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Is Tatts diminishing Jumbo’s jackpot?

Lottery and wagering company Tatts Group (ASX: TTS) has announced record revenues in both its Lotteries and its Wagering divisions for the financial year ending June 2013. The boost to revenues was helped along by the acquisition of exclusive management rights to SA Lotteries and the acquisition of Tote Tasmania.

The overall results were affected by the loss of the Tatts Pokies division, which ceased operations in August 2012 and resulted in a significant loss of earnings power for shareholders. Actual revenues declined 20.1% and NPAT declined 22.5%, forcing the board to reduce the dividend from 23 cents in 2012 to 15.5 cents for 2013. However on a continuing operations basis (which excludes Tatts Pokies) revenue increased by 11% and net profit after tax (NPAT) bounced 40.8% higher.

A highlight of Tatts’ results was the growth achieved in online sales. The company reported that Lotteries online sales grew 35.2% and now represent 8.2% of all lottery sales. Meanwhile Wagering online sales grew 21.5% and now represent 20.2% of all wagering sales. The potential to meaningfully expand online sales through initiatives such as the new SA Lotteries website, the Tatts.com website and associated app platform thereby reducing operating costs and commission expenses is highly appealing.

Given Tatts enjoys exclusivity as the operator of lotteries in South Australia, NSW and Queensland shareholders must surely be questioning why they are effectively sharing their profits with online authorised retailer Jumbo Interactive  (ASX: JIN).

Which leads us to Jumbo’s financial results — the online lottery website operator continues to impress. On a like-for-like basis (which is what management references) total transaction volume increased 8.8% to $109 million, revenues increased 4.6% to $25 million and profit after tax increased 3% to $6.8 million. Jumbo has for many years enjoyed a close relationship with Tatts Group. While there continues to be a close working relationship and there are certain contracts in place, shareholders must have concerns that Tatts will increasingly attempt to muscle Jumbo out of the marketplace.

Pleasingly, Jumbo’s management appears to have been preparing for this potential occurrence by increasing its investment and marketing  on its the ozlotteries.com website — which boasted sales growth of 38% — while also making significant headway to diversify its earnings by expanding into other jurisdictions including Germany, North America and Mexico.

Foolish takeaway

One of the benefits of gaming companies is their potential to grow even when the wider economy may be struggling. The downside is that often gaming companies are surrounded in regulation and exclusive agreements, which if altered can have severe negative consequences for shareholders. This was experienced last year by Tatts’ shareholders with the loss of the Victorian poker machine license and something for Jumbo shareholders to be alert to.

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Motley Fool contributor Tim McArthur does not own shares in any of the companies mentioned in this article.

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