Paul Leyland, Regulus Partners
Germany publishes its monthly tax yields for sports betting (omnichannel) and online gaming. We can therefore calculate with some accuracy how the market has developed since re-regulation in H2 2021 and especially a relatively ‘normal’ Q4. As is so often the case, a critical mass of consumers is proving resilient to bad regulation, which creates a dangerous trap for all stakeholders, in our view.
The German domestically regulated sportsbetting market recovered in turnover terms in 2021 from the Covid-19 policy related problems of 2020. Indeed, Q421 vs. Q419 registered a modest but respectable 4% growth, despite being impacted by high value customer spending limits and restrictions to in-play markets. Within this, the online market is already dominant, accounting for c. 60% of underlying domestically regulated activity – not dissimilar to the heavily digitally adopted UK (65%) and Danish (67%) markets. If relatively low underlying growth continues, further digital adoption may now start to pressure a previously resilient retail market, as it has done in UK and Denmark, the cash-based nature of the German retail economy notwithstanding. However, there is an important potential mitigation to this trend occurring in Germany: overall German betting growth can still be driven by increased adoption, given that domestically regulated betting is only c. €20 per capita (normalised for Covid policy disruption) vs. €66 in the UK and €53 in Denmark. However, growing an entire category is more challenging than shifting channel. The big question for German betting companies going forward therefore is to what extent they can grow sportsbetting in Germany as a mass market consumer activity beyond the existing niche, without falling foul of strict regulations and distrustful politicians.
Germany has always been a much bigger gaming than betting market, especially among ethnic Germans vs. more betting-led ethnic minorities (eg, people of Turkish descent, who account for c. 5-8% of the German population). Before Covid policy disruptions, Germany had a €5.5bn revenue machine gaming market and a €0.9bn casino market, giving a combined spend per head of €77, which compares to €56 in the UK and €40 in Denmark. In other words, Germany under-indexes in omnichannel betting revenue per capita to roughly the same value as it over-indexes in landbased gaming: overall spend is directly comparable for Denmark (€92 vs. €94) and ‘only’ 25% behind the UK, not the 70% gap just betting provides. German customers do not like gambling materially less than in other markets, they just do it differently. Further, comparing omnichannel betting to retail gaming is more logical than may first be apparent, because while online betting has already become relatively mass adopted in many jurisdictions (as a proportion of total customers engaged with the product), this is not the case for gaming in any. The first consumer-driven risk to the large German retail gaming market is therefore that an increasing number of young and middle-aged male customers especially become multi-product and omnichannel gamblers, reducing their expenditure in gaming halls. Covid policy responses are likely to have accelerated digital adoption in these cohorts already.
The second risk is from domestically regulated online gaming itself. The Federal online slots and poker market has started rather better than many (including us) expected, suggesting a much higher level of player channelling into low staking (€1 max) c. 90% payout products (driven by 5.3% turnover tax) vs. the c. 96% unlimited staking products they had become used to. The online poker market is now at a run-rate revenue of c. €100m while the slots market is an impressive c. €800m, assuming 20% taxed bonuses on GGR and a 10% gross margin on slots turnover. In revenue terms, the German online poker market is therefore roughly the same size as the UK, while the online slots market is already roughly the same size as Italy’s (slots only: net of bonuses, excluding table games). Obviously paying over 50% tax for the privilege of servicing this market, without the hype of New York to sweeten the pill, makes the economics nowhere near as attractive as the UK or Italy. However, there is precedent with Pennsylvania’s 56% slots tax rate and France’s c. 50% revenue taxes for sports betting and poker for making the revenue cost work if enough players are prepared to accept the less attractive payouts also built into the German system (which are not present in PA). Early indications suggests that many are, at least for now.
The German slots market has therefore commenced at a very dangerous commercial size and return structure, in our view. The Federal government is now making c. €540m per annum in tax from domestically regulated online slots, which implies the market would have to double to justify a more liberal regulatory and tax regime (say 25% GGR) to cover the direct fiscal hit of lower taxes. This is a tough sell given the government is likely to like tax and dislike gaming revenue expansion; for the basic lobbying position to work, far more customers would have had to fail to adopt the regulated product. Now lobbying will need to shift into the more nuanced issues of black-market leakage (which is still likely c. double the regulated market across all products) and the counter-productive dangers of making a potentially addictive consumer product more expensive through tax, when the main harm is caused by over-consumption is financial. These are far more complex drivers to explain, which the industry has historically failed effectively to land.
The domestically regulated online gaming market has started at 14% of the size of the existing pre-Covid landbased gaming market, or 12% of total domestic slots revenue. This figure is relatively easy to ignore now but it could become a big problem if it grows, as it almost certainly will. As a more channel-shifted comparison, in Britain and Denmark 45% of slots revenue is now generated online, while overall slots revenue across channels has only grown with household disposable income, albeit without material product restrictions. In UK and Denmark, online slots growth has very clearly retarded retail slots growth, largely by siphoning off the expenditure of more engaged customers who value the choice and convenience of digital channels. Given that German retail customers are already playing at lower RTPs, they are less likely to be sensitive to fiscal-regulatory distortions than .com players who had already adopted. The domestically regulated German online gaming market is also already as big as its pre Covid casino market and bigger than the retail betting market, so it has critical mass behind it and will increasingly be seen as an attractive market to service. If Germany follows the standard channel-shift pattern, then retail gaming businesses will need to aggressively adopt omnichannel strategies or see slots revenue migrate to betting-led companies who can cross-sell a more popular and localized gaming product. A combination of a cash-based economy and a strict regulatory framework is likely to slow down mass adoption to some extent, but the need of betting-led companies to generate growth from a niche into a proven local product is likely to counteract this driver, now that they can see it works: the ability to use sports to market gaming products is as proven as it is increasingly controversial. Also relevant to this dynamic, Germany has only just announced a federal regulator which will take time to bed in, giving plenty of time for less scrupulous operators and the black market to exploit the situation and shift the goalpost further. Jurisdictions such as France have shown that over-regulation and high taxes can favour licensees who win enough market share, but it is telling that in France the online winners are not omnichannel outside the quasi-monopoly of horseracing. Operationally, there was never a ‘right time’ for French landbased incumbents to invest heavily and effectively a small, badly regulated, and expensive online market, meaning strategically they missed a significant opportunity. Since Tipico, the leading German betting company, is already one of the most successful omnichannel businesses in Europe, at least it will not make that mistake. However, outside Tipico which stakeholders will be winners or losers is far less clear, while the high cost of the German domestically regulated online gaming market dictates there will be more losers than winners.
Germany has already been the source of ‘surprise’ profit warnings from its .com exposed operators due to IST4 and online gaming taxes. The jurisdiction has also been grinding regulatory change in its retail slots sector for nearly a decade, which has limited real-terms growth to negligible sums. The online gambling fiscal-regulatory regime adopted, which suits the federal government and betting-led cross-sell far more than consumers and gaming-led operators, is working just well enough to force operators and suppliers to engage with it – the most expensive and high risk strategic environment possible, especially for incumbents. The pain that German regulation can cause to most of its exposed operators and providers is far from over, in our view, but long-term strategic opportunities to work with difficult regulation rather than simply hoping that it will go away also mounting.