be considered a small cap stock that comes with “small cap” risks, but the main appeal of eBet as an investment is the group’s goal of building a business with a robust and reliable earnings stream that is generally insulated from the broader economic cycles.

But that will take a bit of time, and while cash flow is expected to grow strongly, one shouldn’t expect a generous dividend payout given the company needs the capital to fuel growth over the next two to three years.

I reiterate my “outperform” recommendation on the stock with a price target of $4.74 a share.

Click here to view eBet’s forecasts and financial summary, click here.

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