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LVS: IT MAY BE ABOUT EBITDA MARKET SHARE

With the departure of Steve Jacobs, look for LVS to play up the positive Macau outlook. LVS’s EBITDA market share, rather than revenue share, should be the focus.

 

 

On the margin, Marina Bay Sands should still be the major stock catalyst in LVS’s upcoming earnings release (Wednesday).  Even though Macau is the largest revenue and EBITDA contributor, we already know the Macau revenues.  With the detailed breakdown – Mass, VIP, VIP hold %, etc. – in our possession, we should once again get close to quarterly Macau EBITDA. 

 

However, we think there will be another interesting dynamic to LVS’s Q2 earnings release and conference call.  Steve Jacobs, CEO of Sands China, was dismissed recently.  Therefore,  Sheldon will probably be inclined to assuage investors that there is nothing to worry about.  We expect LVS will be extra bullish about the Macau outlook and may even introduce a new metric:  EBITDA market share. 

 

LVS generated an estimated 33% of Macau’s casino/hotel EBITDA in 1Q2010, much higher than its 21% revenue share.  With its revenue share in decline, it seems prudent to focus on the more important metric of EBITDA.  Look for management to really play up this angle and for investors to eat it up.  Even in this metric, however, their share has declined, down from 41% last year.  Although to be fair, City of Dreams, L'Arc, and Oceanus were not open for the full year 2009.  See the chart below for Q1 EBITDA shares:

 

LVS: IT MAY BE ABOUT EBITDA MARKET SHARE - EBITDA

 

Back to Steve Jacobs again, there is no doubt that he did a great job cutting costs and focusing the properties on higher margin Direct VIP and Mass business.  We agree with our Macau sources that the operating team is strong enough to offset the Jacobs loss.  However, where shareholders may miss Jacobs is in Jacobs' focus on serving all of Sands China shareholders rather than just the majority shareholder – LVS – and in the development of Lots 5 & 6.  Nonetheless, these are longer term issues and while important, may not be in most investors’ line of sight right now.


MPEL YOUTUBE

In preparation for the MPEL Q2 earnings release on July 28th, we’ve put together the pertinent forward looking commentary from MPEL's Q1 earnings release/call.

 

 

Q1 Conference Call

  • For 2Q, "Depreciation and amortization cost is expected to be approximately US$77 million.  Net interest expense in the second quarter is expected to be approximately US$20 million.  Preopening expense will be approximately US$4 million, which is primarily related to The House of Dancing Water."
  • "The increase in our mass-hold percentage [from 16 to lower 20s] is sustainable, real and driven entirely by the fundamental improvement to our business.... our stated range of 18 to 20 is the right guidance, I think we’ve been at the upper end of that."
  • "We will continue to drive additional benefit going forward by pushing occupancy at Grand Hyatt into the 90% plus level.... About 85% of the occupancy in the hotel is represented from Hong Kong or PRC with the rest of it from other markets to date. So, we expect to grow occupancy in there quite strongly into Q2."
  • "We expect to derive the majority of our EBITDA of City of Dreams from the mass market going-forward."
  • "I will venture that I have confidence in preserving a substantial portion of the low market priced bank debt facility, which fully matures in 2014, will allow us to construct a refinancing that will keep our blended cost of debt below that of most of the other global gaming companies.... our debt will drop down to 150bps over, substantially below any market price, which had just clearly been established at 450 over by one of our competitors.... We will complete a refinance transaction during 2Q."

IGT YOUTUBE

In preparation for IGT's FY Q3 2010 earnings release on July 27th, we've put together some forward looking commentary from the company's FY Q2 and subsequent conferences.

 

 

“IGT has moved into probably another state in its life as a company and a lot of focus being put on every aspect of what we do from game development to how we spend money on market development to how we manage our inventory, so a lot of work being done around working capital, how can we collect our receivables faster, pay our vendors over longer terms etc. And those efforts are all starting to produce some good returns for us now. And of course our end goal as always is to try and get back to 30% operating margins, which historically has been where the company has operated.”

 

 

FQ2 Forward Looking Commentary

  • “Approximately 83% of our installed base is comprised of variable fee games, which earn a percentage of the machines play levels rather than a fixed daily fee.”
  • “Product sales gross margins were 46% for the quarter, down 200 bps from the prior year quarter, primarily due to higher obsolescence that incurred in the current year quarter, including write-downs related to the closure of our Japanese operations.”
  • “While we continue to have limited visibility around replacement demand, we are encouraged by the recent uptick in demand as well as the quality and innovation of our product sales segment.”
  • “Our international markets benefited from the opening of Resorts World Sentosa in Singapore, improved sales in Europe, and favorable foreign currency exchange.”
  • “Going forward, we expect product sales gross margins to trend within a range of approximately 48 to 50%,depending on product sales mix.”
  • “We continue to move towards our goal of the previously announced 200 million of cost savings. And compared to the fourth quarter of 2008, we feel that we’re on track to achieve our cost reduction goals as we move throughout 2010 and exit the year.”
  • “We expect quarterly SG&A run rate to be 90 to 95 million.”
  • “We expect quarterly R&D run rate in the low 50 million area.”
  • “The decline in total depreciation and amortization was primarily due to lower depreciation in our domestic MegaJackpots business and in our Mexico lease operations. Please note that some of this will come back as we refresh our installed base of assets.”
  • “We expect non-cash interest of approximately 30 million, 19 million after-tax or $0.06 per diluted share for fiscal 2010.”
  • “We expect our quarterly tax rate to trend at approximately 37 to 39% before discrete items.”
  • “Patti mentioned our success with Sex and the City, Amazing Race and Top Dollar… As of March 31, our backlog for these three themes plus the recently released Wheel of Fortune Experience stood at 2,153 units.”
  • “In the first two quarters of 2010, for our for-sale business, we have released 80 game titles compared to 30 titles during the same period in 2009. These included an even mix of spinning reel and video slot games. Some exciting new titles include Pirate Bay, Kodiak King, and Majestic Seas. We anticipate another 50 to 70 titles to be released through the remainder of this fiscal year. And as of April 19 we have 3,200 games in the backlog.”
  • “With a seasonally slow first half of the year behind us, we are looking forward to an increasingly clearer view of the industry prospects for the reminder of the fiscal year.”
  • “Our guidance for 2010 has changed to a range of $0.77 to $0.85 per diluted share.”

Post Earnings Conference Commentary

  • “What we are trying to do, one of the areas of efficiency that we have really identified, is how can we extend the life of those boxes and the whole setup so that you can run multiple brands or games across it”
  • “Shrinking the number of cabinets, the form factors we support, and then further limiting the optionality on each of those platforms. What we realize is that we built a lot of unnecessary complexity into our business, when you think about offering an operator a choice of a 100 different laminates on the side of a cabinet. And then you take that and run it all the way through your systems internally, and look at how complicated a bill of materials or a sales order becomes. And so we have had a big effort there, and I think we are getting towards the implementation side of that. So hopefully you’re going to see the benefits of that start to show up in improved efficiencies.”
  • “We are getting more and more active in the online space. Because it’s clear that  where our businesses are all headed is the Internet, and mobile and televisions are going to play a very important role in what we do. We are getting more and more customers asking us to help them with their internet strategies, given that we own an internet gaming company on WagerWorks, and then we have mobile gaming company called Million-2-1. Heretofore, we have largely been confined to the UK, because it’s the only market that today has been real clear that it’s legal. However, you’re seeing Internet gaming now being adopted in France, Italy, Spain. And so where – you’re going to see us become more aggressive, particularly in continental Europe, as it relates to this.”
  • “A big focus is replacing all the lower performing games that are in. We have about 60,000 machines that we own around the world. Not all of those are top earners, and so we are really focused this year on churning out the lower performing product, replacing it with products that have demonstrated they really work, like Sex and the City and others. So that as we go in to fiscal ‘11, we’re well positioned with a real solid base to then start getting aggressive about growing that base again.”
  • “The focus currently is on paying down debt, getting our leverage ratio down, and maintaining investment grade.”
  • Replacements and install base of sale games: “For us, we think it has to uptick at some point before too long for no other reason than those roughly 500,000 previously sold IGT machines that are out there are pretty old technologies.” 

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Potential Inflection Points In Brazil

Conclusion: There are a number of potential positive catalysts on the horizon which would be bullish for Brazilian equities.  Any combination of these catalysts will likely provide substantial upward pressure on the Bovespa – especially with a hoard of “value investors” sitting on the sidelines waiting to deploy capital. 

 

Brazilian equities are a value investor’s dream: the 65-stock Bovespa trades around 11-12 times NTM earnings vs. ~17 times for India’s SENSEX and ~15 times for China’s Shanghai Composite. It even trails Mexico’s Bolsa (which we are short), which trades at ~14 times NTM earnings. As we say at Hedgeye, however, valuation is not a catalyst. Keeping this in mind, it is important to understand that the Bovespa is “cheap” for a reason. Those reasons include: uncertainty over the regulatory and investment environment brought on by the upcoming election, an overdependence on agricultural trade, and an oversupply of equity issuance. Below, we dive into each of these issues and the potential catalysts that might create bullish inflection points for Brazilian equities.

 

Issue: Investment Uncertainty/Catalyst: Jose Serra wins the upcoming Presidential election.

 

Investors are concerned that Dilma Rousseff (current President Lula’s hand-tapped successor) will continue to accelerate government intervention with Brazilian corporations. These fears are exacerbated by her vow to continue onward with more social inclusion, which effectively translates into even bigger government. As head of the Government Accelerated Growth Programmes (PAC I & PAC II), she is directly linked to what will amount to over $500 billion (33% of GDP) of planned infrastructure spending over the next five years. While the progress of the PAC’s and the outlook for Brazilian Infrastructure is the subject for a future debate, we do contend that Rousseff’s direct ties with these programs will likely force Brazil to keep the Selic rate at elevated levels to continue attracting foreign capital to government debt in order to finance these investments. Her promise to lower taxes will likely exacerbate this outcome, as government revenues slow from current record levels.

 

The obvious problem to a Rousseff-led Brazil is the lack of a multiplier effect brought on by increased government spending. Moreover, elevated interest rates will continue to hold back the pace of private sector investment, of which there is strong demand for, as evidenced by last week’s $1.93 billion purchase of a 30% stake in a unit of Usiminas (Brazil’s second largest steel mill) by Japan’s Sumitomo. Enter Jose Serra, Rousseff’s opposition for the Brazilian Presidency. Serra, who has a reputation for managerial efficiency and fiscal austerity, is in heavy contention with Brazil’s high interest rates and would likely attempt to have them lowered to unprecedented levels after reducing the wasteful spending that has plagued the Brazilian government. According to O’Globo, Brazil’s tax revenue is roughly 36% of GDP (~ Germany), but the return on government spending is akin to a country with tax revenues of only 20% of GDP (~ Chile).

 

In addition to fostering higher levels of domestic consumption, a lower Selic rate will create more-attractive valuations of current cash-flow opportunities by Brazilian businessmen, which will lead them to take in more foreign direct investment. As traditional economics teaches us that savings = investment globally, Serra would likely try to create a pro-business environment where Brazilian companies are able to profitbaly take advantage of China’s wealth of FX reserves ($2.45 trillion). China has invested over $2 billion YTD in the Brazilian mining industry and $10 billion last May to help Petrobras develop Brazil’s vast pre-salt oil fields. A business-friendly interest rate environment will increase the amount of foreign capital going directly to Brazil’s private industries, where such dollars have a multiplier effect. And, as we have seen earlier this year, Brazilian companies have not been afraid to walk away from capital markets when borrowing costs are too high. All told, a Jose Serra-led administration is more bullish for Brazilian equities than a Dilma Rousseff Presidency. A recent Ibope poll showed a tie in voter support at 39% each. We’ll continue to watch the campaign process closely to uncover more clues as to who will win this very important race.

 

 Potential Inflection Points In Brazil - Brazil Investment as a   of GDP

 

Issue: Overdependence on Agricultural Exports/Catalyst: Commodity reflation brought on by either a) continued dollar debasement or b) a relaxation of Chinese policy.

 

It’s no secret that Chinese demand largely led the world into recovery in 2009, and Brazil, a top agriculture and minerals producer, gladly went along for the ride – so much so that China overtook the U.S. in 2009 as Brazil’s top trade partner, absorbing $28.3bn of Brazilian exports. Brazil’s economy benefited greatly from the rapid growth of China’s construction industry, led by a massive expansion in domestic credit. Unfortunately for Brazil, the dollars brought in their exports have a significantly low multiplier effect on the Brazilian economy, as they are used to employ low-skilled labor in a shortened production chain. 76.8 percent of Brazil’s exports to China were commodities, including soybeans, iron ore, and oil. All told, commodities make up over 50% of Brazil’s exports (vs. only 37% in India and just 7% in China).

 

Now, with China tightening policies within its construction sector, Brazilian exporters are suffering, which is one of the reasons the Brazilian government announced a policy to subsidize exports to any exporters who derived at least 30% of their revenue from exports. Furthermore, the Bovespa’s woes can also be traced to a decline in commodities over the previous three months, as Brazilian equities continue to be highly correlated with commodity prices (especially with names like Vale and Petrobras dominating the float). The Bovespa, down just over 4.5% since the end of March has positively correlated r-squareds of 0.87, 0.79, and 0.88 with oil, copper, and the CRB Index, respectively, over the same duration. The Hedgeye Risk Management quant models continue to have oil and copper broken on a TREND, which suggests that the recent REFLATION we’ve seen brought on by the near 4% decline in the Dollar Index over the past month is not strong enough to counter waning Chinese demand for commodities. We’ll continue to watch closely to see how copper and oil trade, as a sustained breakout of one or both above their TREND lines will signal to us that growth commodities and perhaps Brazilian equities have caught a bid. Moreover, any relaxation by the Chinese government in their tightening policies would be very bullish on the margin for commodities and Brazilian equities.

 

 Potential Inflection Points In Brazil - Bovespa

 

Issue: Equity Supply Glut/Catalyst: The Brazilian government sells its oil reserves to Petrobras at the low end of the range.

 

An oversupply of equity issuance also has many investors worried about the potential dilution of potential returns to Brazilian stocks. After having Banco do Brasil SA add $5.4 billion of equity supply to the market, Petrobras, Brazil’s state-run oil company, is looking to raise $25 billion in September to help finance $224 billion in investment over the next five years. With Petrobas being one of the largest companies listed on the Bovespa, its recent ~24% decline in market capitalization has dragged the entire index down alongside it. The near $48 billion of lost market cap is the direct result of uncertainty surrounding the government’s pricing of oil reserves it will sell to Petrobras in exchange for stock. The offering was delayed by two months because the government required more time to determine the value of the oil, which will determine the size of the share sale. All told, the offering has the potential to be the largest in the Western Hemisphere since at least 1999. One needs to look no further than the Shanghai Composite (down 21.5% YTD) to get a sense of what happens to the underlying index when there’s an influx of new supply brought to the market. The only positive catalyst we see here is if the government undercuts estimates for the oil reserves and Petrobras sells less equity than currently feared. Even then, that benefit would just be on the margin.

 

In short, despite last week’s 6.4% gain, Brazilian equities continue to be in quite the conundrum from a directional standpoint. There are, however, a number of potential positive catalysts on the horizon which would be bullish for Brazilian equities on their own. Any combination of these catalysts will likely provide substantial upward pressure on the Bovespa – especially with a hoard of “value investors” sitting on the sidelines waiting to deploy capital.

 

Stay tuned.

 

Darius Dale

Analyst


THE FOREST OR THE TREES: EXISTING HOME SALES & NEW HOME SALES

Bottom line - Inventories Are Rising & Better Than Expected Sales Are the Calm Before the Storm

June existing home sales were better than expected due to the continued effect of the April 30 tax credit expiration pull-forward. June sales came in at 5.37 million (seasonally adjusted annualized rate) down 5.1% from 5.66 million in May, as compared with consensus expectations for a decline of 7.7%. Remember that this June print is a lagging indicator as it reflects deals closed two to three months ago (Apr/May) because of the 30-60 day lag between signing and closing. We would expect the next 3 months of data to get very steadily worse.  Moreover, the Administration may be moving in a direction away from supporting homeownership. This was profiled in a Washington Post article yesterday which we summarize and provide a link to at the end of this note.

 

Summary

Inventories of homes for sale rose this month on both a units and months basis. Inventory rose to 3.99mn units from 3.89mn units in May, a 2.6% increase. We think inventory levels are particularly important as these are the unknown in the price equation. In other words, these sales numbers are lagging - we already know what they'll be based on purchase applications that come out almost in real time, but the inventory numbers are new and there is no market proxy for this, so the uptick in inventory in June is very significant and sows the seeds for an 11-12 month supply figure in the next two months, which should be a wake-up call to the market that the housing market is poised for further decline.

 

Another way of putting the current environment in context is comparing it to the comparable period following the first tax credit stimulus. In other words, how does it compare with the average of the November & December 2009 prints of 5.96mn. Against that measure, sales are down a considerable 10% (5.37). Remember, the original tax credit expired in November, 2009. The current credit (for closing) expires September 30 (April 30 for signing), which means the average of November/December 2009 should be comparable to June 2010 (which reflects April/May activity).

 

It's clear that tax credit round two is having a less substantive effect on sales than round one did back in late 2009.

 

THE FOREST OR THE TREES: EXISTING HOME SALES & NEW HOME SALES - home sales  1

 

THE FOREST OR THE TREES: EXISTING HOME SALES & NEW HOME SALES - home sales  2 

 

Inventory, on a units basis, rose 2.6% to 3.99 million units from 3.89 million units in May.

 

Inventory, on a months supply basis, rose to 8.9 months from 8.3 months last month. While inventory is up this month, it is well below where inventory is headed because its keying off a still artificially high June 2010 sales rate. If we assume that the same dropoff in sales occurs following this tax credit expiration as followed the last tax credit expiration we can expect to see a sales rate of 4-4.25mn a few months from now. Meanwhile, inventory is at 3.99mn units. In other words, inventory should rise to 11-12 months or higher in the next few months.

 

THE FOREST OR THE TREES: EXISTING HOME SALES & NEW HOME SALES - home sales  3

 

THE FOREST OR THE TREES: EXISTING HOME SALES & NEW HOME SALES - home sales inventory

 

THE FOREST OR THE TREES: EXISTING HOME SALES & NEW HOME SALES - inventory long term months supply 

 

Our view is that this pull forward of activity is setting the stage for a much weaker-than-usual summer housing environment. Housing-sensitive stocks could be at risk heading into the 2H10 and 2011 time frame.

 

We have an extensive report on this topic. Contact or reply to this email for further information.

 

Washington Post Reports Obama Will Back Away From Support of Housing Market

On another note, there was an article in yesterday's Washington Post entitled "Obama's next focus of reform: Housing Finance" (link provided below), in which author Zachary Goldfarb reports that the Obama Administration will do an about-face on housing in the not-too-distant future following the passage of FinReg. According to Goldfarb, the Administration will back away from the oft-touted Clinton and Bush Administration maxims that homeownership for the sake of homeownership is good, and will implement new policies that would favor low-cost renting as opposed to owning, such as winding down government support for home loans. The author cites Raphael Bostic, a senior HUD official, as saying "In previous eras, we haven't seen people question whether homeownership was the right decision. It was just assumed that's where you want to go. You're not going to hear us say that." That said, Goldfarb quotes another Administration official - Andrew Williams, Deputy Assistant Secretary for Public Affairs - saying "You are overreading some kind of hard pivot here."

 

We would encourage investors to read the article directly rather than our summary above:

 

http://www.washingtonpost.com/wp-dyn/content/article/2010/07/20/AR2010072005946.html?wprss=rss_business

 

New Home Sales Rise Vs. the Lowest Reading Ever Recorded - Is This Really a Catalyst?

Yes, new homes sold in June rose to a seasonally-adjusted annualized rate of 330k, up 23.6% from a downwardly revised May print of 267k (revised from 300k). Should we get excited? Relative to bearish sentiment, perhaps this is good news, but we think it's temporary and doesn't change the bigger picture. As the following chart shows, new home sales of 330k are the fifth lowest reading ever recorded and squarely in the bottom of the range this data series has seen. While it's true that less bad is good, the relevant question is duration. Investors should ask themselves, if new home sales remain in a ~300k range +/- 30k for the next several years, as we think they will, will that be good enough for the stocks to work on any duration longer than the short term?

 

The housing market has caught three positive datapoints in the last week. MBA mortgage purchase applications posted a 3% sequential rise last week. Existing homes sales data released on Friday came in better than expected, and this morning new homes sales data showed month-over-month improvement. We think this string of positives has managed to give a nice short-term lift to all housing-related sectors. By way of example, the XHB homebuilder ETF is up 12.2% off its July 2 low after falling 28.6% off its April high. This retracement is setting the stage for the Second Act.

 

The one positive we'll afford the new home market is that inventory is low. In fact, it's at an all-time low of 210k. Clearly this is positive. The question, however, is whether sales come back to anywhere near where analysts think they will in a  2-3 year timeframe. We don't think so. For further information, refer to our recent note examining the concept of cumulative displacement of new home sales in this cycle relative to prior cycles.

 

THE FOREST OR THE TREES: EXISTING HOME SALES & NEW HOME SALES - new home sales 2007 present

 

THE FOREST OR THE TREES: EXISTING HOME SALES & NEW HOME SALES - yoy

 

THE FOREST OR THE TREES: EXISTING HOME SALES & NEW HOME SALES - invnetory

 

 

Joshua Steiner, CFA

 

Allison Kaptur


MACAU JULY ACCELERATING

We estimate table revenue run rate for July is now around HK$15.7 billion which would put total gaming revenue, including slots, at HK$16.4 billion, up 76% YoY.

 

 

It looks like July has accelerated in Macau over the past 2 weeks based on the following numbers through July 25th.  We estimate table revenue run rate for July is now around HK$15.7 billion which would put total gaming revenue, including slots, at HK$16.4 billion, up 76% YoY.   We assume acceleration from the HK$499 daily run rate experienced over the first 25 days, since the World Cup slowed things down in the beginning of the month.  Our estimate mid-month was HK$15.2 billion.  Market shares shifted a bit since our last update on July 18th with MGM and MPEL gaining share and Wynn losing share.  We suspect the shifts were hold related.

 

MACAU JULY ACCELERATING   - MACAU


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