Tote sale

I haven't had the chance to blog for a while because I've been busy as one of the advisors to the Betfred team which is bidding for the Tote.

It's been full-on, particularly in the last week: a piece in the Financial Times last Friday led to the government lifting the restrictions we had from talking about our bid (until then we had been under an NDA), so we went public with the details of it on Tuesday morning. Since then, there's been a heck of a lot of to-ing and fro-ing in the media, with Betfred explaining their position, and the SIP bid of Sir Martin Broughton putting theirs in turn.

Most observers I have spoken to have commented on Racing having thrown their weight behind the SIP bid, and Fred Done was quoted as saying he was 'disappointed but not surprised' not to have won Racing over. I've been involved in the meetings with Racing's representatives, and for obvious reasons I don't propose to go into any of the detail of them. What I will say is that they've always been friendly to me personally, which you might argue is more than I should expect; and in the meetings they have listened and probed. Their second press release reiterated their support of SIP despite our best efforts, but at least it said that they respected Fred's bid.

I must say, though, that I personally remain baffled as to why anyone thinks the SIP bid is better for anyone other than SIP.  While the Betfred bid, entirely in hard cash, brings much-needed financing, stability and the opportunity to realise the real value of a Racing product which feels for years that it has suffered from underfunding, the SIP bid seems, to me at least, to consist mainly of smoke-and-mirror promises.

Consider the following points:

The SIP bid is underwritten by Private Equity, and all the promises that come from it are contingent on a successful float. SIP say that they want to value the business at £200million, which I believe would mean floating it at approximately 25x earnings. At the moment, the gambling sector as a whole trades on P/E ratios close to single figures: Ladbrokes are at 10x earnings, as are William Hill. On that basis, the chances of a successful IPO at 25x earnings seem pretty remote to me.

While people were in the dark about how unlikely a successful float would be, the SIP bid made great play about the fact that it was dependent on floatation rather than Private Equity money. Presumably, that was because they would obviously know that Private Equity bids are notoriously bad for job security (and they had gone out with the claim that their bid was better for jobs as one of their selling points). But with the prospects of a float seriously in doubt (for the reasons outlined above), the SIP bid may now become a Private Equity-backed bid. In other words, SIP have reversed their position. Sadly, Private Equity will not, in turn, have done the same: if it was notoriously bad for job security before, it still is.

The SIP bid claims to give more value to the Treasury as another of its selling points. As far as I can see, SIP has not actually yet published what its headline bid number is; but its logic here would appear to be based on the Treasury's receiving the full proceeds of its bid, rather than splitting them 50/50 with Racing. The trouble is that this would have to be a Treasury decision, not a SIP one. The net amount paid to Treasury by the two bidders will be the net proceeds of their respective bids, so with both bids having the same liabilities, the SIP bid will only be higher if its overall bid is higher. If that were the case, why hasn’t it just stated what its headline number is?

Despite the Private Equity underwriting, and despite the headline bid still apparently being lower (even with that Private Equity money), the SIP bid remains dependent on Racing giving up the Government’s offer of 50% of the net proceeds. To secure this key concession, the SIP bid has said it will give Racing two seats on the Tote Board and a minority (10%) stake in the business. Net proceeds from Fred’s bid are £57m, while 10% of a successful float at £200million (an expensive price, as outlined above)  is obviously £20million. Racing therefore appears to be giving up at least £37m in cash for two Board seats, and even that assumes the realisation of what is an unrealistic float.

Meanwhile, SIP has offered Racing £11m per year in perpetuity and Racing has criticised Fred for instead only offering funding for seven years. But the Tote's exclusive licence on courses only lasts for seven years: after that, anyone can set up a rival company and offer exclusive pools on racecourses. If half the courses in seven years' time were to pick another Tote provider, would the SIP consortium really continue to pay £11m for a on-course business that is half the size? It seems to me to be an impossible guarantee to make in perpetuity, in business terms.

SIP claims that its £11m a year going forward must be better than Betfred’s guarantee (which is £11m in the first year, and a commercial mechanism with a floor set at £9m for subsequent years). But, while £11m a year against £9m a year sounds self-evidently better, I don't think it's that simple: surely the numbers are meaningless without knowledge of the headline number. For example, Betfred have said their bid is close to £200m, so if we assume for these purposes that their bid is £194million and the SIP bid is £160m, the Betfred bid could add £4million a year for the six subsequent years (thereby lifting its £9m to £13m), take £24million off its headline (to leave it at £170million), and still be a better bid by £10million. So it is clear that without seeing the whole bid, we can't make any judgement on the £11m against the £9m. We might well not be comparing like with like.

Finally, the SIP bid is contingent on a transaction with Oakley and/or a successful floatation. It seems unlikely that either of these has been priced up (which may be part of the explanation for SIP’s reluctance to publish its headline value), and the guarantees to Racing ‘in perpetuity’ can surely be nothing of the sort, given that they are contingent on an event not in the control of the SIP bid. In contrast, everything in Fred’s bid, including the £120m to Racing, is guaranteed, because it is a cash payment backed by money lent by banks against the value of the enlarged Betfred business. Whatever happens, the money is locked in.

So it seems to me that the options are either a SIP bid for an unknown number, which is contingent on Racing’s leadership turning down £57million for something worth a maximum of £20million, the value of which is itself contingent on the successful floatation of a business which in turn relies on investors buying in at a valuation three times the industry average - despite the business having spent the last five years in decline, and not at this point having a management team in place; or a Betfred bid of £194million in cash.

What am I missing?