XLMedia for cheap growth

Online gambling operators are investing heavily in internet advertising to attract players and using a network of affiliates to promote their offerings. Indeed the industry's marketing spending is predicted to grow 9 per cent annually up to 2018. XLMedia's high-margin content and search engine optimisation (SEO) division, which drives nearly 60 per cent of its revenues, draws visitors to its 2,000-plus websites in 17 languages then sends the traffic to its customers. It also uses data analysis to maximise the revenue generated, which helped it grow sales by a quarter to $19m last year. The remainder of XLMedia's sales come from placing ads online and managing more than 300 affiliates that direct players to its customers - which also gives it greater clout in negotiations.

The group also has a history of profitable growth. Its revenues and cash profits grew at compounded annual rates of 61 and 78 per cent respectively between 2009 and 2012, and group sales rose nearly a third last year. Looking forward, it expects first-half sales growth of at least 22 per cent, while broker Cenkos forecasts cash profits to climb 13 per cent this year and 20 per cent in 2015, from $13.3m to $15m, then $18m in 2015.

XLMedia has also earmarked $48m in listing proceeds to fund expansion and acquisitions. It has already agreed to buy a US poker website, a Scandinavian website network and a UK sports betting website. The latter adds a new pool of players to its casino-focused network and augments its presence in the mature, regulated UK market. Cenkos expects acquisitions to generate $1m in revenue this year and $2m next year.

It also expects to benefit from the accelerating legalisation of online gambling in the US, as other states follow New Jersey and Nevada. This is potentially a massive new market, which is slated to grow on average by 67 per cent a year for at least the next four years. Although XLMedia's focus has historically been on Scandinavia and European nations, it is already driving traffic to American operators and has partnered with 888.com and Caesars in New Jersey. Another tailwind is the proposed 'point of consumption' tax of 15 per cent on UK gamblers, which has spurred gambling companies to ramp up their marketing spend as they race to attract more customers.

XLMedia's shares aren't too pricy either, having halved in value from May to August. Based on Cenkos's forecasts, they are priced at a 2014 enterprise-value-to-cash-profits (EV/EBITDA) ratio of 8.4 times compared with a range of 5 to 18 times for European online gaming operators. Given the growth potential that looks low, and the policy to pay out at least half earnings as dividends means an attractive 2.7 per cent yield is forecast this year rising to 3.3 per cent in 2015. Moreover, further acquisitions and US growth provide the potential for major forecast upgrades. And there's no reason XLMedia can't diversify into markets such as foreign exchange and spreadbetting.

Investors should note that XLMedia's model is largely performance based, with about 70 per cent of last year's revenues stemming from revenue share agreements. But that aligns its interests with operators, improves revenue visibility and helps to lower customer churn.

It also relies on a handful of customers – its biggest three contributed 47 per cent of its revenues last year. And it's vulnerable to regulatory changes, such as restrictions on gaming operators and new taxes and laws.