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Casino company earnings: Big Six swinging big sticks

24 Oct 2006

By Rod Smith

It's likely that the Big Six gaming operators combined will hit a financial home run when they start reporting their results for the third quarter later this week.

Together, the major operators are expected to report record net income of $1.3 billion, up 220 percent from net income of $405 million a year earlier, Morgan Stanley data show.

CRT Capital Group gaming analyst Steve Ruggiero said casino industry fundamentals remain strong and continue to exceed most consumer industries.

But appearances can be misleading, and in this case the bases were not loaded.

Net income growth was boosted by $792 million for the group and for Wynn Resorts Ltd. by the sale of a Wynn subconcession in Macau for $900 million, Morgan Stanley analyst Celeste Brown said. The buyer was Publishing and Broadcasting Ltd., an Australian company controlled by the family of business magnate Kerry Packer, who died in December.

Deutsche Bank analyst Bill Lerner called the benefits for Wynn Resorts "huge," and said they demonstrate the benefit of operating in a "limited license environment."

Until two years ago, when Las Vegas Sands Corp. and Wynn started entering the Macau market, there had been a half-century monopoly controlled by Stanley Ho.

"There is going to be a lot of new supply in the next four or five years. Entering that market now has given them a huge advantage. The outlook (for Wynn) has never been better, including in Las Vegas when revenues are strong despite have a single (hotel-casino) operation)," Lerner said. "There is going to be a lot of new supply in the next four or five years. Entering that market now has given them a huge advantage. The outlook (for Wynn) has never been better, including in Las Vegas when revenues are strong despite have a single (hotel-casino) operation)."

Without the subconcession sale, total net income for the group would have been $504.9 million in the quarter just ended, up 25 percent from a year earlier.

In addition to the subconcession sale, Wynn and Station Casinos both have added new properties and Las Vegas Sands has expanded operations in Macau, all adding to net income.

However, Matthew Jacob, senior gaming analyst with Wall Street-based Majestic Research, said that has left Boyd Gaming Corp. and Station Casinos with serious cases of indigestion as they try to absorb increased capacity.

Lerner called that "a little bit of a tale of two cities: the Las Vegas Strip and the locals market."

"Despite anemic visitation growth, (investors have been) pleasantly surprised to see strong gaming revenue growth despite strong comparisons (in comparable quarters over the last two years). It's been pretty impressive," he said.

The glitch is that value customers are not showing up or spending in line with expectations, although the high end of the market in growing in big ways, Lerner said.

"As that relates to the locals market, there are some near-term digestive problems, especially with Red Rock, although they are likely to work themselves out over the next six to nine months," he said.

South Coast, Red Rock Resort and the $235 million expansion of Green Valley Ranch Resort have opened in the past year.

The other Big Six companies are Harrah's Entertainment and MGM Mirage, each of which experienced only single-digit net income growth.

Brian Gordon, a partner in local financial consultants Applied Analysis, said the third quarter finally represents an "apples to apples" comparisons of how the two giants are doing, compared with each other and other industry giants.

Both completed major mergers more than a year ago and have wrapped synergies, revenue gains and cost savings into their financial performance, he said.

Yet the two are trailing the Big Six, with Harrah's gaining 4 percent in revenue and MGM Mirage just 2 percent in revenue.

Ruggiero conceded the gaming industry's performance has been slower than in recent quarters, but he said high-double-digit rates of growth are impossible to sustain.

The Big Six's combined earnings before interest, depreciation, taxes and amortization, or cash flow, should be about $1.7 billion, up 6 percent; the group's revenues should pass $6 billion, up 7 percent.

Gordon said that adds up to a healthy performance, simply weaker than the industry has seen in the past two years.

"Consumer spending in Las Vegas has increased faster than visitor numbers. The numbers have remained flat, consistent with room inventory," he said. "But operators have been able to compensate some with room rates and amenities."

Despite the anemic performances compared with recent quarters, Jacob said, the third quarter and second half of 2006 should reassure investors, thanks to a turnaround from even weaker results in the second quarter.

Rebounding gaming numbers and a strong September are leading analysts to expect better results out of Las Vegas, he said.

That improvement should come even as Station and Boyd continue to wrestle with added capacity in their locals segment, Jacob said.

Red Rock Resort, in particular, is cannibalizing other Station properties for now, but the trend should even out by year's end as customers grow accustomed to the new resort, he said.

Boyd's prospects, however, may be a little rougher, Jacob said, as the company does not have the same quality inventory or capacity to fall back on as Station.

Lerner emphasized that in the longer term, gaming industry fundamentals are strong.

Gordon said that for now, we are seeing the market stabilize with little new capacity coming on line.

"But investors are going to be looking forward to late 2007 when the Palazzo (at The Venetian) opens," he said.

That likely will be followed with another wave of expansion, with MGM Mirage's Project CityCenter and Boyd Gaming's Echelon Place, opening in the following two years, he said.

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