From Global Gains: Dispatches From Asia
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Please note: These dispatches were written in June 2008. We're offering them here as a sample of the depth of coverage the Global Gains service offers. The advice and company information has not been updated and should not be taken as a recommendation.
June 2, 2008
The World's Greatest Growth Story
It's been a year since our last research trip to China. As we set our itinerary for this excursion (and it's a good one; get the details below), we reflected on what's changed and what hasn't in the world's fastest-growing emerging economy.
Big Country, Big Future
What hasn't changed is the prospect of China continuing on its relentless march to becoming the world's dominant economy. This may be shocking to many Americans, but if you think about it, we're talking about a math problem. China has 1.3 billion people, the United States 300 million. China is growing at least 9% per year; this year, economists expect the U.S. to grow 1.2%.
Though its GDP growth will slow this year, China remains by far the world's growth giant with rapid modernization, urbanization, and liberalization driving its incredible rate of expansion. The skylines of Beijing and Shanghai are unparalleled and expanding daily, as both foreign investors and Chinese entrepreneurs stake claims in equal numbers to the fortunes that will be made. Our lives are short; it would be perfectly understandable for us to view China as a rapidly developing economy. The Chinese tend to see their position somewhat differently. China has been one of the world's dominant economies and cultures for millennia. Viewed through this wider lens, China is simply resuming its rightful role as the dominant Asian economy.
Yet as the aftermath of the recent earthquake in the Sichuan province reminds us, China remains a developing nation. Modern building and safety codes, while now on the books, still are not enforced nationwide. Millions of people are displaced, and regional infrastructure has simply broken down. There are reports of people who work in Beijing being forced to make a three-day journey back to Sichuan to find out the fate of loved ones. Outside the major cities, China still lacks vital energy and transportation infrastructure. Most visiting Westerners stick to the big Chinese cities of Beijing, Shanghai, and Guangzhou. Travel to the rural parts of China, and you'll feel that the Chinese economic growth story is a long, long way away. Press government officials for their deepest fear for China, and they'll likely say that the divide between rich and poor areas of the country could cause internal revolts.
Can You Handle It?
Put together these challenges and prospects and you have the recipe for the enormous volatility we've seen in Chinese shares since this time last year. While the Shanghai Composite Index has dropped 20% year over year, that number doesn't even begin to tell the story. Our trip to China last June saw the beginning of a stock market surge that would send Chinese stocks up nearly 50% in six months. The past six months, however, have seen the Chinese market give back all of those gains and then some.
So are Chinese stocks overbought or oversold? The truth is that it depends. And regardless of which Chinese stocks you own, expect the wild ride to continue.
The Value in China
We'd be lying, however, if we said that we weren't headed to China this time around looking for value ... deep value. The average China stock that trades in the United States, for example, has seen its price-to-sales (P/S) ratio contract from 5.4 to 4.0 and its price-to-earnings (P/E) ratio contract from 30.7 to 23.7 during the past year.
Yes, those still look expensive, and yes, there is still uncertainty in China. But the same companies that have gotten cheaper over the past year also grew their top lines by 54% on average at the same time.
Chinese businesses are growing, but their stocks are dropping. Eventually one of those two trends needs to reverse course, and knowing what we already know about China, our bet is that the businesses are nowhere close to reaching their potential. It is much more important to be sure of "if," because the "when" will take care of itself.
More Where That Came From
Of course, this trip isn't just about China. We're starting in Macau, the gambling mecca and Chinese special administrative region that's already bigger than Vegas and still growing at 13% annually. We've been lucky enough to get a behind-the-scenes tour of Melco's (Nasdaq: MPEL) six-star Crown Macau Hotel and Casino, which has quickly become the home for high rollers.
From there, we make our swing through China, visiting with companies such as China Fire and Security (Nasdaq: CFSG), American Oriental Bioengineering (NYSE: AOB), Wonder Auto Technologies (Nasdaq: WATG), China Housing and Land (Nasdaq: CHLN), and others that stand to benefit enormously from the country's urbanization, growing middle class, and newfound focus on sustainable and safe growth -- rather than growth at any cost.
There will be stops in Indonesia -- a frontier economy that offers an even wilder ride than China -- and Singapore -- where several expert investment teams will share their perspective on the Asian markets.
Finally, we're going to report from Vietnam, the country that both Goldman Sachs and Roth Capital have called the next China. These countries have a lot of things in common: Singapore is a Chinese-majority country, Indonesia's economy is dominated by its Chinese minority population, and Vietnam -- long China's rival -- shares its entrepreneurial spirit.
Enjoy the Ride
It's a full schedule and one that we're incredibly excited to share with you. Watch your inbox for our next dispatch!
June 4, 2008
Your $70 Billion Opportunity
"Macau became safe eight years ago ... when the last gangster was killed."
We can't verify that as a true statement, but it's what we heard from Hong Kong denizen (and Global Gains subscriber) Deepak Madnani when we met him last night for drinks. Now, while no one should feel good about this kind of addition by subtraction, the fact is that the subtraction of violent gangsters from Macau has turned this special administrative region of China into one of the great growth stories of the past decade.
Macau is now bigger than Vegas. Much bigger. By 2010, it's expected to do $23 billion in revenue. This makes Macau's gaming industry -- unlike its blackjack tables, as Bill found out -- one of the surest bets on earth. And since there are only six casino companies licensed to operate in Macau, it's pretty easy to place your bets.
Pick Your Play
Melco Crown Entertainment (Nasdaq: MPEL) is one of those six licensees. It bills its Crown Macau Hotel & Casino as a six-star resort. And though the hotel spit at convention and awarded itself the sixth star, it is legitimate. From the marble lobby overflowing with attentive staff to the 38th-floor sky lounge bedecked in teak and stocked with champagne and single-malt scotch, there is no escaping the property's luxury.
But luxury is not the story here ... not anymore.
The Crown Macau has undergone a substantial repositioning since it opened just last year. While it was designed to cater to the very highest of the island's high rollers, the company quickly discovered that that was not a viable business plan. Not yet, at least, and not at the hotel's location on Taipa away from Macau's main drag.
So instead of chasing after high rollers, the company struck a deal with junket operator A-Max to have lesser, though still serious, gamblers brought to them. The new strategy is working. The company reported its first full quarter of profitability last quarter on casino revenue that was up nearly 200% -- to $480 million.
If you're not familiar with Macau, you may not know what a junket is and why the A-Max deal was such a boon for the company. But knowing local details like that is the reason Melco Crown has been able to gain the upper hand against U.S.-based competitors such as Wynn Resorts (Nasdaq: WYNN), MGM (NYSE: MGM), and Las Vegas Sands (NYSE: LVS).
It's also why we paid a visit to Melco CFO Simon Dewhurst, who revealed to us exactly why A-Max has helped the Crown Macau become the busiest casino in the world.
Bet Big, Bet Often
According to Dewhurst, 75% of gambling revenue in Macau comes from rolling chip baccarat. The folks playing the game obtain credit from a network of agents and lenders, at the top of which sits A-Max -- the "super junket" that has struck a deal with Melco to get prime space for its players. While Melco won't get involved in the web of lending money to these players (a web that may or may not involve thugs with baseball bats), the credit from A-Max is what allows the junket-enlisted players to play longer and bet bigger ... which they're more than happy to do.
These players -- by virtue of their access to credit -- are classified as VIPs by most analysts who cover Macau. But they're not really. Rather, as we saw during our tour of the Crown's private gaming areas, they're chain-smokers in tacky suits who don't use the hotel's spa, dine at its multiple signature restaurants, or swim in its sumptuous 16th-floor infinity pool overlooking downtown. They even forego staying in the Crown's immaculately appointed rooms, instead day-tripping to the island or packing three to a room in a $60-per-night fleabag joint elsewhere in Macau. What's more, the prospect of rubbing shoulders with "these people," Dewhurst said, actually chased away the VVIPs that the Crown Hotel was designed to cater to.
That fact, however, is OK for now -- particularly since A-Max's delivery of this clientele has made the Crown Macau's No. 1 spot for rolling chip baccarat. But it's also why Melco Crown is already at work on its next project, the vast City of Dreams.
Meet Mega Macau
Whereas no one swims in the Crown's infinity pool, the City of Dreams may need five or six of them. Set to open next year, the City of Dreams will be twice the size of the Crown and significantly more luxurious. It will target high rollers and cash gamblers more successfully than the Crown has thanks to a greater focus on entertainment (it will have an aquatic stage) and a prime location next to the vast new Venetian, which is designed to attract conventioneers and overnight guests by the thousands.
There's a bit of a "If you build it, they will come" mentality underlying this. But "it" is already being built, and Dewhurst believes "they" will definitely show up. "You could put another zero on the end of Macau's [gambling] revenues," Dewhurst claims, "and that still wouldn't put a dent in the asset base of Macau's likely visitors."
In other words, Dewhurst estimates Macau to be a $70 billion opportunity -- and one that, again, has just six licensed operators. And while Dewhurst says that "all six of us will make a fortune," he hopes that Melco Crown will do best given its local ties. See, Melco Crown is run by Lawrence Ho, son of notorious Macau patriarch Dr. Stanley Ho. That's a unique competitive advantage for Melco, a topic for a very long and interesting book, and the reason why the Crown has (and will likely keep) its exclusive deal with A-Max.
The Inevitable Entertainment Epicenter of Asia
Because Macau is located near fast-growing economies that are home to one-third of the world's population, the folks at Melco believe -- as we do -- that it will achieve its growth goals. That's why they are making strategic decisions with five- to 10-year time horizons, and it's why we've recommended the stock at Global Gains.
Gambling, Dewhurst says, is hardwired into the DNA of the people in this part of the world, and the Ho family is hardwired to make money from that fact. Put those two observations together and, well, you do the math. Good riddance to those gangsters indeed.
These are just two of the 12 insightful, entertaining dispatches the Global Gains team filed on their June 2008 Asia trip. Read all our dispatches and trip report -- and see our current and past stock recommendations -- with a free 30-day trial subscription..