Evolution AB (publ) (EVO) Earnings Call Transcript & Summary

Yes. Just heading over to Evolution. So Evolution has attacked the allegation of illegal activity. And as this is one of your favorite topics as soon as the name of Evolution is dropped, I kind of leave the floor for you, Pierre.

Well, as a starting point, if you look at the share price of Evolution in the last 6 months, you could mistake it for an EKG graph. It looks like one of those heartbeats graphs which just goes up and down, up and down, up and down. And again, we've seen in the last couple of days, in the last week, the share price of Evolution have dropped 25%, which is not so fun to say, as a shareholder in the company, I must say. But nonetheless, it's interesting stuff that coming from there. I don't think that it has escaped anyone in this room, but just to summarize why this drop has occurred. It's because there was a short seller report that was released about a week ago that has been commissioned by an anonymous competitor to Evolution, which supposedly is American-based. And this short seller report essentially accuse us, Evolution, for offering games to black markets-based players like players from -- the report specifically mentions players from the likes of Syria and Iran, which are sanctioned countries by the U.S., and of course, the moment you mentioned -- the moment a report mentions that you are doing business with countries like Iran and Syria from American perspective, 15 red flags and red sirens goes off and shareholders get spooked, of course. So the major reaction to this report has been a drop in 25% so far of the share price. Just this morning, the markets opened 1.5 hours ago, and the share price is down 6.5% today and falling. So there's still -- we still have possibly not to reach the bottom of this barometer. And so -- okay, so then we look at the report, what does the accusation say? Well, in a nutshell, the report is about 100 pages long. And I've skimmed through it, the 100 pages. I haven't read every single word in their report. But essentially, what the accusations are is that these short sellers have basically conducted interviews with current and former Evolution executives. They are anonymous. So obviously, you don't know exactly to what extent they are telling the truth. But nonetheless, the short seller report is claiming that current and former Evolution employees are talking openly about how they are well aware that Evolution is taking players from these black markets. And how they are well aware, even though the traffic goes via the operator. And even though the players are using VPNs in order to access these operators, that Evolution is still aware that this foul play is happening through the operators, let's say. And what the operators -- I'm sorry, what Evolution has said themselves, they released a press release yesterday, which basically states that Evolution is basically putting the blame on the operator saying that we are a supplier. We are a content supplier. We produce games, and we offer those games to our operator clients. And then what the operators do is kind of up to them. They are expected to follow local regulation. But it's not Evolution who decides who plays games. It's the operators who decide if they take a player or not. So therefore, Evolution has no blame in the matter. Now you could argue that Evolution potentially have some ethical responsibility to ensure that the operators are not being nefarious like I think we all know operators who are nefarious who do operate on black market, many crypto casinos, obviously. And even though there's general knowledge, Evolution has still taken the decision to supply these operators with their games. So you could say about even if there is no -- even if Evolution is not broken the law, they could potentially still have some ethical dilemmas in order to answer the question if they should provide these operators with their games in the first place. So nonetheless, the markets have reacted extremely negative to this and I would be really excited to hear some opinions on this and what do you guys make of this in this chat. So I don't know, Carolina, if you have looked into this a bit further, if you have any thoughts.

Yes, consumers and definitely I've heard different opinions. I've heard opinions at this competition commissioning these reports and also quite uncertainty around which competitor because there are status for some that are in progress or being bought that maybe they should raise an evaluation or complete the other ones where the relationship has been problematic for a while. But I also heard that this is hedge funds aiming for short -- basically with that goal in mind. But on the actual statement of EVO. It's true when we work as an operator, it's very difficult from a game supplier to detect the country of a customer who's already KYC'd by an operator and is logging in by VPN. It's not impossible, but it's difficult. And I think there probably will be more measures in place from providers. But even in the past where Australia got shut down or kind of got shut down by some providers. They'll be blocking them, not just using the game launcher from an operator, but they also had their own recognition on their site to block the market. But I guess that's bypassed by VPN. So with the cases of players in Iran and those markets, I mean, as long as the player has opened the account somewhere else in a different territory, has gone through KYC and has made the deposit with a card that is registered not in that country, then it's very difficult to detect that. I can say it first hand myself because I'm sitting sometimes in Poland, where a lot of operators are not taking traffic, and I want to test some stuff. So it's enough that I use a [ Multis ] account of someone and I can log in from Poland using the easiest 10 quid a month VPN. So I do think that there is something in defense of EVO that they are not the operator that have been accepting these players, and it is difficult on their side to detect that manipulation. It's not sophisticated as they called it. I wouldn't call it sophisticated, but it's still difficult to detect. But I will see more being done in the rear from everyone because this is especially for listed companies. You've seen how the market reacted. It's a massive risk. So regardless of their statement and whether they're right or not, they look out on this. So hope we will recover, but it will be too risky for anyone else to afford not to have a mechanism that can somehow -- I don't know it's going to be done technologically, but someone pick up in those territories.

Interesting, Carolina. And Brian, if you read into the story, I would love to hear your thoughts as well considering that you are running against yourself, like -- do you have any sense, anything to chime in on the story?

Yes. Thanks. Welcome me to stage, Pierre, it's been a while. Yes, I think I kind of echo what Carolina is saying and the fact that as a supplier, you generally don't really get much access to what's going on from the players' context. So you kind of get a currency code and a language and that's pretty much where you're at. And with this world of VPNs and obfuscated servers and things like that, so it's reasonably easy for anyone who has any kind of technical knowledge to mess around and kind of cause problems for systems. I mean even in a more traditional sense, we've had things where we've had players kind of pinging and messing around with service to try to force and exploit and take down games and stuff just to see if they could break them and things like that. And that's just the nature of putting a product out on the Internet for anyone to have a go at essentially. So it's -- nothing is kind of foolproof. But then on the flip side, yes, you've got to be smart about who you're doing business with in general, right? It's not just this industry. So you've got to be pretty clear about the intentions of those partners and what they're planning to do. And then it all comes down to your risk appetite, which I think is a very, very common conversation in boardrooms these days about what is their risk appetite, where do they want to go, where do they not want to go? And that's a very hard balance to walk as well when you're in the B2B space. So it's not easy. I'll say that.

I get the feeling that many of the investors that have kind of jumped on board the Evolution train have done so with, let's say, a bit gullible eyes, where the expectation is that the revenue comes from legitimate and good sources, let's say. And even though we, as an industry know that some of the major operators and players are active in playing gray markets, perhaps the operator -- perhaps the investors are not that [indiscernible] and so they get spooked, of course, when they see a report like this which maybe to us as an industry, it's not just comes as a surprise. But when you are a $30 billion company, their responsibility to do the due diligence on who your partners are, becomes all of a sudden a lot higher. I guess that is a little bit where the question is. It's more an ESG question. It's more an ethical question rather than a legal one, perhaps. That's the feeling that I'm getting. Is anyone in the room who'd like to chime in on this as well. Nicol, I can see your flash in the back.

Yes. So although [ Hello ] Games where we have the Founder and CEO in the panel as well, is not yet valued EUR 30 billion or close to EUR 30 billion. But I'm pretty sure, Robert, you're quite familiar, of course, with the German regulation and the German regulators. They also want to take the games providers into liability as well. So what is your take or your risk appetite? Or what are your thoughts about the overall value chain and that this might be a paradigm shift as well? Give us your insights.

Hi Nicol, thank you. I think there's 2 topics. And it's about -- also about market power and size. So as Evolution, and it's mostly about the Live Casino. Evolution obviously knows if they pull out of certain markets, they should or should not be doing. Then they know there's 1 or 2 other companies moving in. And when you compare it to slots where you have 150 suppliers, that doesn't move up your competitors a lot if you move out of that certain market. So I'm sure that's also sort of -- that's an important consideration. And regarding Germany and Australia, similar and then what I'm hearing, and it's a rumor, meaning it's being discussed currently. And I was a little bit in shock at first when I heard it. But then I actually fell a little bit in [indiscernible]. When you talk about regulation, the first thing which comes to mind always is payment blocking and IP blocking. And we just know, as an industry, it's not very effective because IPs, you can change all the time, and there's all kinds of subdomains being launched in that market. And the payment company consists of 2 directors, 3 companies and 5 contracts basically. So payment companies are quickly created for a certain market. But suppliers, you can't just create on the spot. It takes you a long time to build up games, build up the name, build up integrations and so on. So what's being discussed currently in Germany is that hopefully, it's based on a black list, let's see, not on a white list. That would be charming if it's on a black list because then it's clear to everyone that there could be a list, black list or white list, let's hope it's a blacklist that you're not allowed to serve these types of customers. And I think there could be extremely effective regulation because content is king. And if players don't get any of the content they are used to. Two things happen. Number one, I think a lot of players will actually come to or are forced to play in the white market. And secondly, what I always felt about the black market is the sites look very professional. The sites act very professional, if you know like management and the teams behind them and also the games look very professional because they come from all the renowned suppliers. If now like 100, 150 game studios who adhere to all of these rules, which is likely in such a scenario because game suppliers are easier to grab, let's say, I mean, like you can't -- it's harder to hide behind Crusoe entities, let's say, because name is a name. And you shut down that supply and the operators typically would also adhere to this. So I think that's a very, very interesting path forward. If it happens in Germany. It happens in other countries. But in Germany, it could be a case where it's black and white. We have a black list and the suppliers have to -- are not allowed to serve these players and it could provide for -- I'm interested in your opinions on this, if this -- I think it's 1 or 2 regulations where this is similar. But at first, I was in shock, I'm like, okay, because now I have to be the police to a degree, which is just for supply. I have to understand who is illegal basically, which is very hard, let's call it fluid, regulation like in Germany. But if there's a blacklist, that will be quite an interesting concept, I think.

So, essentially, Robert, what you're saying is this black list would be a black list of operators that you can't...

Yes, yes, yes.

Exactly, exactly. So you would just need to follow that list. Yes, Carolina.

Sorry, maybe I'm going back to the subject of EVO quickly in those markets because someone sent me a message while we are on this chat saying, logically, EVO must have the right mechanism in place to block certain markets because if you are in the U.S. and you have to go state by state. How else are you able to secure -- ensure the regulators that you'll take traffic just from specific states. So this is just something I wanted to pass on someone who maybe didn't feel comfortable saying this themselves.

Well Lisa, I saw you were flashing the mic a bit. Anything to chime in on?

Yes. Looking at from an ESG sustainability point of view, I think this is a good thing for the industry. And it's because the market and the investors are telling us what they expect and what they expect us to do from an ESG point of view. They don't want companies that are in regulated markets to be operating in black markets, too. And I think this is a change of trend to more of an ESG focus. We have seen it as well. We've discussed the Hindenburg research with DraftKings and SBTech very similar. And it will probably be more cases in the U.S. seems to be much more focused on this than the European investors. And I think it's a good thing, sustainability-wise, to separate the unregulated focus and also the whole supplier and partner due diligence. I see that this is something that is the responsibility of the companies and probably regulation on this will be hard. I mean if you have to blacklist operators, operators change every day and regulation needs to keep up with that. So they probably will opt for something more of a protocol and have the responsibility at the companies like, for example, how we are responsible for our affiliate marketing. And we've seen it before in other industries as well like the whole clothing industry, what was it like nearly 10 years ago when we had these factories collapsing in India and people were working on the very bad labor circumstances for big brands like H&M. And there was more and more focus on like H&M site yes, but it's outsourced. It's the factories problem. And it isn't because it's now known that they are -- you need to know your supply chain. You need to know your supply chain before you and after you. And if you want to be an ethical company, then you need to work with suppliers that fit that. Otherwise, it will be seen like what we see now.

Yes, that is the interesting question, I think, is exactly what responsibility do Evolution had to due diligence on the operators that are supplying the game. So essentially, I think that's where the discussion will be held. Jake, I saw that you were flashing light. By the way, welcome Jake as well to the chat and welcome to -- I'll give you next slide, we're really exciting to have you on here on [indiscernible] today in the future. Would love to hear your thoughts on...

Yes. Thank you very much, Pierre. Just great to be here and nice to be in my first ever clubhouse. Yes, I think Elizabeth made some good points there, and it also goes back to something that you said earlier on, Pierre in that we sort of live and breathe the gaming industry every day, and it's quite important to really sort of take a step back because a lot of these investors have super diverse portfolios and gaming isn't a be-all and end-all for them. They see a stock like Evolution that has gone up and up and up, and it's a sort of clear market leader. And then all of a sudden, a report comes out with some frightening words in it, like U.S. sanctions and some countries listed that you might not necessarily associate regulated game with. And it does scare them and that sort of causes the sell-off and the drop off. And I think the same thing happened like you said, with the Hindenburg report, I mean that was common knowledge really throughout the industry if you've ever worked in it before. And I remember at the time, thinking, oh, yes, people are actually taken by surprise at this because it's the first time you learn that these companies that we're all familiar with, might be operating in some different markets to what they showcase to investors. And like Elizabeth said, it comes back to ESG now, and that is going to be a central pillar for how gaming stocks perform in the future?

Yes. Really interesting, Jake. And maybe it is a correction that we are seeing here now in an industry. And Lisa, perhaps you can chime in on this as well from ESG perspective. Again, maybe it's a correction here where Evolution will be more or less forced to take action here and start doing due diligence on their operator just like H&M where back in a day when before the markets reacted to the supply chain, they didn't have to do anything because it was business as usual. But once their investors understood what was happening kind of behind the scenes, then H&M were more or less forced to take action in order to work with more ethical suppliers, would say. What do you think is that we will see a shift in the industry as well where the industry needs to clean up its act so to say?

I think so. I think there's more of -- when we talk about the boardrooms, more of talk about what is the level of risk in needs where we want to take and what is the level of regulated versus gray versus black and are these even comparable nowadays to work in symmetry or you want to split your companies. But then again, they will look from who are the owners who are the founders and everything under those. It goes quite strong back when it comes to new regulation where you want to be involved. Yes, overall, I think ESG has been taken off. And companies maybe have not always taken it serious. And that's why I say this is a good thing because if we want to be companies that are regulated markets, we will focus on it. And it will be, in the end, a better thing for the industry because this stigma around the industry and the reputation will improve if we can prove like our ESG focus.

One step back in order to take 2 steps forward in other words. Now the question is -- the natural follow-up question from investors will be to ask Evolution just how much revenue comes from black markets. I mean it's not exactly something Evolution would like to disclose in their quarterly reports. But I would assume at least that investors are asking this question because if it is the case that Evolution will kind of have to start taking a step back from this black markets and potentially have to take a step away from certain various operators. Then again, the question becomes like how much revenue will they actually lose? And I would say that the expectation is that it could be a quite significant portion of the entire revenue. I don't know if anyone would like to chime in or have any kind of guesses or thoughts on what the revenue from Evolution's black markets could actually be, but I would assume that it's quite significant.

I want to just point -- quickly point out one thing. If you go to reports of Evolution, quarterly or yearly reports, there is a section that says Asia. And it's in the reports openly. So I am on the board of investors in the market being completely, completely dumb because Evolution is not hiding these things. They are publicly putting them out there. And the investors in the U.S. market really like jumped on it or it's a growing stock. And the actions that are being taken right now that I don't know who did them, but that they're obviously motivated to create some damage because if you run such a huge, huge operation as Evolution guys, then you cannot handle every single player that is trying to go around your systems that are set up as a macro system. So for the U.S., I understand it's well regulated, you set up separate servers, separate systems and you keep them in the state. But how you do this for Europe or like, let's say, dot.com, rest of the world, gray market, it's nearly impossible from technical point of view, and it requires a lot of personal investment, I mean, like from HR, a lot of people that needs to really sit there and do manual work. So on the explanation that Evolution put out there, I'm definitely on their side on this one because it was just an exercise showing, okay, we can go around your systems if we want to and if we put enough resources to do so.

Great. Great. Thanks. And I'd like to then over to Bernd Henning as well. It's nice to have you in the clubhouse chat here as well. Any comments, any thoughts from your end as well here on the Evolution topic?

Yes. It's difficult to say because I've been on both sides. And I know that in each contract, you have as an operator with a game supplier, there is a list of restricted countries and you have to sign markets. But as the previous speaker said, it's easy for customers to go around even if you declare that you don't allow them. So if they have a credit card from another country and even in Europe, we see at the moment that, especially in Germany, it's going to gray market. And it's difficult for a game supplier to control that. So as long as there is not a system worldwide, which controls money flow and other things, internet has no walls. So there will be always a way around. And you can just as a supplier make sure that your systems are as good as possible, but you can't blame them really. So if they are not going openly to someone and say, okay, yes, go for it, we don't mind. So which Evolution is not doing. It's difficult.

Difficult indeed. And as we have had this conversation, I can now say that Evolution is down 10.5% on the market only today, and this is 2 hours after the market has opened today. So it's an absolutely not so [indiscernible] on the market today for Evolution and I would assume that there is a lot of discussions happening in the boardroom as we speak, how to handle this conversation. And just to chime in so far just to go take a step back, Evolution released a statement, again, taking a step back from these accusations. And also in an investor call, Martin Carlesund, the CEO kind of reiterated was stated in this -- especially basically taking a step back from these accusations. But obviously, the investors are not pleased with this response. And since that statement, again, the shares keep falling. So I'm sure that this is not the loss that we have heard from the situation. And if this keeps -- if the shares keep falling, obviously, Evolution would be kind of forced to communicate more publicly on this situation and so on. So we'll follow this very closely, and I'm sure we'll follow up on this next week as well.