Earnings season is in full swing, with many major gambling companies – among them Wynn Gaming (WYNN), Las Vegas Sands (LVS), and International Game Technology (IGT) – reporting financial results for 2011. The reports – and the conference calls associated with their release – provide key data about the most recent year in gambling and management’s attitude toward the future. With that in mind, a few of the key lessons learned from the recent batch of earnings reports:
For multinational casino operators, it’s still Macau, Macau, and Macau.
According to Wynn Gaming’s fourth quarter earnings conference call, the Wynn Encore complex in Las Vegas set the all-time record for gambling win by a single casino in Nevada history, taking in a net $776 million in all of 2011. In Macau, Wynn won $944 million from just its VIP table game customers in the fourth quarter alone, according to its fourth quarter earnings release.
For competitor Las Vegas Sands, 45% of the company’s fourth quarter EBITDA (earnings before interest, taxes, depreciation, and amortization) came from Macau, with an equal percentage from the company’s Marina Bay Sands property in Singapore. Meanwhile, the company’s Venetian casino in Las Vegas accounted for just 8% of the company’s cash generation. Executive Vice President Robert Goldstein told analysts on LVS’ conference call that it was “raining cash” in Macau.
Melco Crown Entertainment (MPEL), meanwhile reported revenue growth of 45% and EBITDA growth of 88% for the year. In its earnings release, CEO Lawrence Ho noted the company’s emphasis on mass market customers, who currently drive a tiny fraction of the market – and the company’s – gaming win. Those customers will drive the next phase of expansion on the island, as the frenzied competition for high-rolling VIP players reaches a saturation point.
With rivals MGM Resorts (MGM), SJM Holdings (880:HK), and Galaxy Entertainment (27:HK) reporting later this month, the focus on Macau will remain. Indeed, WYNN stock struggled following its announcement, as its relatively slower growth sparked fears of lost market share in Macau, overshadowing its strength in Vegas. (The recent public feud between CEO Steve Wynn and its largest shareholder, Kazuo Okada, has obviously not helped either.) Meanwhile, Las Vegas Sands’ above-consensus results and bullish commentary drove the stock to a three-year high this week.
Going forward, Macau will continue to drive the stock valuations of the island’s major operators. Sands China CEO Michael Alan Leven put it best on the conference call: “I think that in spite of the fact that a lot of the press is talking about slowdowns in China and all of these kinds of situation, we are essentially seeing nothing that would indicate that Macau and Singapore will not continue on their present paths upward.” That growth is driving the relatively pricy stocks in the sector (most are trading in the range of twenty times forward earnings), and will do so for the near future. Operators who prosper in Macau – as LVS did in 2011 – will be rewarded. Those who cannot keep up will be punished.
For US operators, it’s all cost-cutting and margin enhancement.
Penn National (PENN) and Ameristar Casinos (ASCA) both reported 2011 earnings last week. Ameristar saw net revenues rise just 2.1%, with nearly all of the gain coming from reduced promotional spending. Its fastest growing property, in Council Bluffs, Iowa, saw top-line growth of less than 7%.
Penn, meanwhile, reported year-over-year revenue growth of 11.5%, all of which was created by the company’s operations in the Northeast, primarily in Maryland and eastern West Virginia. Those operations will be severely impacted by the summer 2012 opening of Maryland Live!, a massive casino complex just outside of Baltimore. Without the ability to maintain 2011 growth in the Northeast, the company guided for revenue growth of less than 2% for 2012, and a slight decline in earnings per share. This despite the fact that the company is opening three new casinos this year, including the Hollywood Casino in Kansas City, Kansas which opened earlier this month.
Both companies reported earnings increases in 2011, thanks to margin improvements of 200 basis points for PENN and 160 at ASCA. But improvements are coming from decreased promotional spending, and, according to Penn’s conference call, reduced labor expense. There is only so much fine-tuning these operations can do to increase bottom-line growth against a stagnant revenue base. Expansion into new markets simply creates new competitors and often cannibalizes existing operations. Reduced promotional spending and lowered capital expenditures for maintaining and updating facilities can aid earnings in the short-term, but have long-term effects as well. The pressures facing US operators remained unchanged in 2011 and look unlikely to improve going forward.
There may be a jackpot lurking in the stocks of slot machine manufacturers.
As I noted a few weeks ago here on CA, slot machine manufacturers may have some avenues for expansion going forward, even as domestic casino operators struggle to show growth. WMS Industries (WMS) president Orrin Edidin laid out the bull case in his company’s fiscal second quarter earnings conference call. Demand for new units will double in 2012, Edidin explained, due to a rush of new casino projects, with additional growth expected in 2013. Legalization initiatives in states including Kentucky and Massachusetts, along with several Canadian provinces, can provide momentum for the longer-term.
The question is: who will produce the new units? The most successful player in the industry of late has been small-cap Multimedia Games (MGAM), whose stock is up 178% from October lows. The stock jumped 34% in a day after releasing fiscal first quarter earnings and raising its full-year earnings guidance to 42 to 45 cents per share. The company’s focus on generic, lower-cost games for tribal casinos – its largest customer is Oklahoma’s Chickasaw Nation – has paid off, as the company continues to generate impressive free cash flow, some of which it has used to repurchase shares. At Friday’s close of $10.77, the stock is at a four-year high; but MGAM may still have room to run.
Bally Technologies (BYI) also appeared to gain market share in 2011, as revenues were up 15% for the second half of 2011, improving on the gains made in the year’s first six months. The stock jumped 7% on the revenue beat and slightly raised guidance, hitting a 20-month high of its own, before retreating amidst a weaker market over the past week. With new wide area progressives (WAPs) coming along, an) the release of games featuring Michael Jackson and Grease coming online later this year, that growth could continue. Fellow second-tier player WMS Industries (WMS) showed signs of life as well, after its November earnings miss had led to questions about its ability to hold market share. It jumped 13% on the basis of strong earnings, though the stock price has still been nearly halved over the past twelve months.
The year’s big loser seems to be International Game Technology (IGT), the country’s leading slot machine manufacturer. IGT saw revenues fall modestly year-over-year in the December quarter, blaming the drop on “fewer casino openings in North America.” Yet the fact that all three of its US-based, publicly traded competitors saw revenue gains likely means that market share, rather than market size, was the cause for the top-line weakness. The company did reiterate guidance for its fiscal year (ending in September) of earnings between 93 cents and $1.03 per share. That, however, did not mollify the market. IGT slumped after earnings and closed Friday at $15.51, down nearly 10% in 2012 despite strength in the broad market and, in particular, the gambling sector.
The conference call offered some signs of rebound for IGT, however. CFO Patrick Cavanaugh noted that the company’s market share in Macau was below 20%, weakness the company was emphasizing in its development. CEO Patti Hart claimed that market share was fine, but that the disappointing sales figures came from below-expected replacement sales in North America. Those replacements will come online, given the amount of competition in markets such as Tunica, St. Louis, and Kansas City, not to mention gambling centers Las Vegas and Atlantic City. As such, the quarterly revenue troubles at IGT look like a short-term blip. Given the strength in its competitors, and the potential for growth in its market, owning the sector’s biggest player at less than 16 times forward earnings could be a smart play.
The market does not seem to understand any of the above lessons.
Valuations in the gambling sector are remarkably consistent at the moment. Nearly all of the market leaders – whether operators or suppliers, whether focused domestically or in Asia – are trading between 15 and 18 times forward earnings, despite the vastly different growth profiles facing the companies. Gambling stocks as a whole traditionally trade in an exaggerated lockstep with the market and, specifically, economic sentiment. As economic expectations improve, the broad market goes up, and gambling stocks go up a bit more, only to fall harder when fears arise and investors sell out of equities.
Yet, right now, that lockstep movement makes little sense. There is a vast difference in the outlooks of stocks in the sector right now. Investors who study the industry, and pick their stocks wisely, have the potential to do well with gambling stocks. Focus on Macau and casino suppliers; ignore companies who are tied to the over-regulated, under-performing, American market. Given that they are all priced relatively similar, that should be the big lesson from the 2011 results.
