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By Paul Leyland, Founding Partner, Regulus Partners
“If I knew what it was that we were doing, it would not be called research...” Albert Einstein
The gambling industry is becoming an increasingly complex and expensive one in which to operate. In land-based sectors, software and service-culture is replacing hardware and transactions. In remote, the pace of regulatory and technological change has never been faster. Customers are expecting more, while suppliers are being squeezed in an effort to share the burden and maximise returns. Across sectors and jurisdictions, all operators keep a wary eye on politicians, the regulator and the tax man.
There is an obvious (and sometimes effective) response to these trends: consolidation. Bwin joined with Party; Scientific Games bought WMS and Bally; GTECH acquired IGT; Amaya and Intertain have been highly acquisitive; and, now Ladbrokes is looking to merge with Coral. Between them these deals represent c. US$22bn (£14bn) of assets (potentially) changing hands.
With the Canadian-listed businesses the exception, a (the?) key reason for these deals is the capacity to deliver operating synergies. The list is common to all M&A: consolidating to one set of head office costs; combining central functions; stream-lining operations; increasing buying-power; cutting waste.
All of these things are good for the bottom-line and, if well executed (a big if), can also be good for the company and its customers. But cost synergies are a one-off and they often cost money to achieve (deal costs, finance costs, redundancies, contract renegotiations etc). They buy larger pre-exceptional profit, which markets like, and they buy time to adapt to changing situations, if used wisely (another big if).
I would flag two issues which concerns me about this direction of travel.
First, no-one likes to be a synergy. Deals cause huge disruption to businesses: from management time, to operating structures, to changing loyalties and motivations, to grass-roots morale. This disruption is often poorly understood by markets (it is hard to model in a spreadsheet) and often de-prioritized from a human perspective by senior management, which suddenly have a lot more ‘tangible’ issues to deal with. Given these pressures, M&A requires extremely high calibre management with a thoroughly thought through and well communicated plan, along with a competent and loyal core team. Otherwise, all the cost cutting and reorganisation will simply undermine long-term productivity and growth, leaving the whole worse off than the historical parts.
Second, cutting costs does not grow markets. Competition can grow markets. Innovation can grow markets. The two tend to be linked. Increasingly, customers have a wide choice of “brands”, but with a highly homogenised offer underneath (land-based and remote). Equally, operators have a very narrow range of large suppliers to choose from in each major product set. This is good for the short-term profits of the sector, but it is not good for growth. And in an environment where underlying costs are only going one way (tax, technology, regulation, upskilling), what is not good for growth is not good for long-term profitability.
To be a healthy sector, supporting growth and favourable regulation, the gambling sector needs to innovate. To do that successfully it must do six things that it has been historically poor at:
- Be prepared to spend money without the certainty of a return (or it isn’t real R&D)
- Be prepared to try things that may disrupt the status quo (even in a controlled way)
- Create proper test conditions and plan to learn (science, not hope and politics)
- Accept that the cumulative impact of small change can be just as powerful (if not more so) than searching for a silver bullet.
- Do not be afraid of failure: in the longer run failure is a lot more instructive to strategy than success (luck runs out far faster than relevant experience)
- Ensure the regulator and wider public is as behind the growth potential as possible (communicating, demonstrably acting responsibly)
All of these things are hard to do in a tough trading environment and within an ‘operator’ culture. However, such an environment simply makes growth and productivity more important. It is also much harder to do when the teams being relied upon are in constant fear of ‘big change’: equity markets might be motivated by synergies, people are not…