Wynn Resorts (WYNN) and Wynn Macau (1128:HK) (II): Macau

The Macau gambling market is booming

News services are reporting that gambling revenues in Macau were up 69% year on year in February, following a 63% year on year gain in January.  January, a record high for Macau, was up by 24% month on month.  February, with 10% fewer days than January, was down only 4% month on month–implying a slight apples-to-apples gain.  Even noting that the yearly comparisons are being achieved against weak 2009 figures, these are heady numbers.

Wynn Macau is doing well, too

At the moment, we don’t have as clear a picture of 1128 as one might like.  This is partly because Hong Kong companies report on a semi-annual basis, using slightly different accounting conventions than US GAAP.  We can get quarterly net income information for 1128 from WYNN’s income statement, thorough the minority interest line (see a note at the end of this post for an explanation).  But we only have that data from the IPO date in early October.

In addition, the first half of 2009 was depressed by the effects of the financial crisis; the latter part of 2008 suffered from restrictions from Beijing on travel visas from elsewhere on the mainland to the SAR.

What we do know about 1128 is this.   The company made an operating loss as it started up in 2006, made a substantial operating profit in 2007, followed by an increase of 62% in 2008.

Operating profit was down by 23% in the first half of 2009, on a fall in casino revenues of 17%.  Business rebounded sharply in the second half, with full-year operating profit up by about 6%, on a full-year fall in revenues of 3.8%.

Profits are split almost 50/50 between table games and slot machines, with a slight edge to the former.

In 4Q2009, Wynn Macau had net income of US$67 million.  If we did an incredibly simplistic thing and just multiplied that number by four to get an annual figure, and said that will be our profit forecast for 2010, 1128 would be trading on about 18x earnings.  True, this is not much better than nothing, but it’s a starting point.  It also tells us two things:  we need to know about the seasonality of revenues, if there is any, in Macau, in order to judge how crazy extrapolating from the last quarter might be.  Also, if we can make a case that earnings will be able to grow from this point on, 18x may not be an unreasonably high price.

The Wynn Macau strategy

It’s the same niche strategy Wynn has executed for the past 25+ years, from the Golden Nugget in Atlantic City and downtown Las Vegas to the Mirage, Bellagio and Wynn Las Vegas on the Las Vegas Strip.  Target the wealthy gambler and provide a luxury environment that offers intensive customer service.  Capital expenditure and operating costs are higher than average, as a result, but so too are revenues.  The brand name and the craft skill involved in running a high-end casino are WYNN’s competitive advantages.

So far, this strategy seems to be working in Macau as well.  For the three years plus that Wynn has been operating in Macau, revenues per table game are at least 75% above the industry average there, and revenues per slot machine well more than double.

During the WYNN conference call last week, Steve Wynn could barely contain his enthusiasm for results from 1128 so far in 2010.  His main point was his opinion that Macau is just now hitting the critical mass of infrastructure–number and variety of hotels and casinos–to begin to make it an attractive destination resort. He said this was the government’s intention in opening the market up to newcomers.  To me, he seemed to suggest that Macau today was at the point Las Vegas was maybe 15 years ago.

Wynn also mentioned that the subsidiary had a very strong Chinese New Year period, while the results in Las Vegas were softer than previously.

This sounds to me like WYNN cannibalizing itself to some degree.  This is ok (much better than someone else taking the business away), and the total revenue that Wynn Macau generates from Chinese gamblers staying close to home may be far greater than what Wynn Las Vegas loses (the stay-at-homes will likely bring friends to Macau who would never make the longer trip to Las Vegas).

This also brings up a point that bears on the question of competition with Singapore.  Years ago, Caesars in Las Vegas decided to open a casino at Lake Tahoe to cater to high-end gamblers.  The company would then be able to offer both a desert experience and a mountain one.  Their reasoning was that a customer who made, say, two trips yearly to Caesars in Las Vegas would add a third to visit Tahoe.  What happened instead was that customers continued to make their two trips a year to Caesars, but split their time between Las Vegas and Lake Tahoe.  In this case at least, customers split up their time among casino operators, not among locations.

In the case of WYNN, though, they’ve added a twist–they seem to be allocating time to WYNN and then picking the casino location closer to home.

Competition from Singapore?

The Singapore government has decided to permit casino gambling in an effort to transform the city-state into more of a tourist destination and less of a layover point for travelers to change planes.

Two casinos have been approved, with exclusive licenses for 30 years.  One, run by Resorts World and featuring a Universal Studios theme park, is designed for the mass market.  The other is a convention complex run by Las Vegas Sands.  Neither is a specialist in high-end gamblers.

According to WYNN, the natural market for Singapore casinos is Indonesia, Malaysia, Brunei, Thailand–all areas within a short plane ride.  Steve Wynn’s point is that a potential Chinese customer from China who wants a Las Vegas Sands experience will go to Macau.  Once he’s in the casino and gambling, the outside world won’t make that much of a difference.  Why would he travel an extra four hours by plane to do exactly the same thing.  And even if the location does make a difference, the “buzz” is going to be a lot greater in Macau than in Singapore, since the latter has such limited choice of gambling venues.

I expect there will be some cannibalization of Macau by Singapore.  But I think it will be centered on China Sands, much like the behavior of Caesars customers a couple of decades ago.

My conclusions about 1128:

I think it’s an attractive growth stock.  As I wrote about a month ago, though, the people who really count don’t appear to agree.  Hong Kong investors worry that Macau is already overbuilt, that the regulators from Beijing will step in to slow visitation to the SAR in the next few months as part of their plan to cool down the economy, and that Singapore will drain a significant portion of Macau’s growth away from it.

Yes, Beijing may try to slow growth in Macau–I’m not sure exactly why–but an investor in Hong Kong will doubtless see this coming long before I do.  I think the other stuff is just wrong.

This is what makes markets.  And this is what investing is about–developing an idea that goes against the consensus and putting your money on the conclusion you come to.  Then, knowing that even Warren Buffet or Peter Lynch have been wrong almost as often as they have been right, you watch like a hawk for evidence of who will be right, your or the consensus.

Note:  Minority interests

WYNN owns 72.3% of 1128.  It creates its income statement by including in it 100% of the revenues and 100% of the costs attributable to Wynn Macau.

Then, way down at the bottom of the page, just under “Net Income,” it subtracts out the portion of net profit that belongs to the minorities–that is, the owners of the other 27.7% of 1128.  It’s just one line, usually labelled “Minority interest.”  In the case of WYNN, the entry reads “Less:  net income attributable to non-controlling interests.”

For the fourth quarter of 2009, that amount is $18.5 million implying that the total net income from Wynn Macau for the period since the IPO on October 9th was $66.6 million.  The total net for WYNN for the quarter was $39.1 million, meaning the US operations had a loss of $27.5 million for the period.  If we compare that with the total loss for WYNN in the US during 2009 which, as shown in yesterday’s post, was $230 million pre-tax, even the US is looking up.

2 responses

  1. I really appreciate the work you did hear. I’ve been weighing the pro’s and con’s of investing in WYNN and/or 1128.hk and a lot of the info in this piece helped. Thanks!

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