Always good for a quote, Steve Wynn, whose Wynn Resorts owns casinos in the US and Macau, didn’t disappoint on his company’s latest earnings call. Responding to a question, he noted: ‘I tend to be a longer-range looker at these things than quarter-to-quarter’.
We couldn’t have said it better ourselves. Long-range thinking – ignoring the next quarter (or year) and instead looking three to five years ahead at a minimum – underlies all of our Buy recommendations.
Macau may be bottoming
Australian resorts pumping out cash
Demerger still in works
When we upgraded Crown to Buy (see Betting on Crown – parts one and two), we thought the two major concerns at the time – the decline in Macau’s gambling revenue and questions over how Crown would finance its massive planned capital expenditure – were overblown.
Suggesting we may be right on the first of these at least, the second-quarter results (they have calendar year-ends) of Melco Crown and its competitors indicate the decline in Macau’s gambling revenue – particularly the higher margin, mass market segment – may be bottoming. Notably, competitor Las Vegas Sands’ Macau-based properties recorded increased mass-market gaming volumes and revenues in June 2016 compared to the previous June. This was the first month of year-on-year growth in mass-market gaming since September 2014, despite increased competition from the likes of Melco Crown’s Studio City.
|Year to 30 Jun||2016||2015|| /(–)
|U'lying NPAT ($m)||406||526||(23)|
|* 39.5c final div, 70% franked, ex date 22 Sep|
|Note: figures are normalised rather than actual except for DPS|
A potential stabilisation of mass-market gambling is important for all Macau casinos but especially so for Melco Crown: 95% of its earnings before interest, tax, depreciation and amortisation (EBITDA) now comes from mass-market punters.
It’s too early to declare victory, however. More casinos are due to open soon, including Las Vegas Sands’ The Parisian and Wynn Resorts’ Wynn Palace. The 28% increase in hotel rooms from these and other openings may increase competition for punters, although they could also lead to an increase in both the number of people visiting Macau and the length of their stay.
Initial signs are positive on this front, with the local regulator reporting that, while the number of visitors to Macau fell by 1% in the first five months of calendar 2016, those who stayed overnight rose by 12%.
Over the longer term, we continue to believe that infrastructure improvements, the continued increase in China's standard of living and their desire for travel, and more non-gambling entertainment options in Macau and nearby Hengjin Island bode well for the future of Macau and its casinos.
Melco Crown selldown
In the meantime, however, Crown owns 27% of Melco Crown after reducing its stake in May 2016 and will be affected by likely ongoing volatility in Melco Crown’s share price.
While City of Dreams Macau’s performance has declined along with Macau’s gambling revenue, it continues to produce most of Melco Crown’s EBITDA. A greater worry in the short term is the performance of Melco Crown’s 60%-owned Studio City. It continues to ramp up after opening late in calendar 2015, but its performance must be ‘significantly accelerated’ if it’s to comply with its debt convenants for the year ending 31 March 2017. Studio City’s debt is non-recourse to Melco Crown and we’d expect Studio City and its creditors to come to some arrangement should it breach its covenants.
City of Dreams Manila – 69%-owned by Melco Crown – also continues to ramp up, more than quadrupling EBITDA for the first half of calendar year 2016, to US$65m. As the Philippines economy continues to grow and its average standard of living rises, we expect City of Dreams Manila to provide some needed diversification to Melco Crown’s earnings.
All in all, Crown’s share of Melco Crown’s normalised equity-accounted NPAT fell 64%, from $161m to $58m.
The proceeds from Crown’s selldown of its Melco Crown stake also helped ease the second major concern when we upgraded Crown: how it would finance its substantial capital expenditure in coming years.
Net debt has declined from $2.3bn to $1.8bn but as capital expenditure on Crown Sydney ramps up in 2018 and 2019, it will likely rise again but remain manageable. Despite ongoing bureaucratic and legal delays, Crown is continuing preparatory work on Crown Sydney which – fingers crossed – is still due to open in the first half of calendar year 2021.
Elsewhere, Crown’s existing casinos in Melbourne and Perth recorded moderate EBITDA growth, of 1.7% to $673m, and 2.2% to $260m respectively. This is despite both suffering falls in normalised VIP revenue, of 4% and 19% respectively, as a result of ‘softness’ in the Asian VIP market and competition from both local and Asian-based casinos.
The highlight was a 9% increase in mass-market gambling at Crown Melbourne, which contrasted starkly with the essentially flat performance in Perth as a result of the mediocre local economy. Although slow economic growth will continue to affect Crown Perth, its new Crown Towers development is due to open in December 2016, which should help improve the resort's performance with VIPs and ordinary punters alike.
Overall, this was a good resort for Crown, with normalised EBITDA rising 4% to $856m (see Table 1). Along with the decline in equity-accounted profit from Melco Crown, increased interest expense as a result of higher average debt and the subsequent paydown of its US-dollar-denominated debt pushed normalised NPAT down 23% to $406m.
Crown is working through the regulatory and tax issues on the proposed demerger of its international operations while continuing to explore the potential IPO of 49% of most of its Australian hotels.
Along with this result, the proposed demerger and potential IPO have pushed Crown’s share price comfortably above our Buy price. As a result, we’re downgrading to HOLD.