Union Gaming Research Macau released the following note on 8th October:
Recap
Tonight NagaCorp reported unaudited 9 month (through September 30) gaming volume performance data for its three primary segments. After adjusting for 1H results, we note that both the slot floor and mass market table games experienced significant gaming volume growth during 3Q12, which was above our implied expectations. We believe these high-margin segments continue to be driven by a host of factors that suggest this growth is sustainable. VIP rolling chip volume was softer than our expectations, although likely a function of Naga’s low base of customers (on a relative basis compared to regional casinos in markets like Macau) which can result in monthly / quarter volatility based on such things as frequency and timing of visits.
Slot floor
During 3Q12, slot machines (and electronic table games) had $252.8mm of bills-in. This represented a 31% y/y increase in bills-in, and compares favorably to 1H12 volume growth of 23%. It also compares favorably to our 2H12 expectations of 25% growth.
Mass market table games
Not surprisingly, mass market table games grew at a similar rate to the slot floor during 3Q12, with a 32% y/y increase. This was slightly lower than the 1H12 growth rate of 37%, but better than our 2H12 forecast of 20% growth. Both the mass market table segment and the slot floor continue to be driven by the addition of new supply within NagaWorld (e.g. Rapid1, Rapid2, NagaRock), as well as marketing efforts (luxury Naga coach service to / from Ho Chi Minh, a new slots market system). Solid mass market and slots growth is likely sustainable, driven by such factors as the company’s recently opened Bangkok office (the Thai market is only lightly penetrated) and incremental gaming positions.
VIP
Rolling chip volume declined 2% during 3Q12, as compared to 30% growth in 1H12 and our similar expectations for 2H12. Importantly, we believe that the VIP business at Naga is not necessarily experiencing similar softness as seen in both Macau and Singapore. Rather, we think the company’s relative low customer base (as compared to these other jurisdictions) can result in periodic volatility in VIP customer visitation. The company has previously commented that they are exploring new VIP junket tie-ups that could drive incremental rolling chip volume by targeting a slightly higher tier of customer. Currently, max bet per hand is generally US$25k (sometimes $50k), with a target of attracting up to $100k per hand customers but still maintaining a low risk profile. To that end, the company might enter into revenue sharing arrangements with junkets (recall that 80% of VIP play in Macau takes place on a revenue share basis) rather than continuing to operate only on a rolling chip commission basis. We believe that such a junket-tie up could result in sustained rolling chip volume growth in 2013 and beyond that is likely not reflected in consensus expectations.
Maintaining estimates
Following tonight’s announcement, we are maintaining our current estimates, which call for 2H12 and 2012 EBITDA of $70.4mm, and $135.1mm, respectively. Our 2013 EBITDA estimate also remains unchanged at $171mm.
Valuation
We value NagaCorp using an EV/EBITDA approach on forward (2013) earnings, in addition to incremental present value associated with the company’s Naga 2 project, which should open in 2015. Our 12 month price target is HKD5, based on a 6.5x multiple of our 2013 EBITDA estimate, in addition to about HKD2 per share in present value for Naga 2. Our calculations assume a share count of 3,648mm, which accounts for the dilution associated with the Naga 2 convertible bond. Our target price represents 18% upside to today’s closing price, while total expected return is 26% when including an estimated 8% dividend yield. While our 6.5x EBITDA multiple represents a premium to the company’s historical multiple, the company has and continues to execute on its growth strategy, which we feel deserves a multiple that is at least in line with its regional peer Genting Malaysia.
Risks
Risks to shares of NagaCorp include: country risk (loss of exclusive license, adjustment to the company’s advantageous low monthly fixed obligation tax), development risk including delays to Naga 2, incremental regional competition (especially from Vietnam should locals be allowed to gamble, which accounts for 40%+ of NagaCorp’s cash flow), volatility associated with being a single-asset operator in the context of increased VIP exposure.
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