Evolution: Relentless

Evolution is a B2B supplier of Live Casino (“Live”) and Slot games to the online gambling industry. Live games allow gamblers to play online in real-time against a real person, making play exciting and colourful, while building engagement and trust.

But Live has substantial upfront and fixed costs as suppliers must spend tens of millions of dollars to construct studios, and then tens of millions more to hire and train hundreds of staff and dealers to run them. The high degree of operating leverage makes this lucrative for those who operate above capacity and painfully expensive for those who do not.

So far, Evolution has been in the former camp, thanks to its best-in-class Live game development and best-in-class execution. This creates a virtuous cycle: while competitors struggle, Evolution re-invests its profits into new games, better infrastructure, and more capacity to meet growing demand. As CEO Martin Carlesund emphasises on virtually every earnings call, “we will relentlessly strengthen our market share and continue to widen the gap to competitors.”

In my humble opinion, this virtuous cycle is good for the industry as a whole. Like TSMC does in semiconductors, Evolution aggregates the industry’s capital expenditure and R&D expense, developing new games which grow the market for everyone. And because its contracts are anchored on a revenue-sharing arrangement, Evolution does well when its clients do well.

Evolution is, therefore, in pole position to benefit as Live takes share within online gambling, and as online gambling itself takes share around the world from offline gambling.

But I’ve been reading a lot about competition, so I decided to fly to London to attend ICE 2023, a marquee convention for B2B gambling suppliers worldwide.

ICE 2023:

My first impression of ICE: wow! The convention was HUGE. The ExCeL centre in which it was held has an area of 100,000 m2 and was packed with more than 600 exhibitors. It was a tangible reminder of just how big the gambling industry is and how many suppliers compete within it, across seventy-plus verticals, including betting services, data analytics, digital wallets, fraud prevention and sports data.

Evolution AT ICE:

Evolution had one of the most prominent exhibits in the hall, in a prime corner near the subway, with two floors and an adjoining VIP lounge where staff could meet prospective customers. Space costs money, so this clearly showed the company’s budget and confidence.

On display were some of the new games Evolution will launch this year, including Funky Time (a disco-themed iteration of Crazy Time with even more multipliers) and Extra Chilli Epic Spins (the marriage of one of Big Time Gaming’s most popular Slots with a live host). There were also displays showcasing Live games for Asian and Latin American markets, as well as Slots from acquired companies Netent, Red Tiger, Big Time Gaming and NoLimit City.

Everyone emphasised the importance Evolution attaches to its new game pipeline. Hit games are critical to operators (Evolution’s clients) for customer acquisition, and hence where Evolution can best distinguish itself. I agree, as speaking with competitors, other features like studio capacity and stable infrastructure seem to have become table stakes.

Evolution is its own harshest critic, with one senior team member describing 2021’s slate of new games as a flop. 2022 was better thanks to Bac Bo (a marriage of baccarat and Sic bo), a sleeper hit in Asia. And 2023 will be a “safe year”, with Funky Time and Extra Chilli Epic Spins leveraging existing IP. An estimated one in ten UK gamblers has played the original Extra Chilli Slot, showing just how popular the franchise is.

Evolution’s scale is advantageous: it took a hundred staff eighteen months to develop, test and certify Funky Time. Could anyone else afford that? And without the experience of building Crazy Time first, would they even know how to build the next game better?

Besides, unlike its peers, Evolution can weather difficult years thanks to its portfolio of must-have proprietary games like Lightning Roulette and Lightning Blackjack, and game shows like Monopoly Big Baller and Crazy Time.

Evolution has spent a small fortune acquiring Slots providers but has yet to find success on par with its Live games. Evolution team members at the exhibit confirmed that the strategy is indeed to leverage Evolution’s existing customer relationships to cross-sell more products. But execution has proven difficult, particularly with back-end integration and onto Evolution’s new ‘One Stop Shop’ platform.

There is also much work to be done to get Slots from recently acquired companies licenced in all the jurisdictions in which Evolution operates. NoLimit City, for example, is only licenced with 4 of the 24 authorities with whom Evolution itself is licenced and is not licenced at all in the United States.

Evolution faced a steep learning curve in developing new Slots too. As one senior team member explained, there were a million things they didn’t know they didn’t know: how many numbers should be on a reel? How fast should those reels spin? Etc. They were also too quick to cut some games with small but loyal player followings as these have low marginal costs and are very effective for customer retention.

Another team member explained that the first Live game to use Slots IP, Gonzo’s Treasure Hunt, failed because its game mechanic was too complex and unintuitive. They will re-release it this year with new gameplay.

And some things were simply out of their control: NetEnt lost half its development pipeline when Russia’s invasion of Ukraine displaced a key team.

Evolution’s main exhibit was flanked by products from DigiWheel, a company Evolution acquired in 2021 which puts digital content onto dreamcatcher wheels. DigiWheel will allow Evolution to take the wheel-based content of its most popular game shows offline, extending its presence into land-based casinos. Its first customer is London’s Hippodrome Casino, where DigiWheel will launch later this month. And while DigiWheel may not ever contribute materially to profits, it will help reinforce the brand of Evolution’s games.

THE REST AT ICE:

How companies presented themselves spoke volumes about how they compete. Evolution’s exhibit focused exclusively on its new games. Its main competitors, Pragmatic Play and Playtech, had large exhibits too, but games were just one part of the bundle of services they offer. Neither competitor showcased new game launches, which was a surprising waste of this opportunity to make a splash.

Pragmatic’s focus is clearly on Slots, where it enjoys a commanding lobby share, according to data from SlotsCatalog. A team member at their exhibit told me their Slots look better than peers’, and the cadence of their Slots development pipeline is faster. She also said that Pragmatic works through a single API, making it much easier for operators to integrate. I couldn’t verify this with Evolution or others.

Pragmatic teased a Live version of its Snakes & Ladders Slot game but has not yet confirmed a launch date. Otherwise, Pragmatic’s Live games were not original and looked like copies of Evolution’s games.

Smaller Live suppliers without the same name recognition used all sorts of tactics to attract attention, including beautiful models, open bars, magic shows and handmade ice cream. When I asked these smaller suppliers how they would compete with Evolution, they emphasised price, flexibility and better customer service. For example, Redim Information Systems, an Indian company which offers gambling services and healthcare solutions, quoted a price of USD10k/month for a dedicated table at one of their live studios in Sri Lanka or Bangladesh - perhaps a third of what Evolution might charge. I question whether the savings are enough to compensate for less traffic.

There were two Chinese Live suppliers expanding from the Philippines into Europe. They have done well in their home market, but their on-screen data displays and “sexy games” (e.g. playing blackjack with a woman in a bikini) felt anachronistic. If this is Evolution’s competition in Asia, it’s no wonder it’s growing so fast.

Across exhibitors, everyone was excited about India, Latin America and Africa because they are blue oceans for growth. I hope Evolution will soon break out one of these geographies from its fast-growing ‘Rest of World’ segment. It’s a useful reminder too of how diversified Evolution’s business has become.

Finally, I was astonished by the number of crypto-casinos and crypto-payments companies in attendance. I know that crypto is mainstream now, but I never would have thought it would be allowed to play on centre court. Shouldn’t regulators be doing more to discourage such an obvious AML and KYC loophole?

Valuation:

Evolution’s stock has materially re-rated from the lows it hit in September last year, with its forward earnings multiple rising from ~16x to ~24x. But this is still well below its average since listing of ~30x and the all-time high of ~57x it hit in April 2021.

Wrapping it up:

Primary research is the best research, and I’m glad I attended ICE. I understand better now how crucial new game development is for Evolution, and how I should pay attention to the pipelines its rivals announce and deliver. This is how Evolution measures the gap between itself and the competition; and on this basis, Evolution is looking stronger than ever - in Live, at least. Of course, it remains to be seen when or if the company can put momentum behind its Slots. At least I better understand the challenges it faces.

Pragmatic seems to be the only competitor of note. Its portfolio is the inverse of Evolution’s: it is strong in Slots and decent in Live. But it is not standing still either. A key question is, therefore, will Pragmatic at some point be able to use a combination of its best-in-class Slots and good enough, copied Live games to pressure Evolution?

Disclosure: Longriver Investment Partners Limited manages the Longriver Partners Fund and separately managed accounts. These portfolios may hold or trade securities discussed in this article, and their holdings may change without notice.