I’ve been wrong twice about DraftKings (NASDAQ:DKNG) stock. I may be again.
In June 2020, six months after DraftKings came public, I warned people to look out below. At the time the stock was at $42/share. It has since traded for as much as $72/share.
In January 2021 I suggested there was still time to get into DraftKings. The shares were at about $52. They opened for trade June 21 at about $47.50.
I am not the guy to go to if you want to time the market. I take management at their word, and I take audited financial results as gospel. My spidey sense today tells me DraftKings is in trouble.
DraftKings Trouble
The main reason I’m down on DraftKings is how they reacted to the stock’s initial success. They handed top management almost $750 million. Morgan Stanley (NYSE:MS) cried foul, saying this was unfair to small shareholders.
But there may have been a reason.
One possible reason emerged June 15, a report from short-sellers Hindenburg Research calling DraftKings a front for organized crime.
The problem, Hindenburg says, lies with SBTech, its “technology partner.” SBTech is a Bulgarian company, which is scary enough. But gambling exists in a technology netherworld, legal in some places and illegal elsewhere. The industry is constantly trying to clean out the mobsters. According to Hindenburg, DraftKings made them partners. Half of SBTech’s revenue comes from places where gambling is illegal, according to the report.
SBTech knew it needed to clean up its act to win on Wall Street. It created a new unit, BTi/CoreTech, and shuffled the dodgy business to it. But BTi/CoreTech is a subsidiary. All the illegal action is still flowing to the main company, and thus to DraftKings. The Hindenburg report says insiders have dumped $1.4 billion in stock since DraftKings came public, with the SBTech founder representing about a third of that.
Dirty Money, Clean Money
If half of DraftKing’s profit is ill-gotten booty, then its implied price to earnings multiple of 26 needs to be doubled. I only pay 52 times earnings if I see growth, and DraftKings has that. Revenues nearly doubled between 2019 and 2020. But look closer. March quarter revenue was $10 million short of December. General expenses are rising.
The initial reaction to the Hindenburg report was muted. DraftKings stock rose slightly on the day after the report came out. Actually, it fell nearly 10%, then recovered, after ARK Invest (NYSEARCA:ARKK), the ETF run by Cathie Woods, bought the dip.
Traders were impressed by this. I wasn’t. Woods has built her reputation on buying “disruptive technology” companies. DraftKings is certainly that. She had an obligation to buy on negative news, to maintain the stock’s place in her portfolio.
Her reasoning seems clear. DraftKings is a bet that legal online gaming is coming to the U.S., and it may be. States hit hard by the COVID-19 pandemic are desperate for cash. Sports gambling looks like an easy way to make up the gap. Over half of all U.S. states have passed laws allowing sports betting since the 2018 decision let all states in on the action.
DKNG Stock: The Bottom Line
Law firms are licking their chops over the Hindenburg report.
I’m more worried about prosecutors. They could say the victims of SBTech are in places like China and Iran, and it’s all beyond their jurisdiction. State gaming authorities, who have been fighting online crime for decades, also must weigh in. Legislatures may also slow their roll on online gaming in the wake of all this.
What it means is that buying DraftKings here is a gamble. The odds on it have shifted. I may well be wrong again, but I think it’s time to back away.
On the date of publication, Dana Blankenhorn did not have (either directly or indirectly) any positions in the securities mentioned in this article. The opinions expressed in this article are those of the writer, subject to the InvestorPlace.com Publishing Guidelines.
Dana Blankenhorn has been a financial and technology journalist since 1978. He is the author of Technology’s Big Bang: Yesterday, Today and Tomorrow with Moore’s Law, available at the Amazon Kindle store. Write him at danablankenhorn@gmail.com or tweet him at @danablankenhorn. He writes a Substack newsletter, Facing the Future, which covers technology, markets, and politics.