Post by bjspokanimal on Dec 3, 2015 17:44:32 GMT -5
Good, all-around synopsis of where the company is right now, with graphs/illustrations in the link:
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seekingalpha.com/article/3717536-sands-china-strong-cash-flow-and-leading-market-position
Sands China - Strong Cash Flow And Leading Market Position
Nov. 28, 2015 8:25 AM ET | 8 comments | About: Sands China Ltd ADR (SCHYY), Includes: LVS
Disclosure: I am/we are long SCHYY. (More...)
Summary
•Gambling stocks have been under pressure due to a combination of negative factors.
•Macau still has great long-term prospects; Sands owns the most profitable properties.
•Sands China generates strong free cash flow even under current conditions.
Macau is a former Portuguese colony with more than 600,000 people situated on only 30 square km, which makes it the most densely populated cities in the world. In 2006, it surpassed Las Vegas in terms of revenue and became the largest gambling center in the world. Tourism, along with the casino industry, generates around 70% of government revenue.
Since 1999, it's a part of China and the only place where its citizens are allowed to gamble.
Until 2002, Stanley Ho and his SJM Holdings (OTCPK:SJMHF) owned an exclusive license on casinos in Macau. After that, foreign companies entered the market with Sands China (OTCPK:SCHYY) opening the first one. MGM (NYSE:MGM), Wynn (NASDAQ:WYNN), Galaxy Entertainment (OTCPK:GXYEF), Melco Crown (NASDAQ:MPEL) and others entered soon thereafter.
Business overview
Sands China owns 4 integrated resorts with more than 1,500 gaming tables, 4,000 slot machines and 9,000 hotel rooms. It is 70% owned by Las Vegas Sands (NYSE:LVS), where its founder Sheldon Adelson is still a major shareholder. He was one of the people who transformed Las Vegas into one of the most visited tourist destinations in the USA. It represented around 65% of Las Vegas Sands' total revenue in 2014.
Adelson was also the first one among his competitors who realized the huge potential in the Asian gambling industry and opened Sands Macao in 2004. He knew it was a small place and couldn't house too many properties so he built an artificial island called Cotai, where now some of world's biggest casinos stand.
The company is currently finishing 2 properties: Sands Cotai Central, which has brands like Conrad, Sheraton, Holiday Inn, and which will include St. Regis after completion. Then there is the Parisian, another mega casino similar to Venetian, expected to be completed some time in 2016. When finished, Sands China will have more than 12,000 hotel rooms, 2 million square feet of retail space and a similar size of convention halls and meeting rooms.
Thanks to its relationship with LVS, the company has access to 18 private planes, with which it transports premium and VIP players from China and other countries.
(click to enlarge)
Source: Bloomberg
We can see that growth has been quite phenomenal. Strong GDP growth in China, coupled with the opening of multiple resorts and easing of visa policies, have all contributed to this.
Sands' integrated resorts include the Cotai Arena, which is the biggest concert hall in Macau and also a place for UFC and boxing fights, Voice of China and other entertainment activities. Cotai Expo and Venetian Expo house most exhibitions and conferences on the small island. Thanks to these facilities, more than 30% of visitors are families with kids and businessmen.
According to the company, this differentiates it from the competition, as most visitors to Macau arrive over the weekend, and weekdays are usually quiet. Sands can attract more people during these times, thus utilizing casino space more efficiently and maintaining higher margins than other operators.
Gambling activities are the main revenue contributor while other areas are basically there to drive traffic to the floor:
The company has $2 billion in cash, $6 billion in liabilities, and assets totaling $11 billion. In the first half of 2015, revenues declined 30% ($3.5 vs. $5 billion) and operating cash flow went down 40% ($880 million vs. $1.4 billion).
Valuation
Capex stood at $600 million, but 89% was related to Parisian and St. Regis towers, which will be finished next year and require little capital to operate after that. According to estimates, Sands China could generate around $1 billion of free cash flow next year and more than $2 billion yearly after that.
Using these assumptions and an expected 5% GDP growth (tradingeconomics.com) with discount rates between 9-11%, I got the following value:
Macau's economy will probably shrink further in 2016 after a 26% drop in 2015. After that, it will be coming from a low base, so 5% per year seems quite achievable. The value of Sands China is then somewhere between $28-37 billion.
Corruption and Junkets
Macau's impressive growth was halted in 2014, when Chinese President Xi Jinping started a crackdown on corruption. Since then, over 100,000 people have been accused, including 100 high-ranking army officers, politicians and directors of state-owned companies. Due to this, rich Chinese are more careful about public displays of their wealth, luxury goods purchases, and visiting places like Macau.
A 30% drop in China's stock markets combined with slowing growth certainly have added fuel to the fire.
China has a cash limit of $3,150 that individuals can bring abroad. Players have used the state Union Pay card to withdraw cash. This was done through fake purchases of various goods, where the shop would actually pay cash to the customers and collect a small fee for this transfer. On paper, it looks like a purchase of luxury watches or fashion items.
The country has already banned Union Pay ATMs in some shops, and also took steps to close some of these "underground" exchanges, which has slowed the flow of money to Macau.
VIP players have historically represented around 70% of revenue, but this has recently come down to 60%. The main partners of casinos are Junkets who organize and bring groups of premium players for which they earn a commission (usually 1% of roll).
These intermediaries function as another source of financing for VIPs, as they extend credit, which is then enforced in the mainland. There is no credit register or system which would show the default history of individuals in China, so casinos rely on Junkets to do this job. In addition, gambling debt is not recognized as legal there, so it's sometimes not easy for Junkets to get money back.
The whole system wasn't very regulated until now and was controlled in many cases by people with questionable past. The government in Macau has introduced new laws and regulations, which coupled with a few scandals have led to 20% of Junkets shutting down their operations.
This stemmed the flow of VIP players and caused a headache for casino owners. However, I believe over the long term, it will be more transparent and both players and regulators will be confident in the system. In the end, it will always be a crucial part of gambling in Asia.
VIP segment
Due to various benefits like cigarettes, free rooms, coupons and plane tickers, premium players are more costly than the masses.
Baccarat is the most popular game and constitutes almost 90% of Macau's revenues:
As we can see, the VIP segment was hit hard while the mass segment is a bit more stable. The government forecasts another tough year in 2016, with total gambling revenues declining to $25 billion.
For the first 9 months of 2015, visitation is down 3% compared to the same period last year.
Government has also restricted smoking to special zones and is considering banning it completely. This has decreased visitation and play time even further. In combination with other negative factors, like a slowing Chinese economy, anti-corruption steps, and lowering of Union Pay withdrawal limits, this caused a "perfect storm" for Macau casinos.
The gambling industry is still very profitable even after big declines, and properties earn high returns on capital. The best thing about this business is that after the initial expenditures are paid, most casinos become cash cows and have tremendous scale due to low marginal costs on additional visitors. As a result, I believe Sands China will weather the storm and continue to deliver strong returns.
Competition
There are many properties which compete with Sands, both in Macau and abroad. The biggest rivals are SJM Holdings and Galaxy Entertainment. Sands China is the most expensive in Macau in terms of P/B and P/S. This is because it owns some of the best properties on the island and is the most profitable of all.
(click to enlarge)
SJM Holdings still owns the most casinos in Macau, but they are old and do not offer as much entertainment value as others. However, the company is investing into new projects and refurbishing the old ones, so given its low valuation, the stock might be attractive as well.
Pearl River Delta
Is one of the most densely populated regions in the world, with an estimated population of 110 million. It includes cities like Guangzhou, Shenzen, Dongguan, Zhuhai, Foshan, Hong Kong, Macau and many others.
(click to enlarge)
According to estimates, it represents 9% of China's GDP, 27.5% of exports and around 20% of foreign investments flow here. Nicknamed "Factory of the world", there are many industrial zones which produce a wide range of goods. Planned infrastructure projects include the Macau Intercity Light Rail Transit, the Hong Kong-Macau-Zhuhai bridge, a new ferry terminal in Macau and others.
Risks
China is slowing down a bit and there are fears that the decline in real estate prices and stock markets might spill over to the general economy. There is a big shadow banking system in the country which might cause problems in the future. However, I think that over a period of 5-10 years, China will deal with its problems and still grow faster than most developed economies.
Regulation remains the biggest question mark. The government is fighting corruption which is positive in the long run and will lead to more transparency. There is talk about a full ban on smoking in casinos, which, according to KPMG, would lead to another 16% drop in Macau GDP. It's not clear if it will pass as the industry is lobbying heavily against it and the government would also lose on the deal.
Sheldon Adelson is the person behind the success of Las Vegas Sands and Sands China. He is 82 years old and early retirement might influence the long-term future of the company. However, there are several projects underway for the next few years, so it's not an immediate risk.
There is growing regional competition in Singapore, Philippines, South Korea and Malaysia. So far, these locations are much smaller than Macau but could attract further investment.
Famous European hedge fund manager Crispin Odey is short Sands China and generally bearish on the whole Chinese economy. I kind of agree with him that near-term fundamentals look very bad, but I remain optimistic over the long term.
Summary
I think Macau is under short-term turbulence, which has always been a part of this business. The VIP segment will have its ups and downs, but over the long run, it will grow. Junkets were hit hard in the turmoil, and it might take a few years for them to recover, but they will be back.
Gambling has a long history in Asia and it's not going away anytime soon. The government wants to diversify the economy, so the number of table and slot licenses given out will be probably limited in the future. Macau remains a major tourist destination, with improving infrastructure and more entertainment venues being built.
I think the mass market remains resilient and I expect it to grow over time, while VIP players will slowly start coming back. Sands China is well positioned to survive this downturn and profit from the eventual rebound. I have no idea how long this might take, but I believe its revenues and profits will be much higher 5 years from now.
I have started a small position and will gradually increase in the future. The Chinese economy and stocks are quite vulnerable right now so a larger correction is certainly possible.
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