Web betting boom could spell worldwide wins

Take a look at the form, and if you like the odds, take a punt, says Jenne Mannion

The forthcoming World Cup is set to give a huge boost to all sectors of the UK gambling industry, which is already growing at 3 per cent a year. But even without this fillip, investment professionals are identifying opportunities in booming internet gambling companies such as PartyGaming, Betandwin, 888 and Sportingbet.

Although the share-price performance of internet gambling stocks has gone up and down of late, the margins remain solid. In 2005, PartyGaming, Sportingbet and 888 all grew their earnings per share by 50 per cent or more. According to the investment bank Dresdner Kleinwort Wasserstein, at least 20 per cent growth is forecast for 2006.

Sceptics believe that internet gambling is largely a fad, but Simon Murphy, the manager of the M&G UK Growth fund, has a large holding in Sportingbet, and is confident the industry will continue to grow. Internet gambling accounts for only 4 to 5 per cent of the industry worldwide, yet he believes that, thanks to broadband, this is set to grow to around 10 per cent.

A cloud hangs over internet gambling firms, however. They have a big US customer base, and factions in the Government are trying to stamp them out, though the latest attempt to change US law to crack down on American punters was thwarted this week .

James Ridgewell is the manager of New Star's UK Special Situations fund, almost 7 per cent of which is dedicated to internet gambling stocks. He sees the regulatory risk in the US as anopportunity, because investors have shied away from these stocks, creating cheap valuations.

"Because of the perceived risk, there have been few new entrants to the market," he says. "Existing players have been able to build up their client base in an industry where companies benefit from the first-mover advantage."

He points to Betonsports, which, alongside Sportingbet and 888, is one of the companies that he holds. Betonsports is trading on a price-earnings ratio of nine times for 2007, but has a high yield of 4.2 per cent and earnings per share growth of 46 per cent. He believes that the US anti-internet gambling factions will not succeed.

Andrew Lee, a research analyst at Dresdner Kleinwort Wasserstein, agrees. His firm has ranked PartyGaming and Sportingbet as a buy, and 888 as a hold.

But these stocks will get a bumpy ride as regulatory pressures mount. In March, the shares of PartyGaming, 888 and Sportingbet were hit by up to 9 per cent in early trading after the approval of a US bill to ban the use of credit cards, cheques and electronic fund transfers for internet gambling, losses that were, however, quickly reversed.

Not everyone is so confident. Andy Brough, the manager of the Schroder UK Mid 250 Fund, does not hold any internet-gambling stocks and believes that the high operating margins are unsustainable in the long term. Barriers to entry are also low, he adds - it only costs about £30,000 to buy a fully operational poker site. "There is already evidence of margin pressure. For example, many companies are offering sign-up bonuses and loyalty bonuses in a bid to be competitive," he says.

In terms of traditional casinos, the picture is certainly rosier after the Gambling Deregulation Bill was passed last year. An important facet of the Bill was the dropping of a rule stating that casino users had to become members at least 24 hours before they visited the premises. Under deregulation, casino owners will also be able to promote themselves through advertising from the end of 2006.

Simon Murphy, who holds Stanley Leisure and London Clubs International in his fund, is optimistic.

Before the the removal of the 24-hour rule in October last year, it was estimated that only 2.7 per cent of adults had visited a casino. Now any adult can visit one. "It will become commonplace to end up at a casino on stag nights, or after football and clubbing. Although these visitors would spend less per head than hardcore gamblers, it will not cost the casino any more to attract such new business," Murphy says. One advantage for existing casinos is that, from this month, the rights to build new casinos under a 1968 Act will be lost.

But it is not all good news. London Clubs International has announced that profits would be flat this year (it blames a slump in visitors after last summer's attacks on London), and it suffered from a low win percentage, while some unpaid debts remained outstanding.

Murphy believes that these developments will not seriously affect the group's longer-term fortunes, though, as they relate to the group's most exclusive club, Les Ambassadeurs (which is to be sold).

Meanwhile, back on the high street...

* Traditional high street bookies are still providing investors with good opportunities.

* These companies suffer when several favourites come to fruition, which means that they must pay out big sums, leading to a profits warning and consequently a fall in the share price. For instance, William Hill issued lower full-year profits this year after too many winning favourites came in.

* James Ridgewell, the manager of New Star's UK Special Situations fund, cites Ladbrokes, which he describes as being valued very cheaply, as one of his long-term holdings. Ridgewell expects that Ladbrokes could be the subject of a takeover or that the business will recover.

* "When this happens, the share price falls back and it provides a good chance to buy shares cheap," Ridgewell says. "There may be a profits warning, but the company ultimately recovers and the share price responds."

* Certainly, with the upcoming World Cup, the bookies can be confident about a surge in business amid the flurry of excitement surrounding the event.

* Simon Murphy, the manager of the M&G UK Growth fund, says: "The fact that the World Cup is being hosted in Europe and that the England team is one of the favourites will also help boost interest. There will be an increase in the numbers of people placing bets. This is the case with all major sporting events, and the World Cup will be no exception."