Las Vegas Sands: Moving To Neutral On Valuation And Overly Optimistic Sentiment

| About: Las Vegas (LVS)

Summary

Las Vegas Sands has performed well share wise after it reported positive Macau mass results in June.

However, the pace of mass growth may be fairly slow and its effect on profitability may be partially offset by declines in VIP revenue.

The upper bound of my LVS valuation range remains at $52, which already incorporates a modest Macau recovery (+4% vs 1H 2016) plus the effect of the Parisian opening.

Some downside risks at $50 from potentially lower than expected table allocations, weakness at MBS that continues for more than one quarter, and only slow growth in Macau mass.

Potential upside catalysts probably won't happen until 2017. A strong Parisian launch may not be fully known until the Q4 report in January. MBS mall sale no earlier than 2017.

Las Vegas Sands (NYSE:LVS) reported Q2 2016 earnings recently. The report was generally okay overall, while the news that its June's mass Macau numbers showed year-on-year growth was seen quite favorably. Las Vegas Sands should be able to improve its cash flow with the opening of the Parisian in September, but I am now neutral on Las Vegas Sands due to valuation reasons. I had already incorporated the benefit of the Parisian and a modest Macau recovery into my previous valuation estimates and there hasn't been anything to indicate a stronger Macau recovery yet. I also generally agree with Vince Martin's belief that sentiment towards Las Vegas Sands is getting to be on the overly optimistic side.

Notes On Q2 Results

Las Vegas Sands' hold-normalized adjusted property EBITDA was slightly lower at $953.8 million in Q2 2016, which was a 7.5% decrease versus Q1 2016 and a 5.9% decrease versus Q2 2015. This was driven by the lack of rebound in Macau (which reported the lowest quarterly hold-normalized adjusted property EBITDA in years, albeit with only a slight 2.3% decline versus Q1 2016), combined with an 11.2% year-over-year decrease in Marina Bay Sands' hold-normalized adjusted property EBITDA. US performance was strong, but Las Vegas and Bethlehem represent less than 15% of Las Vegas Sands' total adjusted property EBITDA and thus can't move the dial that much.

Macau's results should improve with the Parisian opening, but the mass market situation needs to be stronger than just stabilization or slight growth for the effect of the VIP declines to be completely offset or better. I am not overly concerned with Marina Bay Sands' performance yet since Q1 2016 was pretty solid (on a hold-normalized basis), but it should be monitored to see if Q2 was an anomaly or a trend.

Mass Trends

Las Vegas Sands mentioned that both mass gaming volumes and revenue grew year-on-year for its Macau properties in June. This was the first year-on-year growth since September 2014. This is a generally positive sign for Las Vegas Sands, but several other things need to be kept in mind.

While Sheldon Adelson believes that Las Vegas Sands' mass market has hit the bottom, the pace of recovery may be slow. Adelson mentioned mass market stabilization during the Q4 2015 conference call, so it has taken around two quarters to go from a belief in stabilization to a stronger opinion that Macau mass gaming has finally bottomed out for Las Vegas Sands.

Mass gaming has significantly higher profitability than VIP gaming, but low-single digit growth in mass gaming combined with some continued declines in VIP gaming will only produce a modest effect on EBITDA growth. It is also worth noting that the pace of Macau recovery (including mass gaming growth) has consistently been well below the more optimistic estimates.

The Parisian Opening

Las Vegas Sands' cash flow is set to improve with the September 13 opening of the Parisian Macau. This is a situation that I've discussed before. However, there is a risk that a low initial table allocation number could negatively weigh on Las Vegas Sands' stock, similar to how Wynn's discussion about potentially only receiving 100 tables initially pushed its stock downward. Las Vegas Sands should be able to manage its situation by moving tables around from other resorts and may receive additional tables in the future, but an initial allocation of 100 or 150 tables may still be seen negatively by the market. Las Vegas Sands mentioned earlier in 2016 that it hoped for 250+ new tables for the Parisian.

Observers also believe that Las Vegas Sands' recent legal defeat in the case about Richard Suen Chi-tat's role in Las Vegas Sands getting a Macau gaming license could potentially harm its chances of getting a large table allocation for the Parisian. Las Vegas Sands may need to pay out millions in this case, but that would only amount to pennies per share. The optics around the case could be significantly more harmful though.

Conclusion

Las Vegas Sands has rallied based at least partially on positive mass results in Macau in June plus some optimism about the future outlook for mass. However, Las Vegas Sands is starting to get toward the high end of its estimated range. Based on an upper bound of 14x EV/EBITDA (versus a 12.5x historical average), Las Vegas Sands could be worth around $52 at the high end of its range, allowing for the Parisian opening as well as a 4% increase in total Macau gross gaming revenue compared to the 1H 2016 monthly average.

With Las Vegas Sands near the top end of that range, I think there is potentially some downside risk for now and currently hold no position in it. Negative catalysts could include a lower than expected initial table allocation for the Parisian as well as Macau mass revenues that are stabilized or showing slight growth, but not demonstrating a more robust recovery trajectory. As well, Marina Bay Sands should be monitored for signs that Q2 2016's relatively weak results aren't an anomaly. The potential sale of the Marina Bay Sands mall may be a positive catalyst, but that won't occur until 2017 at the earliest. Other than that, a particularly strong Parisian launch will benefit Las Vegas Sands as well, but it should be noted that my share price estimates are based on $2.44 billion in adjusted property EBITDA from Macau, compared to the $2.067 billion in adjusted hold-normalized property EBITDA that Las Vegas Sands recorded in the trailing 12 months. Thus the Parisian is going to have to become a fairly significant contributor out of the gate (net of any cannibalization) in order to reach that figure quickly.

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Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.