Leading regional independent brokerage and investment group CLSA Asia-Pacific Markets recently released its outlook for the Macau gaming sector up to 2020, titled ‘Raining Cash’. Last month, we published the key forecasts of authors Aaron Fischer, Richard Huang, Jon Oh and Clifford Kurz. In this second extract from the report, further light is shed on the market characteristics underpinning the bullish expectations
Our positive view on Macau gaming stems from the sector’s high medium-term earnings growth and visibility, which is a function of robust demand but, more importantly, limited competition, low risk of new entrants and the government’s control on new supply.
Scarce supply of competing markets and tables
Over the next decade, Macau and Singapore will remain the only two major gaming destinations in the region, serving billions of Asian gamers. Japan could be the next meaningful market. Meanwhile, we believe it is unlikely for the Chinese government to legalise gaming anywhere within the country, including island destinations such as Hainan.
The table-cap policy, effective till March 2013, will limit the number of gaming tables in Macau to 5,500. The Secretary of Economy and Finance, Francis Tam, has guided for 3-5% table growth per year after the table cap expires.
Over the next 10 years, casino tables will remain scarce as growth in demand continues to outpace that in supply: we forecast gaming revenue to increase by 11-25% and table supply by 0-5%. Competitive intensity will be limited in an environment with only moderate supply growth, where casino operators are likely to be less concerned about maintaining revenue share, provided that they could meet their internal cashflow or Ebitda targets. Ramping up short-term earnings to meet debt covenants is no longer an issue.
Arguably, committed investments could be viewed as a proxy to competition intensity. Putting this into context, over the past five years, casino operators have invested US$24bn in the Las Vegas gaming market, whose revenue is likely to reach US$6bn in 2011 and remain flattish for some time. In China, local and global multinationals have also made aggressive investments in a wide range of consumer products by existing players and new entrants. Increasingly, global consumer companies need to have a “China strategy” to accelerate growth and justify their high earnings multiples.
However, investments in Macau have been constrained for a number of reasons. First, most of the gaming companies operating in the market did not have sufficient financial capacity to invest—in fact, there were real concerns that some of them would be forced into bankruptcy. Sands China delayed construction of sites 5 and 6 (which has been renamed Sands Cotai Central this year and is slated for opening in 1Q12) and did not break ground on other sites. Second, we believe Macau’s current government has a more cautious approach towards planning permissions than the previous administration, from which the Secretary for transport and Public works was sentenced to prison for 27 years. Third, the government announced a ceiling for casino tables in March 2010 and has appeared to be less willing to issue foreign-worker permits.
As a result, the sector only saw US$13bn in investments over the past five years, with expected gaming revenue of US$34bn in 2011. Without the above restrictions and if there was scope for new entrants or easy approvals for expansion by existing operators, we imagine the Cotai area would probably be completely covered in cranes with five to 10 casinos set to open within the next few years to capture the huge growth potential.
We view Macau as a levered play on China’s growth story. Over the past 12 months, 57% of its tourist arrivals came from the mainland, notwithstanding those visiting the islands via Hong Kong. Macau will continue to benefit from China’s strong consumption and outbound tourism growth, which will drive secular gaming demand. Over the years, we have run many correlation charts and believe the China Purchasing Managers’ Index (PMI) shows the highest correlation to Macau gaming revenue. In contrast, we do not believe luxury-auto sales or liquidity are accurate leading indicators.
Over the past two decades, China’s annual disposable income has enjoyed nearly 10% growth. The bar graph on page 15 shows that people in the highest income bracket (ie, decile 10) enjoy the strongest income growth, while those in the lowest bracket (ie, decile 1) see the least. Going forward, we expect this disparity to widen.
The superior income growth higher-income groups have enjoyed is the main driver behind the surging demand for luxury goods and gaming. On the back of the government’s determined effort to stimulate private consumption, we remain bullish on China’s consumer sector, especially the luxury-retail and gaming segments.
To benefit from renminbi internationalisation
Internationalisation of the renminbi, which is likely to result in appreciation of the currency, should also drive growth in consumption, outbound tourism and, therefore, Macau.
Historically, the appreciation of the Japanese yen has resulted in significant increases in the country’s outbound tourism. Over 1970-2000, strong currency appreciation pushed resident departure as a portion of population up from less than 1% in 1970 to 14% in 2000. We expect the renminbi to appreciate 5.5% and 6.5% in 2011 and 2012. A stronger yuan is likely to have the same positive impact on Chinese outbound tourism.
Furthermore, travel penetration in China remains very low, at similar levels to Japan in the 1980s. Thus, there is still ample potential for the mainland tourism market to grow. Macau, as a popular destination within the country, should see further growth as Chinese people continue to travel abroad.
Macau has been a beneficiary of renminbi internationalisation over the past six years. The line graph on page 16 show its gaming-revenue growth has been highly correlated to the year-on-year appreciation of the yuan. The relationship slightly derailed in 1H10 when the Chinese government attempted to fend off hot-money inflow, which drove the currency down. The movement of the two has quickly aligned as Beijing resumed the gradual appreciation of the renminbi.
Infrastructure—key to Macau’s growth
Integrated resorts, infrastructure improvements and hotel rooms are also needed to support the next leg of growth in Macau’s gaming market.
Integrated resorts are crucial in enhancing the attractiveness of Macau, while the Cotai properties, once completed, should boost visitor arrivals. Improved infrastructure will shorten the travel time to Macau. Finally, hotel rooms are important for overnight visitors and better-quality accommodation at reasonable rates will attract more tourists to stay for longer in Macau.
Integrated resorts to more than double
Currently, there are four integrated resorts (IRs) on Cotai: The Venetian, Four Seasons, City of Dreams and Galaxy Macau.
The number of IRs on Cotai should more than double over the next decade, with the completion of Sands Cotai Central, Macau Studio City, SJM Cotai, MGM Cotai and Wynn Cotai. This will boost growth in Macau’s tourism and gaming industries. Sands Cotai Central (formerly known as sites 5 and 6) would be the next addition to Cotai Strip, expecting to open in 1Q12 and will then gradually ramp up throughout the year. Wynn Macau has reached an agreement with the government regarding a plot on Cotai, while Macau Studio City, SJM and MGM are still actively engaging with the government. These projects are likely to open over 2015-18. Meanwhile, some large IRs are pending government approval to start construction.
After these projects are completed, there will still be plenty of vacant sites available on Cotai, especially if we were to consider that the government is only allowing 3-5% table growth between now and 2020.
New infrastructure to drive visitor growth
Numerous infrastructure projects are underway and some should be completed by 2015. The Guangzhou-Zhuhai intercity mass transit and the Hong Kong-Zhuhai-Macau Bridge will help connect the major cities in the Guangdong province, allowing visitors to travel from Guangzhou to Macau in less than an hour. The construction of the Shenzhen-Hong Kong express rail link will connect Hong Kong/Macau to China’s high speed-rail network, allowing non-Guangdong tourists to visit Macau conveniently. Expansion of the Zhuhai airport will also help drive visitor flow from North China to Macau.
The new projects will seamlessly connect major cities in Guangdong, creating a business cluster that houses 30 million people (30% of the province’s total population). People’s mobility across the region will be enhanced, driving visitor inflow for major tourism destinations like Macau.
Another major development is the Hong Kong-Zhuhai-Macau Bridge, which will connect the west side of Hong Kong to Macau and the Chinese city of Zhuhai, which is situated on the west side of the Pearl River Delta. Construction formally began on 15 December 2009 and it should be completed in 2015-16. It will shorten the distance between Hong Kong and Macau/Zhuhai from 60km to 30km, and reduce the journey time by half an hour, for an estimated charge of Rmb100-150 each way.
The Guangzhou-Zhuhai intercity mass transit that was completed in January 2011 will also help drive citizens from other parts of Guangdong to Macau. The highspeed intercity railway links between New Guangzhou Station in Panyu, Guangzhou and Zhuhai Airport in Zhuhai, via Shunde, Zhongshan and Jiangmen, in Guangdong. The railway began operation in January 2011, with official services running between Guangzhou and Zhuhai North, fare ranging Rmb36-44. Travelling between Guangzhou South and Zhuhai has now been shortened to 46 minutes through nonstop services/76 minutes (including all stops).
The Shenzhen-Hong Kong expressway link is part of the high speed-rail project of the central government that aims to connect major cities across the nation. Expressways that link Shenzhen and HK are scheduled for completion by 2014. The 32.8km, six-lane expressways link eastern Guangdong with adjacent provinces of Fujian and Jiangxi via the Shenzhen-Huizhou and Shenzhen-Shantou expressways. With the completion of the link, travel time from Hong Kong to the eastern part of Shenzhen will be cut by 30 minutes.
Full connection between Zhuhai North and Zhuhai airport is scheduled for completion by October 2011, with travel between Zhuhai (Gongbei) and Zhuhai Airport reduced to 25 minutes. As such, travelling time from Guangzhou to Cotai checkpoint will yield about 55 minutes and to Zhuhai airport in less than an hour.
Currently, a majority of the inbound tourists to Macau still enter the city via Guangdong. Other major provinces account for a rather insignificant portion of Macau’s visitor arrivals.
The visitor-arrival mix of Macau contrasts starkly to China’s population distribution. Guangdong makes up over half of the Chinese tourists to Macau, despite accounting for less than 10% of the nation’s total population. With the completion of various major transport infrastructures, Macau’s reliance on Guangdong visitors should gradually decrease, which should drive further growth in its tourists arrival.
Hotel rooms—50,000 by 2020
Hotel rooms are also needed to attract a greater number of overnight visitors and to increase their length of stay in the city.
As the bar graph above highlights, Macau is undersupplied in hotel rooms. There are four hotel rooms per thousand tourists in Las Vegas and more than two per thousand tourists in Singapore and Hong Kong. However, there are only 0.8 hotel room per thousand tourists in Macau.
The absolute hotel count also highlights Macau’s shortage in hotel rooms. There are near 150,000 and 70,000 hotel rooms in Las Vegas and Hong Kong. Currently in Macau, there are only 20,000 hotel rooms.
The strong demand for and limited supply of hotel rooms in Macau have resulted in high occupancy and average daily room (ADR) rates. A night at Starworld hotel costs over HK$1,200 (US$150), while The Venetian is charging an average room rate of over US$200. Despite the high rates, occupancy remains at high levels. Even during the global financial crisis, Starworld and The Venetian reported hotel-occupancy rates of over 75%.
In 1H11, hotels in Macau achieved occupancy rates of 81-88%. Hotels in casinos outperformed the overall market by achieving 87-97%. Four Seasons was the outlier, as the hotel-management group purposely traded off occupancy for higher room rates. With the strong hotel demand in Macau, room rates have averaged US$170-330 per night.
The lack of hotel rooms have limited tourists’ length of stay in Macau, as they either find it difficult to get a hotel room or are turned off by the high room rates. The figure on the right highlights that the average length of stay of tourists in Macau is a lot shorter than in other international tourist destinations. Visitors to Singapore, Las Vegas and Hong Kong on average stay for about four nights. Visitors to Macau, however, spend on average only 1.5 nights in the city.
The construction of hotel rooms has historically driven the average length of stay from 1.2 nights in 2005 to 1.5 nights in 2010. We expect new hotel rooms from Sands Cotai Central and other Cotai projects to further increase average length of stay, benefitting tourism and gaming revenue growth.
With the high average daily room and hotel occupancy rates, we expect hotel properties to be profitable on their own, without casinos. International hotel-brand owners are likely to expand into Macau to capitalise on the potential boom. Currently there are only a handful of hotel brands in Macau. Given rising occupancy and ADR rates, more hotel-management companies are likely to enter into the market in the next decade. The number of global hospitability brands could grow from the current estimate of 9-10 to more than 40. The additional 30 or so should take the number of hotel rooms in Macau to nearly 50,000 (about 500/brand), from our 35,000 estimate.