When a Hit Is Not a Hit

Last week, fellow Fool contributor Lawrence Meyers gave his take on Wynn Resorts (Nasdaq: WYNN  ) (see "Quick Draw on Wynn Resorts"). Basically, Lawrence suggested that for an investor to try to justify Wynn's $4.75 billion market cap at this point may be more akin to gambling, as the company isn't expected to even begin to produce real revenue until its Wynn Las Vegas super resort on the Las Vegas Strip debuts in April 2005.

First off, I'd like to stress that the gist of Lawrence's message is spot on: The value-driven investor should be wary of this type of situation. However, I think I should also point out that Wynn Resorts' merits stretch far beyond Wynn Las Vegas.

The Macau dream
In 2006, Wynn will open Wynn Resorts Macau in the explosive growth gaming market of Macau, the former Portuguese colony a mere couple dozen miles west of Hong Kong. Wynn will become the second U.S.-based company to operate there; Las Vegas Sands -- owner of the Venetian on the Vegas Strip -- became the first this past May when it opened Sands Macau.

Last week, Wynn Resorts gave a presentation at the Goldman Sachs and Deutsche Bank Securities Gaming Investment Forum, which you can access from Wynn Resorts' website by clicking here. Here are some of the key figures:

  1. In 2003, the Las Vegas Strip and Atlantic City markets reported gaming revenues of $4.8 billion and $4.5 billion, respectively. For 2004, the Macau gaming market is expected to grow to a whopping $5.2 billion from just $3.5 billion last year.
  2. There are 100 million people within a three-hour drive of Macau, and 1 billion people within a three-hour flight.
  3. Mainland China is now Macau's No. 1 source of visitors, outnumbering Hong Kong. In 1991, Hong Kong accounted for over 80% of Macau's visitors.

The Macau market is clearly expanding, and there is plenty of reason to think Wynn will have success. In its $350 million IPO filing last month, Las Vegas Sands reported that through the two months ending July 31, the Sands Macau casino raked in $36.9 million in earnings and EBITDA (earnings before interest, taxes, depreciation, and amortization) of $41.2 million -- not bad considering the cost of the project was a mere $240 million.

It doesn't hurt that the property plays host to a million visitors a month, either.

Sub-concessions and cross-marketing
The business growth aspirations are stellar as well. Sands intends to build something of a casino Disney (NYSE: DIS  ) World on Macau, with a new Venetian casino as the centerpiece. Further, the concession given to the company by Macau will allow it to sell sub-concessions to third-party casino operators to help complete the fantasy world, all the while paying Sands a fee -- perhaps a tax on revenues -- for the right to the sub-concession.

Wynn Resorts expects to garner further profits via its own sub-concession rights in a similar manner. In addition, both Las Vegas Sands and Wynn Resorts will be able to take the high-rolling gamblers they acquire in Macau and bring them to their resorts in Las Vegas, creating superior cross-marketing value.

Given those ramifications, it's not hard to see why Strip giant MGM Mirage (NYSE: MGG  ) -- just days after announcing its intent to merge with Mandalay Resort Group (NYSE: MBG  ) -- was so excited to land its own bid on Macau this past summer via partnership with Pansy Ho Chiu-king, daughter of Macau gaming mogul Stanley Ho (see "MGM Mirage Hits Macau").

Back to Wynn Las Vegas
And of course, Wynn Las Vegas itself is still a big piece of the puzzle.

Wynn Las Vegas sits on 217 acres, and will mark the north end of the modern generation of Strip hotels just past the Venetian and the site of Las Vegas Sands' next major casino project. The multibillion-dollar project will feature an 18-hole golf course, a Ferrari and Maserati car dealership, 2,716 hotel rooms, and 74,700 square feet of retail space connected to the 2-million-square-foot Fashion Mall across the street.

As the company happily points out in its presentation, Steve Wynn trumped Caesars (NYSE: CZR  ) Palace with the Mirage, and then trumped the Mirage by building the masterpiece that is Bellagio. Next spring, Wynn plans on trumping Bellagio with Wynn Las Vegas, and the whole world expects him to do it.

Speculation: when a hit is not a hit
There is little doubt in my mind that Wynn Resorts is a hit. But for the investor, that is certainly not the end of the story.

As Lawrence pointed out, there is a lot of speculation involved here. It's not all that different from the speculation involved in buying Google (Nasdaq: GOOG  ) at the IPO, or from the speculation involved, say, when gamblers add $1 billion to the market value of a cash-bleeding company because Howard Stern signs with Sirius Satellite Radio (Nasdaq: SIRI  ) (see "Billion-Dollar Sex Joke" and "Sirius and Stern").

It's not necessarily wrong or right; anyone who has ever followed The Motley Fool's Rule Breaker portfolio -- or has a subscription to David Gardner's new Rule Breakers newsletter -- knows that we've done our fair share. We just highly recommend that you keep valuation as the core consideration.

If you have any interest in buying shares of Wynn Resorts, it is vital to your long-term investing success that you at least come up with some ballpark assumption of fair value. Take into consideration all of the factors we've discussed here, as well as the valuations of comparable companies and other stocks you are interested in. And once you've done that, buy with a margin of safety by making sure you are getting a large discount to fair value, keeping in mind that the more speculative the investment, the bigger the margin of safety you require.

If you have no idea of fair value or you find that the stock's current price offers no margin of error, then just don't buy. Because if you choose to ignore valuation and pay the wrong price, there is a much better chance that what may be a hit for Wynn Resorts will turn out to be a bust for you.

Fool contributor Jeff Hwang owns none of the companies mentioned above. The Motley Fool is investors writing for investors.


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