Gambling on Macau

07/03/2008 12:00 am EST

Focus: GLOBAL

Jim Trippon

Editor-in-Chief, China Stock Digest

James Trippon, editor-in-chief of China Stock Digest, likes an indigenous Macau casino operator that more than holds its own against Las Vegas’ biggest names.

Ever since the Ho family’s absolute monopoly on gambling in Macau was broken in 2002, this region has become a gambling Mecca like no other. That includes Las Vegas. Macau’s casinos have already surpassed the entire Las Vegas Strip in total revenues collected.

Simply put, the Chinese love to gamble, and the combination of their new freedoms and new wealth have uncorked a gusher of revenue. We like Melco Crown Entertainment (Nasdaq: MPEL) in particular. The company has delivered industry-beating earnings growth in the booming Macau gaming, entertainment, and hospitality industries.

The company’s recent reorganization has lifted it from a loss to profitability. Net revenue for the first quarter of 2008 was $482.9 million, up from $179.8 million in the fourth quarter of 2007. That’s a 267% jump!  Net income for the first quarter of 2008 was $43.2 million, compared with a net loss of $36.5 million in the fourth quarter of 2007.

In a few short months the company’s key asset, Crown Macau, has become the busiest casino in the world in gaming volume. Melco’s properties are competing against the likes of Las Vegas Sands (NYSE: LVS), Wynn Resorts (Nasdaq: WYNN) and a giant new Venetian gaming resort.

Macau’s government announced in April that it would rein in the booming gaming industry by halting the issue of new licenses and by freezing land allocations for the construction of more casinos. This is a huge boon to the companies that own existing licenses. Macau currently allows six companies to operate 29 casinos in the enclave. In short, future competition has been blocked.

Melco has achieved its exciting profitability growth at a time when it’s engaged in a rapid and highly innovative expansion program [of] a second casino project under development called the City of Dreams, [whose] first phase is due to open by the end of March 2009.

When fully opened, the City of Dreams will offer approximately 2,200 guest rooms. Visitors will not only enjoy a wide range of restaurants and bars but also entertainment options that include free attractions. The company also has ambitious plans for a yet-to-be-named hotel-casino complex on the prime real estate of the Macau peninsula.

Melco Crown Entertainment is richly priced with a P/E multiple estimated at more than 50x, but that figure is still cheaper than the industry standard and well below the multiple of Las Vegas Sands.
 
The stock is well below its 52-week high of $19.09 and only a small percentage above its 52-week low of $8.20. (The ADRs closed at around $8.40 Wednesday—Editor.) We believe the company’s performance and potential have not yet been recognized by the markets. Therefore we recommend MPEL as a Buy at a buy-up-to price of $11.50 with a target Sell price of $20. We have set $7.50 as the “profit protector” Sell stop.

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