Macau's Infrastructure Improvements Good News for Gaming

Our recent trip to Macau left us encouraged by the stage of completion of key infrastructure projects (light rapid transit, land reclamation, and the Hong Kong Bridge) that are essential to our forecast of mid-single-digit annual gaming revenue growth in the region over the next 10 years. In addition, third-quarter results that pointed to a solid launch for Sands’ new Parisian resort and a slow opening for Wynn’s Palace resort were well supported by our observation of foot traffic.

We are maintaining our fair value estimates and narrow economic moat ratings for

We recently reduced our 2016 and 2017 Palace forecasts to account for a slower ramp-up caused by barricades impeding visits to the resort. There are indeed obstructions that could be discouraging foot traffic to the facility, and Wynn told us it is working with the government to resolve the issue. While there is no timeline for action, the blockage did not strike us difficult to remove, and the construction of the overhead light rapid transit appeared to be at a fairly advanced stage, leading us to believe that this will be only a near-term headwind. We now believe that the Palace’s slow ramp-up is also due to the design of its large and open casino space, which is leading to the perception of thin crowds and thereby reducing the feel of compressed energy that many gamers seek. Wynn plans to adjust wall configuration to reduce its gaming area while increasing casual dining options to meet demand. We think this will increase reinvestment needed to obtain traffic, and we’re reducing our 2017 Palace EBITDA margin to the mid-20s from the high 20s while maintaining all other forecasts.

While the near term presents challenges for the Palace, our constructive long-term view of the property is unchanged, as is our forecast for low 30s EBITDA margins in 2025 and mid-single-digit annual revenue growth in 2018-25. We believe the facility’s stunning decor will prove enticing to many high-income travelers. Although the property is not on the Cotai Strip, where foot traffic is heaviest (we believe around 20%-30% of resort revenue comes from visitors of other properties), it is less than a 10-minute walk from the Venetian, which is located in the heart of the action. Additionally, Palace stands to benefit from incremental foot traffic that should result when the nearby MGM Cotai property opens in the second quarter of next year; this spillover effect would become more pronounced should the two operators connect their facilities via an overhead bridge (although there is no timetable or plan for this as of yet). Also, when the light rapid transit opens in 2019, it will benefit Palace, as it stops directly in front of the resort; visitors can then enter via a free air-conditioned gondola ride that has music synchronized with the surrounding water show.

We found that Sands’ Parisian casino floor had good compressed energy and outdoor foot traffic relative to Wynn’s Palace. We continue to view narrow-moat Sands as having the leading position in Macau, with its interconnected integrated resorts (gaming, retail, convention, and entertainment) in the heart of the popular Cotai Strip. This is reflected in our high-single-digit annual revenue growth forecast for Parisian in 2018-25 (versus mid-single-digit growth for Palace) and our view that Parisian will increase its sales per day to 5.7 million in 2017 from 3.8 million in the third quarter (versus 4.9 million for Palace in 2017, up from 4.1 million in the third quarter) with high 20s EBITDA margins next year (compared with Palace’s mid-20s).

We were encouraged by the level of completion of key infrastructure projects that we believe are essential to relieving Macau’s capacity issues and allowing for a sustained acceleration to average mid-single-digit annual gaming revenue growth for the region in 2018-25. Our ferry trip to Macau allowed us an up-close view of the Hong Kong Bridge. From the water, the 30-kilometer bridge (15 times the size of the Golden Gate Bridge) looked largely complete. We expect the bridge will open in 2019 and improve the travel experience to the region by reducing travel time to a 30-minute drive from an hour-long ferry trip. It will also create another border checkpoint near the Peninsula section of Macau, thereby alleviating congestion at the popular Border Gate.

We also were happy to find a large portion of the light rapid transit structure in place, although it appears that electrical, terminal, and rail infrastructure still needs to be added. We maintain our view that light rapid transit will open in 2019 and expand Macau’s capacity by around 3.5 million in 2025, as the project will alleviate street traffic in Cotai. In addition, most of the five reclaimed land zones appeared to have been land-filled, and we continue to see these developments adding around 4.5 million to the region’s capacity by 2025.

We got the sense that a full smoking ban may pass next year, with implementation to follow shortly after, which is largely in line with our 2018 forecast. We think this headwind will be manageable. Currently, smoking is only allowed in VIP rooms of properties built before 2013. In all other cases, smoking is limited to outdoors or in lounges located on the gaming floor. We think that players have largely adjusted to the use of smoking lounges, mitigating the risk to growth should the ban pass.