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Melco Analysts Perplexed by 18% Plunge as Buy Calls Mount

Stock analysts and investors have never been so at odds over the outlook for Melco Crown Entertainment Ltd. (MPEL)

While investors have driven down the Hong Kong-based casino operator 18 percent to $32.23 this year, analysts have ratcheted up price estimates on the stock 20 percent. The gap between the market price and the consensus estimate is the widest on record, according to data compiled by Bloomberg.

“Trading in Melco has been misplaced, and it’s created an incredible opportunity to buy the shares at a very low valuation, especially when you look out to 2015 and 2016 numbers with new properties online,” Bryan Maher, a senior analyst at Craig-Hallum Capital Group LLC who has a buy recommendation on Melco with a $50 price target, said by phone on May 16.

American depositary receipts of Melco, controlled by billionaires James Packer and Lawrence Ho, fell for a fifth day on May 16 in New York, the longest stretch of declines in seven weeks. Hong Kong-based Melco trades at about 17 times estimated earnings, the lowest multiple since November 2012, while analysts have an average 12-month price estimate of $50.49, implying a 57 percent rebound over the next year. Its Hong Kong-listed shares rose 0.7 percent at 10:17 a.m. local time, while the Hang Seng China Enterprises Index (HSCEI) lost 1.2 percent.

Speculation that China will crack down on illegal fund transfers has rattled investors after mainland tourists bypassing currency controls fueled a decade-long boom in Macau gambling revenue to levels eight times that of the Las Vegas Strip.

Call Buying

Melco’s 2014 slump is comparable to a 22 percent tumble in MGM China Holdings Ltd. (2282) and a 16 percent plunge in billionaire Lui Che Woo’s Galaxy Entertainment Group Ltd., which also operate gambling facilities in Macau, the only place in China where casinos are allowed.

Options traders are betting on a rebound in Melco’s shares, pushing the number of outstanding calls to buy the stock to almost 153,000 contracts, the most since April 2013 and up from about 55,000 at the end of March, according to data compiled by Bloomberg.

After slowing to 14 percent in 2014, revenue growth at Melco is projected to accelerate to 24 percent in 2015 and 28 percent in 2016, according to the average of at least 12 analyst estimates compiled by Bloomberg. Twenty-two of 25 analysts covering the company have a buy recommendation, and none is rating it a sell.

Police Crackdown

Macau police said earlier this month that they have seized China UnionPay Co. card-payment devices that were being used illegally in the enclave. The crackdown is aimed at stopping gamblers from using the devices in casino resorts to get cash for chips without buying anything, they said. The revenue at stake from gamblers using the card-swiping method amounts to about 12 percent of the estimated total mass-market gamblers spend on chips in a year, according to Deutsche Bank AG.

“Melco is caught up in the whole Macau downdraft that has been emanating from the potential crackdown” on card usage from mainland Chinese tourists, Maher said.

Interactive Graphic: Compare the Fortunes of 200 Top Billionaires

Shares of Melco also declined as a bill to legalize casinos in Japan, which would allow the building of gambling resorts by the 2020 Olympics in Tokyo, may not pass in the current parliamentary session, legislator Masakazu Hamachi said on May 16. Co-Chairmen Ho and Packer have indicated they are ready to spend at least $5 billion on resorts there. The country’s casino market could be worth as much as $40 billion a year as early as 2025, making it Asia’s largest after Macau, according to estimates from CLSA Ltd.

“There is, built into some of these stocks, the expectation that that’s going to happen,” Brian Miller, a gaming and lodging analyst with Bloomberg Industries, said by phone from Skillman, New Jersey on May 16. “So as that optionality goes away, it would hurt the stock.”

Smoking Ban

Smoking will be banned on casino gambling floors effective Oct. 6, Macau’s government said on May 15 in a statement on its website. Authorities will conduct regular tests on air quality.

“As we’ve seen in Australia and various U.S. states, smoking bans have all impacted mass play,” analysts at Well Fargo & Co. led by Cameron McKnight wrote in a report dated May 16. “The impact is usually temporary, with growth reverting to trend within a year or two.”

The Bloomberg index of the most-traded Chinese stocks in the U.S. added 1.9 percent last week to 100.59. The iShares China Large-Cap ETF, the largest Chinese exchange-traded fund in the U.S., climbed 4 percent last week to $35.97.

Jumei International Holding Ltd. (JMEI), an online retailer of beauty products, rose 9.9 percent on its first trading day after raising $245 million in an initial public offering on May 15.

The Hang Seng China Enterprises Index of mainland stocks traded in Hong Kong gained 2.8 percent last week and the Shanghai Composite Index (SHCOMP) added 0.8 percent. The H-shares gauge dropped 1.2 percent at 10:18 a.m. today, while the Shanghai index slid 1.1 percent.

To contact the reporter on this story: Gabrielle Coppola in New York at gcoppola@bloomberg.net

To contact the editors responsible for this story: Nikolaj Gammeltoft at ngammeltoft@bloomberg.net Allen Wan

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