Jumbo pegged to expand offshore footprint: Macquarie initiates with Buy

Macquarie has initiated coverage on Jumbo Interactive (ASX: JIN) with a Buy and believes the $1.1bn internet gaming and lotteries reseller is poised to seek more value-add merger and acquisition opportunities.

The broker's price target of $20 was around 7% above the share price at the open this morning.

Everything being equal, the broker suspects new acquisitions will complement the company’s plans to diversify its earnings away from Australian lottery reselling. While the Australian lottery reselling businesses remain profitable, it has recently encountered higher Tabcorp Holdings Limited (ASX: TAH) service fees.

On top of higher Tabcorp service fees, higher marketing expenses, and a rise in employee expenses - to support its growth - prevented otherwise strong top line growth from fully flowing through to the bottom line at the half year.

Offshore expansion

To offset the company’s exposure to the local market margin pressure, Jumbo is planning to scale its managed services business – that manages lotteries for organisations such as charities, local authorities, schools or sports clubs - across the UK, Canada and Australia.

The total addressable market, of the charitable giving sector is said to be around $42bn.

Given that Jumbo only has a high single-digit share of this total addressable market, Macquarie believes there’s ample opportunity for this managed services unit to deliver future earnings that match the Australian reselling business over time.

11% compound annual growth

The magnitude of future M&A activity, adds Macquarie, could be substantial enough to support upgrades to consensus forecasts and the broker is predicting an 11% compound annual growth rate (CAGR) through to FY25.

Based on the broker’s best estimates, a $25m debt-funded managed services acquisition, based on between 5 and 7 times NPAT, could add up to $1.40 per share of value.

What happened at half year?

For the six months ended 31 December, Jumbo reported a 41% increase in total transaction value (TTV) to $327.9m and a 29% lift in revenue to $52.8m.

However, due to margin pressures, underlying earnings (EBITDA) only grew 18.2% to $28.3m and underlying NPAT grew 18.2% to $16.5m. Equally disappointing Jumbo’s underlying earnings (EBITDA) margin reduced by 5.3% points to 53.7%.

Commenting on the half year result, Jumbo’s CEO Mike Veverka noted that the company’s Powered By Jumbo software platform will be integral in supporting the global lottery industry’s move to digital.

“Our balance sheet remains strong and when combined with our new debt facility, provides additional headroom for further strategic growth.”