Thinking of Selling DKNG After Today's Rally? Consider This First.

DraftKings Inc.’s stock price has surged to a price of $26.57 today. Ending the day with a 3.6% increase, DKNG shares outperformed the S&P500 and Dow Industrial composite indices by 4.0% and 3.0% respectively, closing in on their 52 week high of $26.87 Over the last 12 months, DraftKings is up 119.9%, and has outperformed the S&P 500 by 104.0%. Now, the mid-cap Consumer Discretionary company is 7.44% below its average target price of $28.71 and has an average analyst rating of buy.

DraftKings does not publish either its forward or trailing price to earnings (P/E) ratio because their values are negative -- meaning that each share of stock represents a net earnings loss. Investors are sometimes willing to invest in a stock with negative earnings if they believe the company will perform well in the future, especially if the company has an innovative approach to its business. Continued upwards price movements depend on whether future earnings will meet expectations, and how long investors are willing to wait around for this to occur.

Company accountants calculate earnings by subtracting the costs of sales and overhead from its revenues. These metrics focus on the sales side of the company only -- it's important to remember that companies can have many other costs and sources of income that are independent from its core business. For example, a company may have extensive expenses such as rent and debt servicing, and on the other hand it may receive additional income from its investments and intellectual property.

So the earnings picture only shows a slice of the company's financial health. They also don’t represent actual inflows of cash, since revenues are calculated on the basis of product or service deliveries, as opposed to actual payments received. The importance of earnings is that they enable us to analyze the company’s growth and profitability over time.

Here is an overview of DraftKings’s operating margins, which are the percentage of net profit compared to total revenues:

Date Reported Total Revenue ($ k) Operating Expenses ($ k) Operating Margins (%) YoY Growth (%)
2022-12-31 2,240,461 2,267,944 -67.48 44.0
2021-12-31 1,296,025 2,063,480 -120.49 12.19
2020-12-31 614,532 1,111,199 -137.22 -202.85
2019-12-31 323,410 366,066 -45.31 n/a
  • Average operating margins: -92.6 %
  • Average operating margins growth rate: -10.5 %
  • Coefficient of variability (the lower the better): 46.8 %

Let’s contrast the operating margins with an overview of DraftKings’s gross margins, which only take into account expenses directly related to producing revenue (i.e. without overhead):

Date Reported Revenue ($ k) Cost of Revenue ($ k) Gross Margins (%) YoY Growth (%)
2022-12-31 2,240,461 1,484,273 33.75 -12.84
2021-12-31 1,296,025 794,162 38.72 -11.19
2020-12-31 614,532 346,589 43.6 -35.77
2019-12-31 323,410 103,889 67.88 n/a
  • Average gross margins: 46.0 %
  • Average gross margins growth rate: -16.0 %
  • Coefficient of variability (the lower the better): 32.9 %

Another metric for valuing a stock is its Price to Book (P/B) Ratio, which consists in its share price divided by its book value per share. The book value refers to the present value of the company if it were liquidated today (i.e. selling all assets and paying off all debts). DraftKings's P/B ratio indicates that the market value of the company exceeds its book value by a factor of 12.0, so the company's assets may be overvalued compared to the average P/B ratio of the Consumer Discretionary sector, which stands at 3.12.

DKNG's average free cash flow in recent years is $-438417500.0. This represents the sum of inflows and outflows of cash from all sources, including capital expenses. This is the pool of liquidity from which the company can reinvest in its business or pay out dividends to its investors. It comes as no surprise then that no dividends have been issued in the last twelve months. While not ideal, negative free cash flows are common -- especially in capital intensive businesses or after a period of heavy re-investment.

Since it has a a negative P/E ratio, an elevated P/B ratio, negative and highly variable cash flows, and consistently negative margins, DraftKings is probably overvalued at current prices. Make sure to complement this brief quantitative review with a qualitative analysis of your own!

The above analysis is intended for educational purposes only and was performed on the basis of publicly available data. It is not to be construed as a recommendation to buy or sell any security. Any buy, sell, or other recommendations mentioned in the article are direct quotations of consensus recommendations from the analysts covering the stock, and do not represent the opinions of Market Inference or its writers. Past performance, accounting data, and inferences about market position and corporate valuation are not reliable indicators of future price movements. Market Inference does not provide financial advice. Investors should conduct their own review and analysis of any company of interest before making an investment decision.