MGM Resorts May Have A Near-Term Geographical Advantage

Summary

• MGM's high US exposure could prove to be a relative advantage as the US reopens to a sizeable and more eager customer base.
• The company's low exposure to Macau and Chinese tourism could limit downside risk in the short term due to Chinese consumer caution over COVID-19.
• MGM could also be less impacted by increased US/China tension and a potential economic decoupling due to its relatively lower Macau exposure compared to its major peers.
• Although MGM was initially unjustly sold off, its recent stock recovery may have fully played out.
• Ongoing COVID-19 concerns should temper investor willingness to overpay for MGM above historical mean multiples.

(Image from Daily Mail showing reopening enthusiasm and a lack of social distancing.)

During the past year, the US stock market have confounded many experts. Wild swings in both directions so far in 2020 have been no exception. MGM Resorts International's (NYSE:MGM) stock plunge of over 80% during a one-month period between mid-February and mid-March was perhaps the most surprising among its peer group. When the COVID-19 pandemic swept throughout Asia, Macau-linked casino stocks rightfully corrected. However, among the three largest casino companies listed in the US, MGM took the largest hit despite having the least exposure to Macau. Although MGM's spectacular stock price recovery was largely justified after an irrational panic sell-off, the risk/reward profile still remains slightly bearish as long as COVID-19 cases continue to raise worldwide.

First-Quarter 2020 Outperformance

In fiscal 2019, MGM generated just 22% of its adjusted property EBITDA in Macau, which was far less than that of its main peers. Since COVID-19 originated in China, Macau was initially hardest hit and was among the first regions to shutter casino operations last February. Although US operations were ultimately halted in mid-March, MGM's lower exposure in Asia should have insulated its first-quarter results compared to Wynn Resorts (WYNN) and Las Vegas Sands (LVS).

FY 2019	Total Adjusted Property EBITDA	Macau Adjusted Property EBITDA	Macau Exposure
MGM	$3,347.72	$734.73	21.95%
LVS	$5,389.00	$3,189.00	59.18%
WYNN	$1,815.41	$1,378.37	75.93%

Click to enlarge

(Data compiled from fourth-quarter 2019 earnings from MGM, LVS, and WYNN. Dollar figures in millions.)

Yet, despite MGM's first-quarter regional advantages, its stock declined by the most during a one-month period prior to the bottom set on March 18. In fact, MGM shares almost retraced back to 2009 post Financial Crisis levels. In contrast, LVS and WYNN only retested the industry's previous cyclical lows set back in late 2015.

	02/18/20	03/18/20	Percent Decline
MGM	$32.02	$7.14	77.70%
LVS	$68.16	$37.68	44.72%
WYNN	$133.46	$43.02	67.77%

Click to enlarge

(Stock prices based on closing levels.)

While MGM's first-quarter results were understandably bad, it was not as bad as its peers as the table below shows. Excluding a $1.49 billion gain related to real estate transactions, adjusted quarterly EPS loss was -$0.45. While bad, MGM's adjusted quarterly loss was far less than WYNN's adjusted EPS loss of -$3.54. In terms of adjusted EPS, LVS outperformed the group with just a -$0.03 loss. LVS benefited from its Singapore resort remaining open during the first quarter, while Macau and US operations were impacted by shutdowns to varying degrees.

Looking Beyond Q1 2020

In contrast to WYNN's 76% and LVS's 78% Asian exposure, MGM only had 22% adjusted property EBITDA exposure in Asia based on fiscal 2019 figures. This metric becomes increasingly more important when looking at second-quarter results and potentially for the remainder of 2020.

Singapore exposure which benefited LVS during the first quarter will completely reverse in the second quarter. According to LVS' 2019 annual report, its Singapore resort has been shut down and may remain shut down for the entire second quarter. Singapore's COVID-19 "second wave" has not abated, as total cases doubled last month despite rising summer temperatures in the country's tropical environment. Until this situation is fully contained and travel restrictions lifted, LVS' Singapore adjusted property EBITDA, which accounted for over 64.5% of its Q1 2020 consolidated total, will sink into deep red.

Operations in Macau have deteriorated further in the second quarter despite what appears to be a successful COVID-19 containment in China. Although casinos were allowed to reopen since late February, Macau monthly gaming revenues have not recovered, as the table below shows. The extension of travel restrictions between Hong Kong and Macau until July 7 will likely result in a 90-95% second-quarter annual revenue decline for all casino operators in Macau.

	March 2020	April 2020	May 2020
Macau GGR Annual Change	-79.70%	-96.80%	-93.20%

Click to enlarge

(Data compiled from monthly gross gaming revenue figures for March, April, and May 2020. Percentage figures represent annual change from 2019.)

In contrast to strict precautions implemented in Asia, US casinos have already reopened to some degree since early June 2020. MGM has already reopened some of its Las Vegas properties, with plans to reopen another strip casino this week. Although these properties only represent a portion of the company's total and although capacity will be capped anywhere from 30-50%, revenue should finally start to flow from its US operations. Thus, due to geographic exposure, MGM's top line figures for the second quarter and potentially for the second half of this year should outpace those of its main rivals.

Las Vegas Initial Observations

Since Las Vegas is only a four-hour drive away, I decided to get a first-hand account on its reopening. Although I only stayed for one day, it was on the first Saturday after reopening, which I believe could represent a potential best-case scenario. Since time was limited, I did not spend more than half an hour in any casino, but did walk through most of the ones opened on the main strip and in the downtown area. Upon arrival, the first thing I noticed was the typical summer heat. If experts are correct about heat and sunlight killing the COVID-19 virus, just walking outside from one casino to the next may effectively disinfect an individual's exterior, so that's a potential positive. Just joking, of course.

In terms of traffic, there were a fair number of people, albeit understandably more inside than outside the casinos. In some locations on the strip, traffic might be about half peak levels I've experienced in past years. Since staff appeared to be out in force during opening weekend, in some places there were more staff than visitors. The good news is casino staff were all wearing masks, and when I made eye contact, I could tell they were smiling behind their masks. I was almost brought to the brink of tears thinking about how many ordinary hard-working people were impacted by COVID-19. Hopefully, most can get back to work now that Las Vegas is slowly opening up.

The bad news was most visitors were not wearing masks. I estimate over 80-90% of the people I saw were not wearing masks, and in some casinos, particularly in downtown Las Vegas, social distancing was completely ignored. The main casinos, such as MGM's flagship Bellagio, did a good job with its prevention preparations. In addition to the staff wearing masks, plexiglass was everywhere, including between where gamers sit at tables. Although seats were still spaced closer than the six-feet standard, the plexiglass should limit transmission as long as players remain behind it. Disinfectant dispensers were everywhere, and free masks were dispensed near the entrances of major casinos. The fact that the vast majority of visitors were not wearing masks appeared to be by choice.

The choice not to wear masks could be a long-term problem as long as COVID-19 cases still exist and continue spreading in the US. I am not an expert, but it is not hard to imagine a visitor touching his face at some point, then touching door handles, seats, tables, casino chips, dice, cards, cash, etc. There were people who simply chose to disregard any social distancing guidelines. This was especially the case in the smaller downtown Fremont casinos, which were horrific at times. I understand people come to Las Vegas to have a good time, but the total disregard for the COVID-19 threat is alarming.

People who choose to ignore the dangers of the current pandemic could be inherently more exposed and be potential "super-spreaders." If COVID-19 is as contagious as experts say, casinos could be a breeding hotbed, regardless of all the precautions its operators take. This was the main reason why I did not stay long in any casino and avoided touching anything, including entering areas that used manual doors. After hearing about a study showing restaurant customers becoming infected due to recirculated air, I wondered if this scenario could repeat not only in Las Vegas but in other areas where people chose not to take the pandemic seriously.

Final Thoughts

(Daily chart for MGM with 50- and 200-day moving averages shown in green and red, respectively.)

As the chart above shows, MGM stock may be short-term overbought after quadrupling from its intraday lows nearly three months ago. Although many stocks have powered through their 200-day moving averages lately, the $25 level could still be some resistance for MGM without additional positive news flow.

MGM's geographic exposure in the US could benefit its short-term quarterly results, at least on a relative basis compared to peers with low US exposure. For better or worse, many Americans appear to be content acting on their own terms, and as long as government policy keeps the doors open, the company could offset some of its operating expenses with an income stream from its US properties. It should be clear to investors that MGM will lose money in the second quarter and potentially for every quarter this year. It's just that its losses may not be as bad as Asian-dependent casino operators such as WYNN or LVS.

In the first quarter, where MGM "only" witnessed a 29% annual revenue decline, adjusted operating losses were already -$241 million. Assuming US operations achieves the maximum 50% of capacity limit for the remainder of June, the company could still see an 85% drop in second-quarter revenues compared to last year's levels. If US trends continue in the second half, annual revenue declines should improve sequentially to anywhere from a 60% annual drop to a 50% drop if Macau recovers to half of its normal operating levels. If there is a COVID-19 resurgence due to the US reopening or a global second wave, losses could continue for several more quarters. Needless to say, there are still a lot of risks for high-operating cost casino operators during a global pandemic.

On a positive note, MGM has a stronger balance sheet compared to peers. According to its first-quarter earnings presentation, the company has no long-term debt maturing before 2022. Without additional asset divestment, the company still has enough liquidity through the end of 2021, based on the estimated $300 million monthly cash burn rate. MGM's lower net debt position relative to cash burn could also allow the company to raise additional capital more easily than peers.

Investors do need to keep in mind that MGM's better relative positioning is dependent on the US remaining open while Macau and Singapore remaining cautious. In a Barron's article from March, LVS and WYNN were listed as better-positioned, but that thesis was based on a stronger Asian market relative to the US, which at present may not be the case after Las Vegas' relatively successful reopening. Asian, particularly Chinese, consumers have remained extremely cautious even on a local level despite very few new reported COVID-19 cases in China. Reports on the mentality of Chinese citizens during and after the initial COVID-19 shock are a stark contrast to how a fair number of Americans view the pandemic. Most Chinese did not even leave their homes for over two weeks, with some resorting to eating instant ramen for every meal, which is a huge disparity compared to the images of young Americans partying in large gatherings at every opportunity. This conservative attitude may likely result in a much slower recovery for Asian-based casino operators than many Wall Street analysts had predicted.

Increased tension between the US and China could also increase investor risk for operators heavily exposed in Asia and dependent on Chinese tourism. MGM's low Macau exposure, which limited its upside in recent years, could now limit its downside if Chinese sentiment turned increasingly anti-American. Even after COVID-19 is completely resolved, the decoupling of the US and Chinese economies could be a longer-term systemic threat for US companies with high exposure to China.

It may take many years for revenues to recover to levels recorded last year. Overbuilding in both Las Vegas and Macau resulted in stagnant revenue for all operators even prior to the outbreak of COVID-19. Potential rising anti-US sentiment among the higher-spending Chinese cohort, combined with travel restrictions, could disproportionately impact revenues moving forward. Outside of excess liquidity continuing to drive stock prices high, MGM, along with its peers, could experience upside caps based on fundamentals. In an unresolved COVID-19 pandemic, the risk/reward profile remains skewed bearish, so investors should refrain from chasing the sector beyond their historical average multiples.

Analyst’s Disclosure: I am/we are short WYNN. 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.