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Fear, Greed, and the Mass Market in Macau

TAGs: Caesars Entertainment, city of dreams, Editorial, Gordon Gekko, Guest Contributor, Jay Harris, las vegas sands, Macau, Melco Crown Entertainment, mgm resorts international, sheldon adelson, Wynn Resorts

fear-greed-and-the-mass-market-in-macau-inpostThe story of Macau has been a classic tale of the battle between fear and greed. It was greed, after all, that led Western operators such as Las Vegas Sands, MGM Resorts International, and Wynn Resorts to enter the market in the first place. The potential rewards of access to over one billion Chinese citizens and a fast-growing economy, in their minds, outweighed the risks of dealing with organized crime, catering to high rollers in a country where gambling debts are not legally recognized, and investing billions of dollars in a Communist-run, state-controlled economy. But it was fear that led Caesars Entertainment to pass on bidding for a license, leaving them a far less relevant, and far less valuable, company than its peers.

It was greed that bid shares of the Macau operators up to record highs in 2007, as shares of MGM, Wynn, and Sands would double or triple in little more than a year’s time. And it was fear that drove those shares down, with both MGM and LVS losing more than 90 percent of their value in less than two years, as the 2008-09 financial crisis led to fears that the world economy would crash, taking Macau’s VIP business down with it. To be sure, shares have recovered – a $10,000 investment in Las Vegas Sands at the bottom, in March 2009, would be worth nearly $400,000 today. Yet, amazingly, the euphoria of 2007 was so high that, six years later both LVS and MGM trade at substantially lower share prices – even when including the significant dividends paid by Las Vegas Sands over the past few years.

In the years since, greed and fear have taken turns in the perception of the enclave, and the value of the shares of its operators. As economic fears receded, Macau’s stunning growth took center stage, capped by an incredible 42 percent year-over-year increase in 2011. Everyone wanted a piece of the action; through the beginning of 2012, Macau stocks were roaring, and LVS chairman Sheldon Adelson was so flush he tried to single-handedly buy the US presidential election. Just a few months later, the stocks had tanked, as Macau’s growth had seemingly disappeared overnight, and fears of a “hard landing” in China left investors racing for the exits. A rebound at the end of the year buoyed hopes, only for issues such as a smoking ban and an oft-rumored crackdown on junkets to arise, again raising fears that the Macau growth story had finally played out. Shares rose in the first half of the year, only to tank in the summer, before finally roaring up to post-recession highs over the past few months.

And so here we are. As Gordon Gekko once said, “Greed is good”; at least for now. The bull case for Macau – often laid out on this site – has, of late, rested largely on so-called “mass market” gamblers. Those gamblers are up to four times as profitable on a per-dollar basis as their VIP counterparts, in large part because casino operators don’t have to share mass market spend with the junket companies who cater to high rollers. Slot machines – long neglected in the market – have begun to slowly gain acceptance, and offer casino owners higher profit margins and lower volatility than baccarat, Macau’s dominant game. And a look at third quarter results shows that those mass market gamblers have come through largely as predicted, helping Macau-facing owners reach new highs.

Las Vegas Sands’ Sands China subsidiary is the dominant of the three western operators in Macau (though it trails both Galaxy Entertainment and SJM Holdings in market share). On LVS’ third quarter conference call, Adelson himself called the mass market segment “the most important and most profitable segment in Macau.” It’s not hard to see why the billionaire made that claim; mass table win for Sands properties rose a staggering 61 percent from the previous quarter, to over a billion dollars. As a point of comparison, total gaming revenue for the entire Las Vegas Strip for the quarter, according to the UNLV Center for Gaming Research, was less than $1.7 billion. In other words, Sands China, just from its mass table players, generated nearly two-thirds as much revenue last quarter as the entire Strip.

Sands wasn’t the only one who benefited from an increase in mass market. Melco Crown Entertainment saw pre-tax income grow 39 percent over the prior year, an increase the company attributed to “significant growth in the mass market table games segment” at its City of Dreams property, where mass revenue increased 73 percent year-over-year. CEO Lawrence Ho said on the post-earnings conference call that the mass segment “continue[s] to set new records,” with “stable growth rates well in excess of the overall market.” Melco Crown is making a big bet on the segment as well; its Studio City project on the Cotai Strip will be focused on the mass segment when it opens in 2015.

And, indeed, it appears the segment has more room to grow. Ho pointed out that Macau, on a revenue basis, will be roughly seven times as large as Las Vegas (at current growth rates, even that stunning figure may be a low-ball estimate) yet has one-eighth of the hotel rooms. “City of Dreams turns away a large amount of great customers just from the fact that we don’t have enough rooms,” he told analysts. With a surge in room capacity set – the majority of it in Cotai – there will be more room for more mass market gamblers.

The question, as always in Macau, is: who will get them? Melco has long been focused on the mass segment, and not coincidentally, its shares have outperformed most of its competitors by doubling year-to-date. The upper-class customers who comprise the mass and premium mass segments seem to prefer the newer, integrated resorts of Cotai to the legacy properties that first established the Macau gambling boom. This gives a huge edge to Sands and Melco, along with Galaxy. Notably, the other operators without Cotai properties saw much more depressed growth in the mass market segment. MGM, according to its quarterly report filed with the US Securities and Exchange Commission, actually saw much higher growth in VIP table drop versus that from its mass market customers (referred to by the company as “main floor.”) Mass market revenue growth at SJM was 18 percent, while Wynn saw mass market table win rise 13.5 percent. Both are solid figures – particularly compared to the anemic growth rates seen in the rest of the world – but neither comes close to the explosive increases seen from the players already on Cotai. MGM, Wynn, and SJM are developing projects, but they are not set to be completed until 2016 or 2017. By then, Sands and Melco seem likely to have a substantial head start.

But what does seem clear is that the mass market has the potential to keep Macau’s mind-boggling revenue growth going into the future. And that growth should trigger the greed necessary to keep the share prices of the enclave’s operators rising in the future. At least until investors get scared again.

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