A Drop In Gaming Revenue In Macau Makes These 4 Companies Look Risky

|
 |  Includes: LVS, MGM, MPEL, WYNN
by: Daniel Jones

Summary

For the month of August, revenue in Macau, the world's gambling hub, dropped more than analysts expected.

This decline in sales suggests that China's economy isn't as healthy as some investors might think, which brings into question whether it's a good idea to invest in exposed operators.

Of the casino operators with a presence in Macau, Melco Crown looks the most questionable while MGM might be an interesting prospect for gambling bulls but Macau bears.

Sep. 2 was a down day for casino operators who have some exposure in Macau. As the only region in China where gambling is a legal activity, Macau has seen the industry boom in recent years as soaring (though now slowing) GDP growth and rising housing prices have left the country's residents flushed with cash. Although this has been great news for companies like Melco Crown Entertainment (NASDAQ:MPEL), Las Vegas Sands (NYSE:LVS), Wynn Resorts (NASDAQ:WYNN) and MGM Resorts International (NYSE:MGM) as they have placed a greater emphasis on growth in this area instead of in the sluggish U.S. market, data suggests that Macau's day of reckoning may be on the horizon.

An expect anomaly turned into a deluge

For the month of August, casino revenue in Macau came in at $3.62 billion, which equals 28.88 billion patacas. At first glance, this may seem like a pretty impressive turnout for a region with a population of around 588,000, but it represents an over 6% drop from the $3.85 billion the local government reported the same month a year earlier as the Chinese government has stepped up its anti-corruption campaign by targeting this industry (leading some VIP customers to stay out of the game) and as economic data for the region appears less than ideal.

Year-to-date, the picture has been a lot better, with total gaming revenue for the region hitting $31.37 billion. This represents an 8% improvement over the $29.02 billion seen from the beginning of 2013 through the end of August, but Macau's performance over the past three months implies that there might be a general downturn in the market.

Click to enlarge

The first down month for the year was June, where gaming revenue for the region dropped almost 4% from $3.54 billion to $3.41 billion. To some, this might have come as a surprise after seeing that sales grew over 9% the month before, but there was an expected anomaly that negatively impacted casinos for the month; the World Cup in Brazil. While it may seem unlikely that gambling on the turnout of a soccer tournament could have a material impact on Macau's gaming revenue, the fact that 22 people were arrested throughout different parts of China on Jun. 19 for running a $645 million illegal betting syndicate centered around the World Cup suggests that this behind-the-scenes gambling activity could have explained Macau's lower turnout.

Since the end of the World Cup, however, investors would imagine that sales in the region would begin climbing again. Unfortunately, this hasn't been the case. In Jul., the month the tournament ended, sales dropped another (nearly) 4% year-over-year, while sales dropped over 6% in August, worse than the 2%-6% range analysts anticipated. The true reason behind this decline is something investors can only guess at, but with home prices cooling throughout China, GDP growth coming in lower than it has in recent years, and the urban vacancy rate in China hovering around 22% (vs. 3% at the peak of the U.S. housing bubble), the issue appears to be a reflection of the country's economic situation.

Who's going to get hit the hardest if a downturn materializes?

Currently, there are four noteworthy casino operators with a presence in Macau, three of whom also have major operations in the U.S. These three U.S.-based operators are Las Vegas Sands, Wynn Resorts, and MGM Resorts, with Melco Crown being the pure play (though soon-to-be diverse with its Philippines venture) operator in the region. As of 2013, with 100% of its $5.1 billion in sales stemming from Macau, a downturn there would have the greatest impact on the business.

Major Macau Casino Operators Revenue from Macau (billions) Percent of Total Company Revenue
Melco Crown $5.1 100%
Wynn Resorts $4.0 71.9%
Las Vegas Sands $9.0 65.3%
MGM Resorts $3.3 33.8%
Click to enlarge

Wynn Resorts and Las Vegas Sands would also be hurt, but not by as much. Over the past three years, Las Vegas Sands has seen its percentage of revenue attributable to Macau grow to 65.3%, while Wynn Resorts' has been consistently high during this timeframe with a hefty 71.9% of revenue derived from the region. With profits coming in negative in four of the past five years, MGM Resorts isn't what investors might classify as a strong business, but with just 33.8% of revenue coming from Macau in 2013, it should experience the least downside in the event of a general drop in the region's gaming revenue.

Takeaway

Right now, Mr. Market isn't terribly happy with casino operators and for good reason. Despite the fact that sales have been on the rise in recent years and 2014 is still set to be a record-breaking year for Macau specifically, the prospect of the market materially worsening in the months and years to come is frightening. Unfortunately, it's impossible to know what the future holds for these businesses but I for one am not terribly enthusiastic. For those who share my viewpoint but still insist on a casino operator, MGM might be the most interesting prospect, while Macau bulls will likely find Melco Crown to offer the most appealing prospects.

Disclosure: The author has no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.