Tabcorp Holdings Limited (TAH) Earnings Call Transcript & Summary

Thank you for standing by. Welcome to the Tabcorp Holdings Limited Analyst Conference Call. [Operator Instructions] Please be advised that today's conference is being recorded. [Operator Instructions] I would now like to hand the conference over to your speaker today, Steven Gregg. Thank you. Please go ahead.

Thank you. Good morning, all. Steve Gregg here, Chairman of Tabcorp. I'm coming to you from Sydney, and I hope that wherever you may be dialing in from, you're managing the chance of COVID as it continues to be present. I'm going to spend the next 10, 15 minutes just walking through a presentation we lodged in the ASX this morning regarding the Board's intention to pursue a demerger of our Lotteries & Keno business. I'm then happy to open the floor for questions. If I may go to Slide 3, please, of the pack. 3 months ago, the Board announced late March, a strategic review, which took a very rigorous and broad-minded view of the structural and ownership options before us. This specifically relates to our Wagering & Media business and our Lotteries & Keno business. The Board has been evaluating for some time how we can best extract value from the market-leading assets we bought together through the Tabcorp-Tatts combination, specifically we owned [ K ] and Wagering & Media and Gaming Services businesses. As a result, the Board has resolved to pursue a demerger to create 2 market-leading entities, Lotteries & KenoCo and Wagering & GamingCo. That comprises our Wagering, our Media and our Gaming assets. We consider a demerger to be the best and fastest way to unlock value for shareholders. Now may I turn your attention, please, to Slide 4? These businesses will have distinct operating profiles, distinct strategies and growth opportunities. Lotteries & Keno is expected to be a significant business in the lottery category and benchmarks very strongly among us, its global peers. Its infrastructure-like qualities, flow of capital intensity and upside from continuing digital growth make an attractive investment proposition. If new merger is successfully executed, it is envisioned that I will be the chair of the Lotteries & Keno business, as Sue van der Merwe, who's currently the MD of the business, will assume the role as the CEO. Wagering & Gaming will operate some of Australia's best-known wagering and gaming brands, TAB, Sky Racing and MAX. It is a strong platform for organic growth supported by its domestic scale and diversified assets. My fellow director, Bruce Akhurst, has been designated to chair this business, and Adam Rytenskild who is currently our MD of Wagering & Media, will be the designated CEO. Sue and Adam are both highly capable industry specialists with deep knowledge in their respective businesses. They'll bring continuity and leadership and hope to maintain operational momentum as we go through the demerger process. In addition, each brings strong relationships with key stakeholders, who, of course, are critical to any transaction. The current Board and I will remain in place to oversee the successful implementation of demerger, and our CEO, David Attenborough, will continue to lead Tabcorp through the transaction completion, which we are targeting to be no later than the end of June '22. If I may turn your attention please to Slide 5, strategic review process and engagement with bidders. The Board has worked with the executive team and advisers over the last 3 months to conduct a very rigorous and comprehensive strategic review. Ultimately, we assessed 3 primary options, a demerger of either Lotteries & Keno or a demerger of Wagering & Media and Gaming Services or a sale of the Wagering & Media and Gaming Services or to, in fact, retain all businesses in the current combined group. As part of this, Tabcorp engaged with potential bidders for the Wagering & Media business. In the case of Entain and Apollo, meaningful interaction has taken place. Preliminary due diligence was conducted and both parties submitted proposals, confirming their previously indicated offer prices. The Board carefully considered these updated proposals, weighing up valuation, conditionality, time to completion, and very importantly, execution risk. We concluded the demerger of the Lotteries & Keno business is likely to realize significant value for shareholders with far less conditionality and far less execution risk. In the case of BetMakers, Tabcorp continued discussions in relation to potential commercial opportunities with them focusing on international markets. So may I please turn your attention to Slide 6? It's important to highlight that a divestment of the Wagering & Media business would have been subject to a number of hurdles, regulatory and competition approvals and approvals from the racing industry and other third parties. In particular, legislative change will be required to provisions of the New South Wales Totalizator Act to allow bidders to acquire more than 10% of the shares in our New South Wales Licensee, Tab Limited. The process for obtaining these approvals will be expected to take an extended period of time at unknown cost and with uncertain outcomes. This uncertainty was a significant factor in the Board's assessment of respective offers for our Wagering & Media business. Notwithstanding our decision to pursue the demerger, the Board remains very open to future engagement with bidders and considering alternative proposals. However, for a sale to be in the best interest of shareholders, any bidder will need to provide a combination of improved value, less conditionality and importantly, a reduced execution risk and delivered in our more acceptable time frame. If I can take you to Slide 7, please. As well as the potential for a market re-ratings, there are a range of operational and strategic benefits from creating 2 stand-alone businesses. A demerger realizes the fundamental difference between the 2 entities and allows a tailored approach to each, including their capital structures. It also allows shareholders [ retain ] exposure to potential upside from any future domestic or regulatory reform and international expansion in Wagering & Media. On Slide 8, we refer to the Tabcorp and Tatts merger effectively combining 6 complementary businesses into 3 larger and stronger operating divisions. We're now proposing to demerge one of those 3. Now the Tatts integration is complete, the foundations have been laid for both Lotteries & Keno and for our Wagering & Gaming business to deliver long-term growth. It's clear that Lotteries has thrived under Tabcorp's ownership, in addition to the integration of TAB and UBET has created a national wagering businesses stronger, customer proposition is now poised to deliver on its potential. On Slide 9, we've laid out some investment attributes of each business, which I'll go through later. And Slide 10 provides an overview of the key steps to completion by the end of June '22. The Board and management will now mobilize into a more detailed execution and planning so we can effect a smooth separation process. If I could please now take you to Slide 12 and we talk to implementation. And the intention is with demerger to be implemented by a court-approved scheme of arrangement, subject to receiving regulatory approvals and consents, including shareholder approval. We don't currently expect any impediments to obtain demerger rollover relief and we continue to engage with [ 8K ] on this, including seeking a class for everyone. Preliminary estimates of demerger costs are broadly in line with market precedents for a company of our size. One-off costs are expected to be between $225 million and $270 million and ongoing incremental costs between $40 million, $45 million per annum pre any mitigational costs. Most importantly, however, we expect the likely increase in incremental value from the demerger will materially exceed the impact of the separation costs. On Slide 13, we outline some of the key metrics of the demerger and these are on a pro forma basis. And even once they are separated, these businesses will still enjoy significant scale and reach the following Tatts merger. Slide 14, if I can take you there, please, provides an overview of the indicative capital structure and policies. Both businesses are expected to have strong balance sheets with sufficient headroom to fund business operations and growth opportunities. Lotteries & Keno business is targeting an investment-grade rating with a strong BBB band, and Wagering & Gaming, which won't be rated but is also targeting credit metrics consistent with an investment-grade profile. We have obtained preliminary agreement from our existing USPP noteholders for the full value of these notes to be allocated to Lotteries & Keno without requiring any make-whole payment. This is an outstanding result for the company. The remaining Tabcorp Group debt will be allocated between the 2 companies. Slides 16 to 23 share some more detail and profile of the 2 businesses. On Slide 16, Lotteries & Keno has infrastructure-like characteristics. It has high-quality cash flow and stable defensive earnings. And unlike certain infrastructure assets, Lotteries has a low capital intensity that adds to its appeal. It has a highly visible retail network, and a strong and growing digital distribution with the associated margin expansion. As a separate entity, Lotteries & Keno is likely to be able to have access to different category of investors. We don't have a mandate to invest in gambling assets but we'll work on the ability to invest in a pure-play lotteries business. On Slide 18, the engine room for this business will be the lotteries operation, driven by the nature and duration of the licenses it holds across Australia. Keno has performed strongly since the Tatts integration and has benefited from shared marketing and customer capability. And while a strategic review did consider making Keno part of Wagering & Gaming, we feel its strong momentum would best be maintained with Lotteries, which also provides a better operational fit. Also, states such as South Australia incorporate Lotteries & Keno into 1 license regime, making separation difficult. Lotteries & Keno has a well-diversified product portfolio with popular games that have broad appeal across different customer segments. Under Tabcorp's ownership, Lotteries' digital growth has accelerated, providing more exposure to highly valuable omnichannel customers. Finally, on Lotteries & Keno, initiatives to continue to grow the business are based around product innovation, optimizing its retail and digital distribution mix, exploring growth opportunities both domestically and abroad. The business has proven its ability to grow in both digital and retail, bringing products that can win in markets, such as the recent Powerball change. That's what Sue and her team will be building on. May I now please turn your attention to Slide 20 and the Wagering & GamingCo investment thesis. I mean the Wagering & Gaming company will have a powerful set of assets. The iconic TAB brand, long-dated licenses, a diversified channel model and one of the world's leading racing media businesses in Sky Racing. Its international business in the U.S. and Europe are well established and profitable. And Gaming Services is a business with reach into 85% of the national gaming market, with long-dated monitoring licenses that deliver recurring revenues. Adding Gaming & Services to Wagering Co provides additional scale at the time of separation. It'll also good operational reasons for Gaming to remain with Wagering, including the difficult shared relationships with license to venues. On Slide 21, we outline the shape of the new Wagering & GamingCo and underlines the strength and quality of its media and international business in addition to its gaming and wagering operations. Slide 22 refers to the reasons that Tabcorp and Tatts combination were brought together, having new bid as a single national business. The heavy lifting of this integration is now behind us. The business now has a strong platform to give the domestic market something to digital app only operators can't offer, and that is integrated experience across license venues, digital channels and racetracks under the significantly improved TAB brand. Investments in market-leading technology will enable more personalized experiences for customers, and that has been delivering incremental turnover. Similarly, investments made in Sky and the expansion to digital distribution have underpinned the recent growth. And the international business has been made stronger through the 100% ownership of PGI and by expanding the global export of our racing products. On Slide 23, please. Wagering & Media has a clear strategy to drive earnings and growth through innovation and digital penetration and stand to benefit from potential future structural reform and international expansion. Gaming Services is well advanced in executing its turnaround plan to simplify the business and remove operating costs. These initiatives in aggregate will set up a Wagering & GamingCo to be the domestic powerhouse and growth-driven global business. Finally, on Slide 25, please. In conclusion, now the Board is very enthusiastic about this demerger to create 2 highly profitable, highly cash-generative businesses both with very exciting futures. We are also very focused on ensuring a smooth separation process and setting each entity up for long-term success. We plan to provide further updates, full year results in August and at our AGM in October. I'd like to take the opportunity to thank you for the presentation. I'm now very happy to take your questions.

[Operator Instructions] Your first question comes from Matt Ryan from [indiscernible]

I just got a question on the execution risk that you highlighted with the offers. It sounds like the RDAs were a key sticking point from what you said a little bit earlier. So can you just give us a bit more color around that? And I guess, any industry approvals that are triggered in the changing control situation?

Matthew, Part of the reason we've gone down the path we have is, that there's virtually no approvals required to do the demerger. If it gone down the sale of Wagering & Media to a third party, as opposed to just leaving it where it is, demerging Lotteries & Keno out, but going down to a third party, we would had to get approvals from all the major racing entities, New South Wales, Victoria and Queensland and all the other racing bodies as well. We will had to -- got approval -- there would have been Entain, ACCC issues to work through. And of course, you're all aware of then, recent growth Totalizator Act, which in effect was fixed ownership in our New South Wales Licensee -- TAB licensee in New South Wales as well as a holding level to 10%. That's not to say that can't have been achieved. In our judgment, it just will take a long time to work through that. And what I was very keen to do was give a shareholder certainty in a certain time frame and to just re-mitigate, minimize the execution risk. So that's primarily reason we've gone down this path. Certainty, less execution risk and to maximize the value of these 2 entities [ train ] separately.

And then I guess just a follow-on from that. It sounds like that you're open to amended offers. So are you sort of asking the bidders to solve for that execution risk? And I guess, specifically, I'm talking about things like the New South Wales agreement before coming back to you. Are you sort of passing it on to, I guess, the bidders to solve for that issue?

Not really, Matt. I mean, I think in our judgment, these issues can be solved but it will take a long time. And I think it would require the bidders and us jointly to be going to all the stakeholders. This could take a considerable length of time. We are predominantly primarily, going down the demerger route. It's not a dual-track process. It is a demerger route. But in the spirit of always being open to offers and ideas for the shareholders, we will be happy to keep a dialogue going, if, in fact, the bidders can give us more certainty. Now how that works, I'm not quite sure. It's up to them to help us solve for them in a way. If not, the demerger remains the most preferable option here.

Okay. And just the last question, I guess, really just comes back to value because I guess, the choices that you've made today sort of suggests that you've come up with some form of internal valuation for the Wagering & Media division. I'm just curious at a high level, how you're seeing that business and the trajectory that it's on at the moment. And I guess, anything that you can sort of share in terms of maybe signs of any improvement that you think might be coming through over the next few years?

We're very -- we have a lot of confidence in our Wagering business, and it's been through -- there's been 2 things which have been really very at the forefront of this business the last 2 to 3 years. One is the integration with Tatts that has taken up a huge amount of bandwidth of the organization. We're now through that. And secondly, over the last 18 months as you're fully aware, we've had COVID to deal with. And of course, a lot of our licensed venues, a lot of our sporting events have been curtailed. And we've worked through that process successfully. Coming out of both of those, we would hope it has a very, very bright future. There's some structural reform that we hope we're going to get through with some more level playing field, the corporate book margins. There's also, we think, significant international opportunity that we would like to partake in. So Adam Rytenskild, who's been running the business now and who is well regarded by the stakeholders and the industries, is on top of it. And I'd like to think there's a very good future for Wagering & Media. Both of these businesses, by the way, are going be set up with investment-grade quality balance sheets and the ability to grow in the confines of being separated. So to answer your question, I think I'm very bullish on the company. Time will tell, of course, but I'm very, very confident we're on the right track here.

Your next question comes from Desmond Tsao from Goldman Sachs.

I guess the first question is just around the capital structure and the financing comments that you've made. Understand that, obviously, USPP is going to be allocated towards Lotteries. But just with the residual components of the debt, how are you guys thinking about allocating across the 2 demerged businesses? And have you had conversations with rating agencies and investors which, I guess, suggest that they are comfortable with Lotteries running at a far higher gearing level, given the quality of the earnings and the recurring nature of those earnings? And then an extension to that, I guess, like is there anything you can share around how investors could expect the payout ratios of the 2 demerged businesses going forward?

Sure. Thanks for the question. They are all good questions. Let me just work through, if I could, please. Yes, of course, we've had discussions with the rating agencies. And part of the reason, guys, it's taken 12 to 13 weeks to work through all our options here has been because we've had to deal with our USPP holders, and there have been 25 of them located in the States. And I must give huge commendation and compliment to our management and our advisers to work through and achieve a very successful outcome for the company and, therefore, for the shareholders. In that, if we were to go down the demerger route, we would have had to potentially had a make-whole on all these debt facilities that potentially could have been in the hundreds of millions of dollars. And the guys have mitigated that. So it doesn't occur. So there's a very minimal cost in keeping the USPP on foot but they will be put through to the Lotteries business. But it's a very good outcome for the shareholders there. With regard to the split of debt, yes, we have gone through that, and we will be allocating the remaining debt to both the companies. Wagering & Media and the Lotteries & Keno business will have different characteristics. The Lotteries business has a much higher headroom capability. And it will, even with the USPP in it, will have significant headroom above those levels to maintain its investment grade rating. The Wagering & Media will have a lower headroom level, but it has got significantly less debt and therefore, substantial headroom there to grow as well.

Great. And second question, just around some of those one-off costs and ongoing costs that you highlighted, particularly around the $40 million to $45 million ongoing cost. If you could maybe just, I guess, clarify the split between the 2 businesses as well going forward. And then also, I think you made some comments around unique actions to mitigate these costs. So anything on that front would be also very helpful.

Yes, good. One question I didn't answer for you by the way which was the payout ratios for both companies, and they will be worked through over the next few months. And the payout ratios will be probably different for each company, depending on their requirements and expectations and their cash flow requirements. But we would hope that both companies will have an attractive dividend policy. With regard to cost, $45 million, we are trying to be conservative here. And one of the challenges we have over the next 9 to 12 months is to see what mitigation we can put in place to reduce those on an ongoing basis. But obviously, when you separate companies out and you have 2 listed entities, there are costs that will be incurred there. So by the standard and the scale of the company we're talking about, these aren't unusual but we will be trying to minimize those.

Your next question comes from Rohan Sundram from MST Financial.

Steven, just a couple for me. Firstly, on the Gaming Services business. Has the Board formed a view that it's best to retain it or is there still a potential for a trade sale scenario for that one?

Thank you for the question and that's a good question as well. Look, as we highlighted to the market a few months ago, 6 months ago, we're doing a review on Gaming Services, and that has been complete. And there are a lot of action items on that business that we're currently undertaking. And we're seeing results, very positive results from that. And we just felt for the time being, it would be helpful to keep the business, add it to the Wagering & Media business to give it more scale and more optionality, and it'll be really up to the management of that business going forward how they wish to deal with Gaming Services. But I think it's worth noting that it's actually, in many respects, a very fine business and has enormous reach into the market. And so you may well find that, we keep that, but that will be a decision for the management going forward.

Sure. Are you able to say, if you had interest in that business outside of Apollo during the process?

We haven't actually run a process per se on Gaming Services, but there's always -- not always, there's, on occasion, people approaching us on the business, and we've been a little circumspect because we're going through the broader largest just, I guess, restructuring exercise we talked about now.

Your next question comes from Bradley Beckett from Credit Suisse.

Yes, it's Larry Gandler, Steven. Just calling in from another number. First question is with regards to the tax base in Wagering. As you consider those proposals, I'm just wondering if we, as investors and shareholders, could have an understanding for what the tax base might be in cases of capital gains on a divestment there versus considering a demerger, which comes with extra costs as well.

Thanks, Larry. Thanks for the question. I don't believe there's a huge tax issue on divestiture of Wagering & Media. It was more just a certainty and the stakeholder restrictions of getting it done. I don't believe tax was a driver there.

Okay, great. So that answers that question. And then my next question with regards to the $225 million to $275 million of one-off costs. Are those all cash or are there some write-downs and other charges in there?

Larry, they're predominantly cash. Certain write-downs were predominantly cash and they're predominantly related to IT and tech costs.

How so? What do you mean by IT and tech?

Well, the businesses are -- both businesses are very tech-driven and IT-driven. Trying to separate the business, it's going to result in quite a lot of cost there. That's the primary driver of the separation costs.

Okay. So it's not like a license charge to your IT suppliers or software suppliers, it's work to separate the businesses. Okay, understood.

That's right, that's right.

And last question. You mentioned the conversations with BetMakers was ongoing. It sounds like that conversation may more from an M&A situation into maybe a partnership to develop some growth avenue in the U.S. Is that the right interpretation? And if so, can you kind of maybe give us some color around that?

Yes. Thanks, Larry. It's a terrific question. Look, we formed a view that the broad offer they made for the business probably was not in the best interest of shareholders for a few reasons. But Matt is obviously a talented guy and BetMakers does have assets, some international assets that have good prospects as we do, too, by the way. And so rather than just say no, we're probably very creative and thoughtful about how we can engage with BetMakers and Matt to see if they're possible. And so we'll keep talking to them and see if there's something that can be done internationally, that could be a complement to what we're doing in the bigger game but could give us a growth avenue over there. So early days but we're not closing any of these doors.

Okay, excellent. Thank you for confirming that.

Your next question comes from Sacha Krien from Evans & Partners.

Steven, given you've gone down the demerger part, you must have a reasonable amount of confidence that the Wagering business is going to be able to compete effectively going forward. We saw some reasonable market share losses last year. I'm just wondering, first of all, if you can comment on whether or not you think some of those digital market share losses last year were COVID-related. And do you expect that to plateau or improve going forward under the new strategy?

Sacha, we would hope that we're going to maintain, if not gain, market share in digital. Now last year was a very unusual year, obviously, with COVID and all sorts of issues occurring related to that. Huge amount of efforts going into our digital offering from our app to our digital offering generally and all the generosity to go with that. So we would hope that it's going to do well. And we're very buoyant about the possibility of digital at the company. So yes, we're looking forward to that.

Okay. And maybe if you could comment on the structural reforms you're talking about. Can you sort of provide some clarity on what they are and whether discussions have commenced.

They are wide and varied. As you know, one of the things that we've got to deal with is being incumbent in the industry and having some very long-dated licenses and having the tax regime is different in each state to see if we can get some harmony there but also to see if we can put ourselves in a level playing field with corporate bookmakers. So to the extent that can be achieved through various structural changes and tax changes, we'll be pursuing that. At this stage, we are, in some ways [ batting ] against competitors that don't have those structural costs associated with the business being located in [indiscernible] corporate bookmakers. So it's up to us to have those discussions. We are having those discussions now. And would hope that as time goes on, that we'll see an outcome that's going to be satisfactory to the company.

Is the Victorian license renegotiation a potential catalyst for some change on that front?

We are talking to Victorian government at the moment. And yes, we would hope that we're going to make some progress there in certain areas. And I think down there, if I may say, I think the conversations are going well, very constructive. I think everybody understands what we're going to solve for. So let's hope something comes out with that, that's beneficial.

Yes, okay. And just a question on the synergies. Is that sort of the maximum level you'd expect because -- and when you look back at the cost synergies that you found from putting the 2 businesses together, I think they do add up to more than that in terms of taking the corporate costs. So you're confident you're going to be able to not have the same dissynergies coming out once you pull the businesses apart?

Different sort of synergies, I think, Sacha, so yes, hopefully, we have -- hopefully, we can. Time will tell. I think the next 9 to 12 months, by the way, we're not just staying still. I think a lot of work is going to be going on behind the scenes just try and get the cost down generally but also to mitigate costs going forward into 2 separate entities. Time will tell.

[Operator Instructions] Your next question comes from Bradley Beckett from Credit Suisse.

Sorry, just a follow-up question, Steve, from me, Larry. Can I confirm, did you say there's no additional make-wholes to move those PPs to the lottery business?

There'll be no make-wholes, Larry. There will be some costs under $10 million of costs, which predominantly are on work fees and legal fees and what-have-you but no make-whole.

There are no further questions at this time. I would like to hand the conference back to our speaker.

Thank you very much. Thank you, everybody, for your time today. I appreciate your attendance. This is a very momentous day for the company. I do believe we're going to be setting up 2 terrific companies well. They'll be well capitalized, great cash flow and profit generation, very good prospects. So I think it's a very exciting time to release some value but also get to focus on our 2 businesses. So we'll be working very hard over the next 9 to 12 months to ensure that a good outcome is achieved for both companies and the shareholders are brought along on this journey. So please, as always, questions to Chris Richardson and the team and David Attenborough and the team. And we thank you for your time. On that basis, I'll let you go. Thank you.

This concludes today's conference call. Thank you for participating. You may now disconnect.