MGM Growth Properties A Far Better Casino Bet Than Wynn Resorts, Due To Macau Exposure

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About: MGM Growth Properties LLC (MGP), WYNN, Includes: MGM
by: Anne Anderson, CFA
Summary

Investors seeking growth in casino properties should consider MGM Growth Properties in place of Wynn Resorts, Ltd.

Sudden downturn in Macau casinos will retard Wynn Resorts, Ltd. earnings progress, despite expensive upgrades and new hotels.

MGM Growth Properties offers investors steady FFO growth and high yield, based solely on US properties leased to related tenant MGM Resorts International.

Conservative stance for investors in casinos is appropriate at a time of China trade tensions, currency volatility, and ongoing Hong Kong protests.

Investors take note: there is a time to invest overseas and also a time to keep your assets at home. Macau casino investors now must review their portfolio investments in light of recent political unrest in Hong Kong. Expansive growth in Macau gaming is suddenly subject to a sharp decline, due to recent disruption of Hong Kong tourism as well as longer-term impacts of additional political turmoil in the region, the impact of China's currency devaluation, incremental regulation impacting junkets, as well as competition from new Macau casino and resort properties. While all Macau casinos will suffer from these negative trends, the stock with the greatest exposure and highest internal risk is clearly Wynn Resorts, Ltd. (WYNN).

As an alternative, I suggest investors consider a US-based Casino REIT with both a high yield and considerable EBITDA growth. The best stock for such a switch appears to be MGM Growth Properties (MGP), with a current yield of 6.3% and a market cap of $11.6 billion. Compared to Wynn Resorts Ltd, MGM Growth Properties offers a much higher yield and the same market cap. MGM Growth Properties has demonstrated consistent FFO and EBITDA growth from sale-leaseback of MGM Resorts International (MGM) properties, supporting outstanding dividend growth.

Recent Impact of Hong Kong Protests on Tourism and Retail Trade

Investors in Macau casinos must expect a dramatic impact from current Hong Kong political protests. More than half of all visitors to Macau arrive through Hong Kong. Travelers to Macau find a one-hour ferry ride from Hong Kong or a half-hour transit from Hong Kong airport over the recently opened Hong Kong-Macau Zhuhai Bridge. As much as half of the "mass market" traffic to Macau may originate from China's New Territories and tourism from greater China.

There has been a sudden disruption of normal travel patterns as a result of Hong Kong protest. More than a dozen countries have issued "travel advisories" against Hong Kong in the last 2 weeks. As Hong Kong protests have now disrupted airport arrivals for a second consecutive week, the latest reports on tourism and retail trade indicate Macau casino operators must expect a sharp decline in revenues and profitability for 3Q 2019.

A few recent data points highlight the impact of Hong Kong protests not just on Macau casinos, but on all hotels and retailers in the Hong Kong area. Reuters reports Hong Kong Inbound Travel Association says that July 2019 group tours are down (20%)-(30%) from the previous month. South China Morning Post interviewed tour operators and reported ferry traffic from Hong Kong to Macau casinos is down (32%) since Hong Kong protests began in June 2019. Tourism in August 2019 is likely to be lower than July, as protesters have shown repeated presence at Hong Kong's airport as well as attempts to barricade shopping malls, roundabouts, and the Harbour tunnel. Many would-be travelers have seen alarming press coverage of evening protest attacks on police stations in Hong Kong, Kowloon, and rail-connected suburbs in the New Territories.

Many international companies have voiced concern over the impact of Hong Kong protests. Cathay Pacific (OTCPK:CPCAY) has seen hundreds of flights canceled. Hotel chains issuing cautionary management comments on the impact of Hong Kong tourism decline include Marriott (NASDAQ:MAR), Hotel Intercontinental, and Hilton Worldwide (NYSE:HLT). Macau's Gaming Inspection & Coordination Bureau issued their latest report on Thursday, August 1, 2019, showing a (3.5%) decline in gross gaming revenues for Macau in July 2019 compared to expectations for growth of more than 2.0%.

The negative impact of Hong Kong protests is not just on airlines, hotels, and casinos, but on the entire spectrum of retail trade in Hong Kong and Macau. HKMRA (Hong Kong Retail Management Association) is reporting a (6.7%) sales decline from the previous year for June 2019, see their report here.

HKRMA is now projecting a sales decline of more than (10%) for the full calendar year 2019. HKRMA surveyed its membership and heard reports that spending by mainland China travelers has declined (30%)-(50%) since Hong Kong protests began in June 2019.

Many US and international luxury goods companies have already discussed with investors the negative impact on sales from Hong Kong protests. Examples include Disney (NYSE:DIS), Levi Strauss (NYSE:LEVI), Ralph Lauren (NYSE:RL), Prada (OTCPK:PRDSY), Cartier, Swatch (OTCPK:SWGAY), Kering (OTCPK:PPRUF), L'Oreal (OTCPK:LRLCF), and L'Occitane International (OTCPK:LCCTF). Even HSBC (NYSE:HSBC) (Hong Kong Shanghai Bank Corp.) has been impacted, forced to close several branches for more than a day at a time. Apple, Inc. (NASDAQ:AAPL) has made no precise comment yet on China retail sales trends during July or August 2019, but unquestionably Apple must have seen product sales impacted at key mall locations, including Causeway Bay in Hong Kong and Canton Road in Tsim Sha Tsui. Apple operates more than 50 retail stores in China, including more than 40 stores in greater China, as well as 6 Apple store locations in Hong Kong and 2 in Macau.

Macau casinos have seen unrest in Hong Kong before. The 2014 Umbrella Movement, read about it here, lasted more than 2 months from the last week of September to the middle of December 2014. In the end, fewer than 1,000 protesters were arrested, with 470 protesters suffering injuries. These 2019 Hong Kong protests have been shown to be much larger than the 2014 Umbrella Movement, with protesters employing more confrontational tactics. Press reports estimate more than 2 million citizens of Hong Kong and the New Territories have joined in the protests since June 2019.

While the best case for Macau casino operators would be some limited acquiescence of local Hong Kong authorities to protester demands, there have been no signals of accommodation on either side. There are several dates ahead that are likely to keep Hong Kong protesters in the streets if they do not succeed in pressuring Hong Kong CEO Carrie Lam to resign or the proposed extradition law to be rescinded. First, court dates for arrested protesters have been scheduled for September 2019. Next, the 70th anniversary of the PRC (People's Republic of China) will be celebrated on October 1, 2019. In December 2019, Macau celebrates the 20th anniversary of the transfer of sovereignty over Macau from Portugal to the PRC. There is a risk that political unrest continues for some time to come.

Long-Term Concerns for Macau Casinos

Even the most stalwart believers in the future of gaming in Macau must admit that there are reasons besides the Hong Kong protests to be cautious. In addition to the fears of trade restrictions, recent currency volatility will impact reporting of profits from Macau gaming for US companies. While PBC (People's Bank of China) has allowed the yuan to devalue by less than (4%) year to date during 2019, recent breaching of the level of 7.0 yuan to the dollar raises fears of the potential for further currency devaluation.

Incremental regulation from China is another factor impacting the growth of VIP traffic, the high spending and most profitable customers for Macau casinos. China's DICJ (Gaming Inspection and Coordination Bureau) announced during July 2019 it had conducted spot checks on 25 "junket-controlled VIP rooms" at 7 Macau casinos to ensure travelers from China's mainland were not being signed up for online gaming accounts. So far, the crackdown on junkets appears to be targeted at Suncity, largest operator of Asian junkets, but these spot checks indicate an issue that must concern Macau casinos, as well.

As with all gambling venues, success breeds competition. Wynn Resorts, Ltd. investment in upgraded attractions such as Crystal Pavilion and its planned expansion of Wynn Palace with 2 luxury hotel towers was intended to gain market share of Macau gaming from local competitor Melco Resorts and from global competitors including MGM, Las Vegas Sands, and others. Planned opening of the Crystal Pavilion in 4Q 2019 was expected to stimulate a surge in Macau casino earnings for Wynn Resorts. It now appears that pressure on gaming, hotel, and retail revenues from Hong Kong unrest may delay the expected payoff for Wynn Resorts Ltd. from these expensive investments.

Wynn Resorts, Ltd. Exposure to Macau Gaming

Investors attracted to Wynn Resorts Ltd. are turned on by the company's commitment to earnings and revenue growth from investment in high status properties. For more than a decade, the growth story on Wynn Resorts Ltd. has been fueled by Macau casinos. Wynn Resorts, Ltd. Investor's Day presentation in July 2019 shows 27 pages of total 78-page presentation devoted to Wynn Resorts Ltd.'s current and expanded properties in Macau.

Wynn Resorts Ltd.'s 2Q Quarter 2019 earnings report highlights significance of Macau properties, contributing 75% of total adjusted EBITDA for first 6 months of 2019.

WYNN sources of adjusted EBITDA

Macau properties generated $730 million adjusted property EBITDA for the first 6 months of 2019, down (5.7%) from the previous year, while revenues decreased (0.9%).

WYNN sources of revenue 2019

Negative currency trends, as well as impact of renovations in progress at the older Wynn Macau hotel property, contributed to the decline, but competition also has played a factor. Turnaround from this recent adjusted property EBITDA decline will be delayed by lower tourism and retail sales decline during 3Q 2019, possibly extending into 4Q 2019 as well.

Wynn Resorts, Ltd. stock price volatility appears to be tied more to stock market trends than to investor concern over risks to Macau gaming market. Wynn Resorts, Ltd. stock price at $109 on August 9, 2019, is still up 10% year to date for 2019, while retreating (27%) from its April 25, 2019, high price of $149 per share.

Surging EBITDA Growth Reported by Casino REIT MGM Growth Properties

Investors will find a contrasting picture of EBITDA growth at Casino REIT MGM Growth Properties. MGM Growth Properties reported 2Q 2019 adjusted EBITDA of $233 million, up 23% from the previous year. MGM Growth Properties also reported 2Q 2019 FFO increased up 4%. As a result of recent acquisitions done for the stock, FFO growth is less than adjusted EBITDA growth.

Performance of MGM Growth Properties common stock reflects stock market volatility. Stock price of $29.71 per share as of August 9, 2019, increased 12% year to date for 2019, although down (11%) from its high price of $33.30 per share on April 14, 2019. MGM Growth Properties stock price has appreciated 35% in 3 years and 4 months from its IPO price of $22 per share in April 2016.

Dividend increases have been exceptional for MGM Growth Properties. There have been 7 dividend increases since the IPO for a total of 30% dividend growth, as shown in MGM Growth Properties investor presentation in April 2019

MGM Growth Properties current yield of 6.3% is 70% higher than the 3.7% yield provided by Wynn Resorts, Ltd. I expect that MGM Growth Properties will increase dividends again during 2019, as it did during 2018.

This record of dividend increases is supported by the consistent growth of rental revenues from portfolio of MGM-branded casinos. The MGM Growth Properties portfolio includes 27,442 hotel rooms, 2.7 million square feet of convention space, and more than 1.2 million square feet of casino floor.

MGP portfolio locations

MGM Growth Properties most significant portfolio asset is Mandalay Bay, largest convention venue and casino in Las Vegas. Other Las Vegas properties owned by MGM Growth Properties include Bellagio, MGM Grand, Luxor, Excalibur, New York New York, The Park, Monte Carlo, and Mirage. East coast properties added to the MGM Growth Properties portfolio since the 2016 IPO include Borgata in Atlantic City, NJ and MGM National Harbour near DC. Acquisitions year to date for 2019 total $1.3 billion, including $634 million for Empire State Casino and related real estate in Yonkers, NY and $638 million for Park MGM and NoMad in Las Vegas. Management of MGM Growth Properties estimates that since completing these 2019 acquisitions, 45% of total ongoing rents will be derived from Las Vegas properties.

This chart shows how rental revenues for MGM Growth Properties scale up from cost escalators under its master lease with its sole tenant, MGM Resorts International.

MGP master lease includes escalators

The chart above demonstrates how cost escalators ensure growth of rental revenues for MGM Growth Properties, even in the absence of significant acquisitions. This master lease provides an assurance for MGM Growth Property investors that dividend growth may continue, despite years that may include either seasonal or secular variations in gaming revenue for tenant MGM Resorts International.

Discussion of MGM Growth Properties must acknowledge the importance of its relationship with MGM Resorts International not only as sole tenant but also as controlling shareholder. While MGM Growth Properties is the sole general partner of the operating partnership that controls its portfolio of casinos and resorts, MGM Resorts International owns 68.3% of the operating partnership as limited partner. MGM Resorts International also owns 100% of Class B voting shares of MGM Growth Properties, making it controlling shareholder. The value of MGM Resorts International equity holdings of MGM Growth Properties is shown as minority interest, representing $4.4 million of its stockholder equity account on the balance sheet.

MGM Resorts International has publicly discussed plans to decrease its ownership of MGM Growth Properties operating partnership from current 68% to less than 50% over the next 2 years through 2021. MGM Resorts International does not expect to divest ownership of MGM Growth Properties but plans to sell additional properties to MGM Growth Properties in various cash and stock transactions. This structure ensures that public REIT shareholders participate in portfolio expansion of MGM Growth Properties through rental growth, FFO growth, and dividend increases.

Conclusion

I rank Wynn Resorts, Ltd. as a SELL based on a confluence of negative factors impacting the Macau gaming market. While Wynn Resorts. Ltd. has demonstrated a long term commitment to growth through development and expansion of upscale resort and casino properties, the short-term and medium-term outlook is sufficiently negative for investors to seek to lower their risk by investing in a US-based Casino REIT.

The best option I see for current Wynn Resorts, Ltd. shareholders is to BUY MGM Growth Properties stock for both current and future FFO growth and dividend increases.

Disclosure: I am/we are long MGP. 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.