Consumer

David Fickling is a Bloomberg Gadfly columnist covering commodities, as well as industrial and consumer companies. He has been a reporter for Bloomberg News, Dow Jones, the Wall Street Journal, the Financial Times and the Guardian.

Investors in Macau's casino stocks don't have much of an appetite for the territory's home-grown hero.

SJM Holdings, owner of the lotus-shaped Casino Grand Lisboa, doesn't just trade at a discount to local peers -- it's valued below even Las Vegas's casino stocks. If you compare the company's enterprise value to forecasts of Ebitda over the next 12 months, it looks more like an Appalachian racecourse than a company with more than 2,000 gaming tables and almost 4,000 slot machines in the world's biggest gambling destination:

Handicap Race
Blended forward 12-month EV/Ebitda valuation of major U.S. and Macau gambling companies
Source: Bloomberg

SJM was the poorest performer of the territory's six casino stocks during a rebound in prices in July, according to Bloomberg Intelligence's Margaret Huang. The conventional explanation is straightforward. At a time when Macau's government is trying to engineer a shift from high-rolling VIP gambling toward family-friendly resorts and mass-market gaming tables, SJM is stuck in the past.

The revenue base is too exposed to its 400 VIP gaming tables, and its HK$30 billion ($3.9 billion) casino in the territory's Cotai precinct won't open until well into next year, leaving a significant hangover of capital spending and execution risk.

While there's a lot of justification for that argument, it sells SJM short. The company has some significant challenges over the next 18 months, but there are few stocks more leveraged to a recovery in the city's casino industry. Some see signs this may be happening, as Macau's 50 percent-plus decline in gaming revenue flattens.

For one thing, SJM isn't nearly as overexposed to the VIPs as conventional wisdom suggests. As a share of the total, the VIP business has long made up a smaller share than those of Sands China, Galaxy Entertainment and Wynn Macau.

Not-So-Important Persons
VIP winnings are making up a much smaller part of Macau casinos' revenues
Source: Bloomberg
Note: Shows VIP revenues as share of casino revenues for all companies except Sands China, which shows VIP wagers as share of all casino wagers.

Then have a look at how net income has declined since the industry peaked around the Lunar New Year of 2014. SJM's performance has been poor, but not notably worse than that of Wynn Macau, and well ahead of Melco Crown.

Everybody Hurts
Trailing 12-month net income at Macau casinos relative to the market peak in the March quarter of 2014
Source: Bloomberg data
Note: MGM China and Galaxy Entertainment have been excluded as they don't present comparable quarterly net income data.

In valuation terms, however, SJM started out at the back and has slipped further behind its peers:

Back of the Class
Blended forward 12-month EV/Ebitda valuations of select Macau casino stocks
Source: Bloomberg

The first-half results Monday night didn't prove an easy pill to swallow for those who think this underperformance may soon turn around. Adjusted Ebitda fell 28 percent from the same period a year earlier, a brutal result even by Macau's recent standards: MGM's earnings on the same measure fell 19 percent in the six-month period, and Wynn Macau's dropped 16 percent, while Melco Crown's rose 31 percent thanks to the opening of its Studio City casino last October.

Still, it's reasonable to look at SJM's problems as largely a result of timing. Its big Cotai development will be the last to open among the big six Macau casino companies, so at this point it's being compared (rather unreasonably) to the likes of Galaxy and Melco Crown, which have moved past the peak of their capital spending and are back in earnings mode.

That contrast probably will be heightened over the coming months, with the $4.2 billion Wynn Palace opening in less than two weeks and the 3,000-room Sands Parisian less than a month later. By the end of this year, Cotai will, with luck, be escaping its current building-site feel and starting to turn into something a bit more like the Las Vegas Strip -- but SJM, and MGM China, will still be waiting to open their major projects in the area.

Last Cab off the Rank
Room totals and opening dates of major Cotai casino development properties
Source: Company reports
Note: MGM China and SJM forecast opening dates "in the first half of 2017" and "during 2017" respectively for their upcoming projects. We've put tentative dates at the end of those periods.

Once it's opened, SJM's Grand Lisboa Palace will have 2,000 rooms and more than 90 percent of its floor area dedicated to non-gaming activities, sharply increasing the company's skew to the less glitzy activities the government wants to encourage. It will be just adjacent to the territory's indoor sports arena and a theme park being developed by Angela Leong, the wife of SJM's founder and Chairman Stanley Ho, who is herself a director and major shareholder of the company.

And there should be few problems funding all the capex. SJM has HK$13.5 billion in cash and bank deposits net of borrowings. Net debt will peak at about 2.5 times Ebitda in December 2017, according to analyst forecasts compiled by Bloomberg, dropping to 1.8 times the following year.

Investors might want to consider whether the bills that SJM will be piling up over the coming months represent a disadvantage or an opportunity.

This column does not necessarily reflect the opinion of Bloomberg LP and its owners.

To contact the author of this story:
David Fickling in Sydney at dfickling@bloomberg.net

To contact the editor responsible for this story:
Paul Sillitoe at psillitoe@bloomberg.net