As investors we curiously observe and try to anticipate changes in consumer behavior, and try to predict the which companies are going to benefit and which ones will suffer under the change. One of the most significant secular shifts in consumer behavior is currently the rapid growth of E-Sports. 20 years ago, it would have been hard to convince anyone that a couple of nerds playing video games will fill entire arenas with enthusiastic fans. But the new reality is here, E-Sports events draw millions of viewers. The Fortnite World Cup 2019 has a prize pool of $100 million, yes you read that right. And there are several other games that sport prize pools of many million dollars. Estimates vary but there are currently between 250 million and 500m active e sports viewers, and the number is rapidly growing. The overall gaming market has generated $135 billion in revenue in 2018 according to newzoo.
Online games and interactions have become the social norm for children and many adults, online communities are a more central part of their lives. They play games with their friends and watch others play games online. Either live like on twitch.com, or in an on-demand video format like youtube.com, reading reviews, there are a ton of activities related to E-Sports young adults and teenagers are spending their time on.
We are a firm believer that the rise of E-Sports is undoubtedly one of the big secular consumer shifts of our time and it seems like we are only at the beginning of it. In many parts of Asia, for example in Korea, E-Sports is already more widely accepted.
Arena filled with E-Sports fans. Source: https://esportsobserver.com/esports-sponsorship-gemba-ceo/
How can I Invest in E-Sports
There are of course the behemoths of the stock market that are involved in a range of businesses and also E-Sports. We are thinking of companies like Alphabet Inc. (NASDAQ:GOOG), Tencent Holdings Limited (OOTC:TCEHY) or Amazon.Com, Inc. (NASDAQ:AMZN), which famously bought the popular streaming site Twitch.com for almost $1bn in cash in 2014. These are interesting, and Amazon certainly has with Twitch one of the gems of the industry, but these stocks are certainly not pure plays on the industry.
Big game developers like Take-Two Interactive Software, (NASDAQ:TTWO) or Activision Blizzard, Inc (NASDAQ:ATVI), Electronic Arts Inc. (NASDAQ:EA), or Netease, Inc. (NASDAQ:NTES) are interesting ways to participate in the industry. But these are already companies of substantial size and we like to find great companies when they are still small.
You can also choose in providers to the industry, for example microchip companies like Nvidia Corporation (NASDAQ:NVDA) or Advanced Micro Devices, Inc. (NASDAQ:AMD). At the same time, we do not have differentiated insights into the microchip industry at this point.
Investors seem to have understood that E-Sports is a rapidly growing industry, as evidenced by the high multiples we see in E-Sports related companies. At the same time, there are not too many public pure plays to find. Interestingly, the SPAC Black Ridge Acquisition Corp (BRAC) just recently announced its merger with an E-Sports company. We also came across Simplicity Esports And Gaming C (OOTC:WINR) and Super League Gaming, Inc. (NASDAQ:SLGG) as two early stage brick and mortar Esports arena companies.
When you start to look for smaller cap companies that are pure plays in E-Sports you will find that there are not too many attractive publicly traded companies out there.
We looked long for a small public company that is gaining traction in the space and found Enthusiast Games (EGLX.V), which is the main subject of this report. The company struck as a pure play on E-Sports, a small Canadian company in a prime position to capitalize on the continuing boom in the online gaming community.
Enthusiast Gaming – A Pure Play on The Online Gaming Community
Generally speaking, the company is a rollup of gaming-themed websites, with the main goal of acquiring websites with strong viewership and then working to actively monetize those users.
The Company has an online network of over 80 gaming related websites and over 900 YouTube channels reaching 150 million visitors. The company also owns Canada’s largest video game expo.
A Brief History
Enthusiast Gaming is led by founder and CEO Menashe Kestenbaum. He started originally as a gaming enthusiast and online blogger in the late 90s and early 2000s, sharing his gaming insights on online forums and websites. He created the enthusiast gaming websites himself, starting with Nintendo Enthusiast and later PlayStation and Xbox Enthusiast. He also created Enthusiasts gaming conference.
Enthusiast Gaming has been on an aggressive acquisition spree with 7 sizable acquisitions in 2018 and 3 in 2019 so far. In September 2018 Enthusiast Gaming went public through a reverse merger with Tova Ventures II Inc. At that time there were about 62 million fully diluted shares outstanding. It is clear that they are aiming to gain critical mass in terms of viewership.
In its brief history, the company has managed to acquire significant gaming assets. The general approach seems to be to do one third of the acquisition with cash, one third stock, and one third target based earn outs. EGLX then tries to maximize synergies by directing viewership in intelligent ways and optimizing advertisement revenue. The company monetizes the huge web traffic through the sale of digital adds.
Insiders hold a sizable interest in the business at around 20% of the outstanding shares on a fully diluted basis.
A Closer Look at the Assets
We drilled down into the assets of the company, which currently consist of gaming websites and the live event business.
The live event business is interesting, and has synergies with other areas in terms of branding, and it delivers a ton of content for the company. EGLX held two major live events in 2018, with combined attendees exceeding 50,000 people and over 1 million online viewers through various streams and websites. The big EGLX Live Expo is scheduled for October 18 -20, 2019 in Toronto and is one of the most anticipated live gaming events in 2019.
EGLX 2018. Source: https://www.dailyesports.gg/eglx-rising-stars-tournament-esports/
Our research concluded that the live event business in the gaming niche is nice, profitable and certainly has a lot of synergies with the network of gaming websites that are able to distribute content. EGLX has been able to position itself as a premier host for gaming conferences, and the EGLX Live 2019 is widely anticipated in the gaming community. At the same time, it is still an event business, not easily scalable and probably not able to sustain a high public market valuation on its own.
The network of websites and its viewership is where the real value is. The company itself describes in its May 2019 investor presentation that it has over 150m monthly visitors, and our due diligence on web traffic supports this number. Some of the company’s largest websites are the following:
The go-to site for custom content for all Sims games. The website generated $7m (all amounts in CAD from here on) in revenue in 2018 and was acquired for a $20m consideration in April 2019.
Founded as a video game focused blog in 2006, Destructoid is a popular site for gaming news, reviews, cheats, and other content.
A popular online magazine acquired by EGLX in July 2018.
Operationsports is a website dedicated to online sports gaming. EGLX acquired it in November 2018.
These are all extremely well-followed gaming websites that EGLX acquired within the last year or two. The websites are well followed, and not only show an active visitor base, but also a high frequency of gaming related content. Beyond these websites, EGLX owns several other gaming related websites, for a total monthly visitor base of 75 million visitors.
The Company’s acquisition of Omnia Media has also added the largest online gaming YouTube network to the company’s portfolio.
The Luminosity Deal could be Big
Last but not least, EGLX is currently in the process of acquiring Luminosity gaming. The transaction was first announced in May 2019, and includes the merger of EGLX into another Venture Exchange listed company called J55 which will acquire Luminosity Gaming immediately prior. The surviving entity will be renamed into Enthusiast Gaming Holdings Inc, and it will continue to trade on the Venture Exchange under EGLX. So effectively this is just another acquisition, but Luminosity is different than prior acquisitions.
Luminosity brings in approximately 50 million monthly viewers and one of the most well-known brands in e-sports. Luminosity has competitive teams in most of the big online games: Fortnite, Counter Strike, Call of Duty, Madden, you name it. Luminosity also currently manages the Vancouver Titans, a professional e-sports team located in Toronto that competes in the overwatch league.
Luminosity Gaming Logo. Source: en.wikipedia.org
The combined company will have run rate revenue of $22 million in pro forma revenue and $36 million in cash on closing of the merger and reach a global audience of approximately 200 million gamers on a monthly basis. Luminosity generated revenue of approximately $3.9 million in 2018, but we believe there is a ton of upside to monetizing that content.
We see big potential synergies in this acquisition. Enthusiast’s distribution network should be able to push the monetization, reach, and brand equity of Luminosity and increase the average value per viewer. According to the terms of the transactions there will be roughly 670 million shares outstanding on a fully diluted basis, which is a little high for our taste. We believe it would be beneficial to the company to look into a potential reverse stock split at this point
In aggregate, EGLX holds one of the most popular gaming platforms out there. Getting a firm grip on valuation at this early point in the company’s history is hard. Frankly, a lot of the value will come down the managements ability to execute smart accretive acquisitions in a rapidly developing space. Keeping the capital structure as clean as possible should be a key objective.
It’s hard to gauge comparable value/visitor in the space, but it’s definitely very high. Twitch was acquired by Amazon in 2014 for $1b, while at the time it had only ~50 million monthly-average-users (MAUs) and ~250 million monthly visitors. That’s a valuation of $20/MAU and $4/visitor. Obviously, this isn’t an exact comp – Twitch was growing triple digits yoy at the time, and its user base is probably spending more on twitch. However, this does show the value-creation possible if EGLX can effectively monetize just its existing websites. One aspect that is certainly in favor of EGLX is the fact that it gets about 26 views on average from each visitor. This goes to show an engaged audience, and compares favorably to other gaming websites that average about 12 views per visitor, and even twitch which averages 21 views per visitor.
This goes to show that EGLX could potentially see a huge valuation solely based on their viewer base.
Source: EGLX Investor Presentation May 2019
Just from a financial perspective we are looking at a company that has generated $2m in advertisement revenue in the first quarter of 2019 and that was prior to a couple of sizable acquisitions. The company held no live events in that quarter and generated almost $3.6m in the fourth quarter 2018.
Enthusiast states that pro forma revenue of the combined company after the Luminosity acquisition would be $22 million with a fully diluted share count of 670 million. Each current EGLX share will be exchanged for 4.22 shares of the future Enthusiast if the transaction happens. The vote is set for end August. The pro forma revenue translates to an implied Price/Sales multiple of 11 at a current price of $1.50. This does not strike us as an unreasonably high valuation and if anything on the cheap side for a growing company in a hot space.
Again, we believe a lot comes down to management’s ability to execute. Make no mistake about, this is not a value investment, but a growth investment in a young company in a rapidly growing space. At the same time, it is clear to us that there is huge upside if the company executes well.
We are bullish on EGLX and believe that it is an overlooked gem in the Canadian microcap space. With continued growth, the company will not only gain critical mass on the operational side, but also attract a bigger group of potential investors – this is one of the beauties of investing in growing microcaps with solid businesses.
We will monitor the company’s progress on monetizing its users effectively and increase the value it generates from their viewership base. We are curious to see how management handles the balance between acquisitions and dilution.
Another aspect makes us believe that EGLX’s Price/Viewer multiple can trend more towards the high numbers we see with comps like Reddit, Twitch, or Discord. EGLX is transition into more than just popular websites, but it becomes more of a platform. A platform for content creators, professional players, and other websites to monetize. The better EGLX gets at monetizing the more attractive it becomes to join their platform.