Seth Love/iStock via Getty Images Everyone who knows and follows DraftKings ( DKNG ) stock knows that it has been absolutely crushed in recent months. We have had a very interesting history with this stock. Actually, our entire team owns it, except we all have a so-called “house position” as we were buyers sub-$20 back in 2020 , and then sold our entire initial investment plus significant profit and chose to let the rest run for eternity with the house’s money. That said, the stock has pulled back so much since that time. In our opinion, the stock is about to enter a buy zone as it fills its gap from about two years ago, falling heavily since its just reported earnings . In this column, we recommend a trade and discuss fundamental justifications and risks to owning the stock.
Take a look at the incredible rise, and fall, of the stock in the last two years: Chart showing DKNG history and BAD BEAT Investing trading zones (BAD BEAT Investing) As you can see, the stock had a solid rise in 2020-2021. Many individuals stuck at home turned to digital entertainment, including sports betting, even with sports not being played for a spell in 2020. That said, there were other competitions and e-sports that kept business going in 2020. As sports returned, there were even more interests in the company’s operations especially as more states legalized betting. After the immense pullback, we see shares as a buy as the gap to the mid teens is filled. The play
Target entry 1: $16.25-$17.00 (20% of position)
Target entry 2: $14.50-$15.25 (30% of position)
Target entry 3: $12.85-$13.50 (50% of position)
Target exit: $20-$22
Options consideration: Recommend selling front month contract OTM puts for income and to define entry with each 10% decline in the stock from present levels. DraftKings – A Discussion
DraftKings appears to be a stock in free fall, but the question our traders like to ask is “when does this actually become a buy?” Frankly, we believe the stock is overshooting to the downside and strongly believe traders will support the stock as it closes the chart gaps. When the stock was in the $60s-$70s, it was ahead of itself valuation wise, though when we bought it we saw it as being a potential $100 stock with the tech type market we saw as emerging. We did not get there quite obviously. However, the buyers will eventually emerge in part due to the stock closing the gap, and in part due to some of the fundamental strength the company is showing. There also are forward catalysts like legalization in new jurisdictions.
In the fourth quarter the company grew revenue 47% year-over-year to $473 million. This exceeded management’s prior guidance by 8%. Clearly the company is attracting new business. There are a lot of indicators you can watch, but we like to keep it simple. User growth and revenue per user. Well, monthly unique payers increased by 32% and average revenue per monthly unique payer grew by 19%.
Those are some strong numbers. But the company is not profitable, and that’s because it’s spending heavily and being extremely competitive with other companies to attract business. The number of promotions these companies have launched has weighed heavily on margin power. Income statement DraktKings 2021 (DraftKings Q4 2021 earnings presentation) A year-over-year, side-by-side comparison is shown above. As you can see revenue doubled for the year 2021 vs. 2020. However, look at the cost items right below it. The cost of revenue, sales and marketing spend, administrative costs, these were all up dramatically and led to a wider loss from operations. Simple gross profit margin however is 48%. As we get down the line we also see that there were adjustments made for some high stock based compensation (a dilutive impact on shareholders), as well as legal expenses, and we see adjusted EBITDA loss nearly doubled as well. This is why the market is throwing a fit over the stock. It does not care that the top line is growing like this anymore when profits continue to slip. It’s not unique to DraftKings. This is happening to every high revenue growth technology company.
So when will it be profitable? Well, the promotional activity is going to continue as new states open up for betting. We foresee promotional spend slowing in “legacy states” where betting has been allowed for some time. But in the conference call management stated: Overall, we expect DraftKings to be contribution profit positive for FY […]
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