What Casinos Are Good Bets?
David is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
Due to forecasts for high double-digit growth, casinos are able to trade at some of the highest multiples. At first glance, this may appear to lower the upside; but, in truth, the multiples are not high enough. The preponderance of investors who use this "at-first-glance" mode of valuation (basing an investment decision on whether the multiples and basic ratios feel "just right") have resulted in casinos not reaching the high multiples that they deserve to reach. This is the case for Las Vegas Sands (NYSE: LVS) and Wynn Resorts (NASDAQ: WYNN). At the same time, there are some casinos that are much too speculative to justify an investment like MGM (NYSE: MGM).
Las Vegas Sands
Las Vegas Sands, for example, trades at around 25x past earnings. But growth is still so large that the company can also trade around "just" 16x forward earnings. Free cash flow has seen a tremendous turnaround - going from -$1.2 billion for the TTM ending 2Q10 to $1.5 billion for the TTM ending 2Q12. Commentary has been overly negative about Asia, which has admittedly slowed in demand. But with the phase 2 opening of Cotai Central, LVS can build a sustainable brand before competitors make inroads.
Although the ramp at Cotai and increased regulations in Singapore are disappointing, Macau gaming forecasts of as low as 4% y-o-y growth are much too pessimistic. In particular, the Singaporean country is amending the Casino Control Act to raise the maximum fine to 10% of gross gaming revenue, tightening credit requirements, and a proposed limit for the "financially vulnerable", among other factors. Some analysts have argued that, if guidance is cut in Macau, fears could increase over business cannibalization. I don't see this happening, since LVS tends to be a long-term focused operation. With seven casinos and growing, there is a lot of potential for increased penetration. It will be this long-term focus that, at worst, will keep multiples elevated and, at best, send them higher.
Wynn Resorts & MGM
MGM is currently where LVS was a few years back: losing money. Large bets on Las Vegas and China have been ill-timed with demand, which has restrained the company's ability to raise appropriate capital. Capital expenditures have declined substantially to make free cash flow positive, but these "expenditure" might as well be "investments" - when they are forgone, there is nothing but existing assets to work off and create value. However, the debt-to-equity has risen dramatically to 2.3x, and management will likely have to sell these existing assets.
In contrast to MGM, Wynn is in a relatively good position. The company has recently come under pressure from billionaire investor and board member Kazuo Okada. Arguing that Wynn's management has been reckless and led to a double-digit erasure of shareholder value, he is demanding the reversal of the company's decision to redeem his shares for a 30 percent discount with a $1.9 billion note. Management argues that Okada was unsuitable for a position given claims that he improperly gave gifts to Filipino gaming regulators. I believe this fight for control could actually raise speculation over the value of the business and boost its value. Market share has come under pressure from Macau due to developments by LVS and other local casinos. There is, moreover, likely a capacity constraint on future growth. Accordingly, I recommend buying more shares in LVS than Wynn but nevertheless holding a stake in both.
Foolish Bottom Line
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