Cotai resorts seen viable, but returns to disappoint

The multi-billion properties opening up on Macau’s Cotai strip are still likely to be viable, despite the slump in gaming revenue in the territory, though returns will fall far short of the levels expected when the resorts were first planned, analysts say.
This year, Wynn Resorts is scheduled to open its $4.1 billion Wynn Palace in June, while Las Vegas Sands will debut its $2.6 billion Parisian property in Q4. MGM Resorts is also scheduled to open the doors to its $3.1 billion MGM Cotai towards the end of the year, while smaller openings are expected from Macau Legend with its Legend Palace property.
In late 2017, SJM Holdings will launch its $3.87 billion Lisboa Palace resort, while in the first half of the year, Melco Crown is scheduled to open the fifth tower at its City of Dreams property with an $800 million price tag.
The new additions will be adding to Galaxy Entertainment’s $2.5 billion Phase 2 and its $650 million Broadway Macau in May last year and Melco’s $3.2 billion Studio City in October.
According to Bernstein Research, the six Macau casino operators are increasing their room base from 17,000 rooms in 2014 to nearly 30,000 rooms by end of the current Cotai casino build-out in 2018.
However, when the operators first budgeted for their Cotai investments the market looked very different. The perceived wisdom was that lack of supply was the only thing holding back stellar growth. Now that “if you build it they will come” mentality is open for debate and there are questions over the viability of the projects.  
Gross gaming revenue tumbled 34.3 percent in 2015 to MOP 230.84 billion ($28.6 billion), a five-year low, and analysts are expecting a further decline this year. As a result, analysts say investors need to temper their expectations for the new Cotai properties.
“I do think that the new resorts will be profitable. Sands China's base mass tables still managed to generate more than US$6,000 per table per day in 3Q,15, which is still very healthy by global standards,” said Alex Bumazhny, a director at Fitch Ratings.
“For comparison, Las Vegas Strip tables generated $2,891 per table per day over the past 12 months ending Oct 2015. This type of performance still leaves some wiggle room for more conservative assumptions and some further downside before we start to worry that the projects will drain cash once opened.
“That said returns on investment will be disappointing relative to the historical precedent in Macau and will be closer to those of the Vegas resorts that opened during or right after the previous recession.”
Union Gaming analyst Grant Govertsen estimates that the investment community had been assuming something like a 20-25 percent return on investment for the new properties, which was already notably lower than the 50 percent ROIs at that point in time.
“This, of course, would have been achievable but for the crash,” he says.  
He adds, that the maths suggest that the market, which hit its peak at $45 billion in 2013, would have needed to hit $60 billion to maintain existing ROIs and generate 20 percent returns at new properties. However, that would only have required 7.5 percent annual growth from 2013 to 2017, which at the time seemed conservative given the heady growth rates over the previous few years.
So far, the new properties have had little impact on the market in terms of driving GGR growth.
Fitch in its annual outlook on Macau said it will take two to three years for Cotai projects to show their full potential and the first full year returns on investment will be disappointing by historical standards.
It says Studio City’s implied minimum EBITDA of roughly $250 million per its amended secured leverage covenant seems like a good proxy for initial Cotai resort EBITDA expectations. However, it notes some of that growth may come from cannibalization of existing resorts.
CLSA notes the new projects will return an average 21 percent three years after opening, with the payback period having stretched out from around two years to five.
Still, most analysts agree that for the longer term evolution of Macau into a mass, less gaming-reliant market, the extra supply the Cotai properties will bring is necessary.
Bernstein says its long-term outlook is for mass GGR to achieve a 13 percent compound average growth rate from 2015 to 2020, reaching $26 billion by that date. It expects the mass proportion of GGR to hit 62 percent in 2020 from 40 percent in 2014.
VIP on the other hand will continue to face headwinds and its recovery will be limited. It sees CAGR of 1 percent for VIP from 2015E-2020E to $16 billion in 2020.
As a result, “the new casino projects on Cotai are exactly what Macau needs to continue to transform itself into a regional tourist destination,” it adds.
Projections for growth in China’s outbound travel market also provide cause for optimism for Macau’s mass market prospects. CLSA says outbound visitors will reach 200 million by 2020, double the numbers in 2013, and tourist spend will triple. Hong Kong and Macau will be major beneficiaries, though they will have to compete harder for the tourism dollar and their share of those numbers is likely to decline from 62 percent to 45 percent.