by Jharonne Martis.
Over the past two years, retailers and conglomerates have been concerned about the Chinese trade war. As the new decade starts, however, a new threat has emerged as the coronavirus spread in China during its New Year holiday. The World Health Organization has declared a global health emergency, as officials said the virus had killed more than 425 people and sickened nearly 20,000 as of the beginning of February. The vast majority of the cases have been located in China. Fear of economic disruption due to the virus has been weighing hard on global stock markets, the travel industry and the Macau casino business.
The peak Lunar New Year holiday season in late January is a popular time for travel to the Macau casinos. This year, visitors are being screened for coronavirus as they enter the gaming area. As a result, shares of some of the biggest casino companies in the world, including MGM and Las Vegas Sands, have taken a hit since Jan. 17, when travel fears started to infiltrate the market.
Exhibit 1: Year-to-date Stock Price for Gaming and Lodging Companies
Cases of infected people with the coronavirus have surfaced in Macau. The island known as the “gambling capital of the world” is critical to the bottom-line of these casinos. For Wynn Resort, over 75% of its revenue is generated in Macau (Exhibit 2). The same can be said for Melco and Las Vegas Sands, whose revenue dependencies are over 50% in Macau.
Exhibit 2: Percentage of Revenue Generation in Macau
Source: Refinitiv Eikon
Accordingly, analysts polled by Refinitiv have been downgrading some of these stocks. In October 2019, Wynn Hotels stock had 12 buy recommendations, and six neutral. Today, the buy recommendations have decreased to 10 and there are eight neutral recommendations.
Exhibit 3: Stock Recommendations for Wynn Hotel – October 2019 vs. Present
Long-term corporate health
Despite the concerns around the virus outbreak, most analysts remain bullish on the future of the gaming market in Macau. To see if these companies can withstand the crisis, we turned to StarMine to evaluate their long-term health.
StarMine uses I/B/E/S estimates, fundamentals and other Refinitiv content to provide robust alpha-generating predictive analytics and quant models. StarMine Analytics are best-of-breed proprietary algorithms that lead to more accurate estimates and can also provide robust stock selection factors that span analyst revisions, valuation, price momentum and earnings quality.
StarMine Combined Credit Risk Model
This is the most comprehensive StarMine credit model, as it combines the power of StarMine’s three credit risk models – the StarMine Text Mining Credit Risk Model, the StarMine SmartRatios Credit Risk Model and the StarMine Structural Credit Risk Model – to generate our single, final estimate of public company credit risk.
The StarMine Combined Credit Risk (CCR) model systematically calculates the default probability (DP%) within the next 12 months, for all companies, by region. It then ranks those probabilities on a 1-100 scale, with 1 having the highest probability. Currently, three of the four U.S. listed casino resorts score in the bottom quintile, including MGM, Melco, and Wynn Resorts. Their scores, of 19 and under, also correspond to model-implied credit ratings of BB+ or worse – below investment grade. Each of the four casino operators currently have a low DP% of well under 1%. But obviously, the longer the epidemic persists, the worse the financial health of companies with exposure to Macau may get.
Exhibit 5: StarMine Combined Credit Risk Model Score for MGM Resorts International
Source: Refinitiv Eikon
StarMine Analyst Revisions Model
To predict future changes in analyst sentiment, we turned to the StarMine Analyst Revisions model (ARM). The model is highly predictive of both the direction of future revisions and price movement. The analyst revisions scores are not great for any of these companies.
Exhibit 6: StarMine Analyst Revisions Model for Gaming Stocks
Las Vegas Sands has the weakest score, followed by Wynn Resorts, with scores of 2 and 7 out of a possible score of 100, placing these companies in the bottom decile. It is evident that analysts have become more bearish on these stocks as the Analyst Revisions Model score has fallen drastically on the coronavirus news. Las Vegas Sands Corp.’s score plunged to 2 from 47 during the last days of January (Exhibit 7). Similarly, MGM Resorts is in the bottom quartile, suggesting that analysts are likely to revise earnings estimates downward for these companies.
Exhibit 7: StarMine Analyst Revisions Model for Las Vegas Sands Corp.
StarMine Earnings Quality
It is also important to factor in the StarMine Earnings Quality (EQ) signal, which is based on accruals, cash flow, and operating efficiency. When investors become more risk-averse, they tend to put greater emphasis on these qualities.
StarMine defines earnings quality as a measure of the degree to which past earnings are reliable and are likely to persist. High quality earnings accurately reflect a company’s current and past operating performance, are indicative of future operating performance and are reliable valuation measures for the company, regardless of the level of earnings.
Las Vegas Sands is in the strongest position among its peers, as it is the only one with an earnings quality score in the top quartile. The company scores 84 out of a possible 100. Its high score suggests that profits could be from sustainable sources. The company’s cash flow and operating efficiency also look healthy, thus giving the company some cushion during the slowdown in the critical New Year period. What’s more, among its peers Las Vegas Sands has the strongest StarMine model scores, implying that it is best positioned to weather the coronavirus effects on its market.
Exhibit 8: StarMine Earnings Quality Model for Las Vegas Sands Corp.
On the flip side, Wynn is in the bottom quartile. According to the StarMine Earnings Quality model, the company scores a 23 out of a possible 100. Its low score suggests that profits are not coming from sustainable sources. The company’s cash flow, accruals and operating efficiency components also suggest it is not a top performer in these areas. When looking at the Macau casinos across the three StarMine Models, Wynn Resorts consistently has the bottom scores for all three measures, placing it in the weakest position among its peers and more at risk should the coronavirus continue to slow down business. Given its high revenue dependency (75%) from Macau business, the concern is heightened.
Exhibit 9: StarMine Earnings Quality Model for Wynn Resorts