Leverage is a fickly thing. Leverage can goose your results in good times or come with disastrous consequences in bad times. It's what nearly brought Las Vegas Sands (LVS -0.37%), Caesars Entertainment (CZR), and MGM Resorts (MGM -0.33%) all to their knees during the financial crisis.
Some of that leverage still remains in gaming stocks, and it's a reason why MGM may outperform rivals over the next few years. Or, at the very least, it could keep up with faster-growing rivals.
Upside in Las Vegas
I was in Las Vegas a few weeks ago and the mood has changed. It's not the gaga days of the mid-2000s, when everyone was making money hand over fist. It's returned to a normal state after the financial crisis. The scars still remain at abandoned construction sites on the north end of The Strip and at the abandoned tower between The Venetian and Palazzo, but I would say that Las Vegas is back.
If Las Vegas returns to a normal level of growth, somewhere in the mid-single digits, it could be a boon for investors of MGM Resorts and Caesars Entertainment simply because of leverage.
Modeling leverage in gaming
But what is the upside for MGM or Caesars just based on leverage? Below, I've tried to model what the upside for investors could be.
I have listed the current market cap, net debt, enterprise value, and enterprise value/EBITDA ratio for the four largest U.S.-traded gaming companies. Caesars is by far the most leveraged, but MGM isn't far behind and has exposure to more growth markets.
|
Market Cap |
Net Debt |
Enterprise Value |
EBITDA |
EV/EBITDA | |
|---|---|---|---|---|---|
|
MGM Resorts |
$6.32 Billion |
$11.63 Billion |
$17.95 Billion |
$1.68 Billion |
10.7 |
|
Las Vegas Sands |
$43.58 Billion |
$8.01 Billion |
$51.59 Billion |
$4.55 Billion |
11.3 |
|
Wynn Resorts |
$12.31 Billion |
$3.89 Billion |
$16.20 Billion |
$1.58 Billion |
10.2 |
|
Caesars Entertainment |
$972 Million |
$18.79 Billion |
$19.76 Billion |
$2.02 Billion |
9.8 |
|
Melco Crown |
$11.18 Billion |
$996 Million |
$12.18 Billion |
$904 Million |
13.5 |
Source: Yahoo! Finance and company filings. Note: Enterprise value and EV/EBITDA are author's own calculations.
These five companies have very different exposure to the U.S., Macau, and Singapore and different growth potential, but if we project five years of growth, I can demonstrate why I think MGM could outperform some rivals, even if these rivals grow more quickly.
Below I've laid out different five-year EBITDA total growth rates for these five companies based on potential gains. For example, Las Vegas Sands and Melco Crown (MLCO 1.13%) will likely grow more than MGM and Caesars because of exposure to Macau and new casinos in Asia. Wynn Resorts (WYNN -1.78%) could grow more than those two because I've projected that its new Cotai casino could double the company's revenue and EBITDA. Caesars will most likely lag the other four.
(The rates I've estimated could be debated and so could the EV/EBITDA ratios, but I've provided all of the numbers so you can adjust the calculations as you see fit.)
I've calculated how the equity value would grow if the scenario below played out.
|
5-Year EBITDA Growth |
EV/EBITDA |
Stock Growth | |
|---|---|---|---|
|
MGM Resorts |
50% |
8.5 |
+54% |
|
Las Vegas Sands |
60% |
9.0 |
+32.1% |
|
Wynn Resorts |
70% |
9.0 |
+65% |
|
Caesars Entertainment |
30% |
8.0 |
+127.3% |
|
Melco Crown |
60% |
9.0 |
+7.6% |
I'll get to why Caesars is so high in a moment, but it's important to point out that both EV/EBITDA multiples and EBITDA growth play big roles in this calculation. Right now, Melco Crown is trading at an extremely high multiple of 13.5 and Las Vegas Sands is elevated at 11.3. Even MGM's current multiple of 10.7 takes away from potential upside if the scenario above played out.
What I've shown is that MGM could outperform some of its higher growth rivals even without a premium price just because of the leverage on its balance sheet.
Why not Caesars?
Caesars has more leverage than MGM and is, therefore, far more risky. If I adjust the growth rate in the table above to 20% total over the next five years and use the same EBITDA multiple, the stock would drop 39%. That's a huge swing and too much risk for me to handle right now.
What to do now
If you're looking at gaming stocks, I would stick with higher quality than Caesars and a better value than Melco Crown right now. Among MGM, Las Vegas Sands, and Wynn, it depends on where you think Las Vegas is headed and how you think Macau will grow. Wynn has the safest balance sheet and upside on Cotai in a few years. Las Vegas Sands is the dominant player in Macau and has exposure to Singapore, which could be huge upside if the area's gaming recovers. Finally, MGM has the most exposure to Las Vegas. So if the U.S. economy booms in the next few years, the stock could rise quickly if Strip gaming revenue grows near double digits.
My top pick is Wynn Resorts given its value versus peers and growth potential, but MGM could easily outperform if Las Vegas picks up.
