IPO would only exacerbate Studio City ownership maze

IPO Would Only Exacerbate Studio City Ownership Maze

Melco International Development just put up a trial balloon to gauge interest in a possible initial public offering for Studio City Macau. It probably won’t happen. It you thought Caesars had a complicated corporate structure, wait until you get a look at Studio City’s fractionated ownership map. An IPO would make it even more complicated, and that alone is enough to discourage investors from buying shares at decent premiums. If an IPO does take place, it will be very difficult to figure out who owns what and how much. Of course it’ll be known according to law, but shares that represent a fraction of a percentage of a stake of a subsidiary that you have to do a whole equation to figure out exactly what they are, do not generally inspire much IPO excitement.

IPO Would Only Exacerbate Studio City Ownership MazeHere’s how it works…maybe. Studio City is 60% owned by Melco Resorts & Entertainment. 40% is owned by private firm New Cotai Holdings, which is jointly owned by Silver Point Capital and Oaktree Capital Management. Oaktree Capital Management (OAK) is itself an NYSE-listed company, meaning some part of the shares are owned by a publicly-traded owner of a private entity that owns part of another private entity that is 40% owned by another publicly-traded entity. It you think that sentence is hard to understand, try writing it.

Given all this corporate mess, who is going to buy shares? You won’t even really know what you’re getting exactly, so it’s very difficult to put a price on the shares rationally. Other media outlets are putting the wacky corporate organization lightly. “…[I]t creates additional complexity for Melco, a company which is already complicated, by Macau standards,” writes the South China Morning Post. Tell me about it.

The IPO news being floated could actually be precisely because of the confusing structure here. The main owners may want to know a ball park of how the market values any shares the public can collectively buy, and from there they would have a better idea of how much they actually have from their stake, and how much they can sell it for if need be. It doesn’t cost much to file a private document with the SEC, say something about offering shares when market conditions are right, and give no general price points or estimates on the number of shares being offered. Plus, conditions in Macau right now are delicate, not the best time to move forward with IPOs. A trade war between the US and China looks more and more likely, and the whole North Korea situation, which thank goodness calmed down a bit yesterday, could still boil over again any day.

There could be another reason or an IPO. Melco International Development is in a lot of debt that will need to be paid off between 3 and 8 years from now at rates between 5% and 8.5% fixed. The Hong Kong company, which owns 51% of the Nasdaq-listed company, has over HK$30 billion in total debt, over 100% of its market cap, though HK$26 billion of that is fixed so if they can pay it all off over the next 8 years they’ll be in good shape. That’s between $28 billion and $40 billion in principle plus interest depending on how fast they pay it off and what exact rate.

That’s doable but it will make expansion over the next 5 to 8 years difficult if not impossible, since much of their profits will need to be used to pay off debt. There is a phase II of the Studio City Macau project but paying for it while honoring all other obligations in an uncertain environment including an array of partners who all own different percentages of different subsidiaries who together own this collage and who all have different interests…well, starting Phase II in this environment may be impossible without fresh capital from public markets.

There is another confusing aspect to Studio City that any investors in any of its publicly-traded incarnations need to be careful of. Studio City is more heavily reliant on VIP gaming than its latest annual report shows. This may be an obvious point but can easily trip up retail investors. Studio City Macau started operations in October 2015, but only began rolling chip operations, or its VIP segment, over a year later in November 2016. So while rolling chip volume was $1.344 billion in 2016 and mass market table drop was $2.480 billion, mass market is actually much smaller than it looks. The $1.344 billion counts only from November when VIP operations started. Mass market volume begins with the beginning of 2016. On an annual basis, rolling chip volume would be about $8 billion, making Studio City Macau annualized gaming volume about 75% VIP and only 25% mass market, roughly.

Investors can expect the corporate structure surrounding the ownership of Studio City to be streamlined and simplified at some point. It will need to be simplified if markets can make sense of its overall valuation. That process is not likely to begin with an IPO, which would give Studio City a fourth publicly-traded entity that would trade its shares. There are already three. One is Melco Resorts and Entertainment on the Nasdaq, the other the Hong Kong listed Melco International Development, the third Oaktree Capital Group LLC. There probably just isn’t enough room for another.