What Factors Can Drive MGM Resorts’ Stock Price?

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MGM Resorts‘ (NASDAQ:MGM) domestic hotel operations have been trending well for the past few years led by a better macro-economic environment. The hotel occupancy has remained high at over 90% while the average daily rates (ADRs) have grown at an average annual rate of 5% since 2010. This can largely be linked to the macro-economic environment in the region, and this suggests that there is room for stock price movement depending on growth in the country’s GDP and other economic parameters. We believe that U.S. GDP growth and personal disposable income will spur growth in demand for rooms and catalyze MGM’s stock price movement.

The situation hasn’t been the same in Macau, where the company’s casino operations are struggling amid anti-graft measures that have led to a massive decline in gaming volumes in the recent past. A wave of high-profile arrests of senior Chinese officials has hurt the VIP business of Macau casinos. Visa transit restrictions, a smoking ban and a weakening economy added to the woes for casino operators in the region. Moreover, Beijing wants Macau to diversify its economy, which is largely dependent on gambling  — an industry that contributes as much as 80% of the local government revenues. As a result, gaming revenues have been declining for 12 straight months in the world’s largest gaming hub. We expect this trend to continue in the near term. However, there still remains uncertainty around the casino operations. An uptick has been anticipated for months, and yet we wonder when the casinos will see gaming growth return in Macau. This suggests that there is room for stock price movement depending on the amplitude and the timing of any recovery in gaming volumes. While the timing is uncertain, the amplitude could well be steep. We believe that, ultimately, growth in both Mainland China visitors and China’s personal disposable income will spur a recovery in Macau gaming, which in turn will catalyze MGM’s stock price movement.

See our complete analysis of MGM Resorts’ stock here

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U.S. GDP And Personal Disposable Income Grows By 3% (+25% Upside To Stock Price)

We estimate that domestic hotel operations account for around 35% of MGM’s value. The company offers more than 36,000 rooms in the U.S. Hotel operations are usually linked with the macro-economic environment in the region. However, to know for certain, we ran a regression analysis on the data from 2007 to 2014 with hotel ADR as the dependent variable and U.S. GDP growth and personal disposable income growth as independent variables. We arrived at r-square of 0.90 for these variables, which, being on the higher side, indicates a relatively high level of correlation. Looking at the F-significance, which is 0.009, also indicates very strong relationship between these variables. Hence, we know that, historically, both U.S. GDP growth and personal disposable income growth are both highly correlated with hotel ADR growth.

Based on above analysis, we estimate that MGM could garner around $3.25 billion in hotel revenues if U.S. GDP and personal disposable income grow at an average annual rate of close to 3% in the coming years.

However, we take a conservative view in our pricing model owing to uncertainties around the macro-economic environment and stiff competition at the Las Vegas Strip. We assume a little under 2% average growth for personal disposable income and GDP till 2020. Nevertheless, any improvement in the macro-economic environment and lower unemployment could provide ample growth opportunities for casinos at the Strip and boost demand for MGM’s hotel rooms. If MGM’s ADR grows to $250 by 2020, it would translate into incremental revenues of a little under $1 billion. This would add around 25% to the company’s stock value.

Mainland China Visitors Grow By 10% And China Personal Disposable Income Grows By 8% (+25% Upside To Stock Price)

Growth in Mainland China visitors to Macau and China’s personal disposable income are both linked with gross gaming revenue growth in Macau. Around 70% of Macau visitors come from Mainland China and therefore a better macroeconomic environment in China is a boon for the Macau gaming industry. Such would seem to be the case. However, to know for certain, we ran a regression analysis on the data from 2003 to 2014 with Macau gross gaming revenue growth as the dependent variable and Mainland China visitor growth and China personal disposable income growth as independent variables. We arrived at r-square of 0.52 for these variables, which, being on the lower side, could well indicate a relatively low level of correlation. However, we note that one regressor here could be of substantive interest, which on its own could cause the r-square to be low. We thus computed an alternative test in our regression, the F-significance, which defines the significance of independent variables to the response variable. In this case, the F-significance is 0.05, which indicates a strong relationship between these variables. Hence, we know that, historically, both Mainland China visitor growth and China personal disposable income growth are both correlated with Macau gaming growth.

Based on above analysis, we estimate that MGM could garner around $6 billion in gross gaming revenues, if China’s personal disposable income grows at an average annual rate of 8% and Mainland China visitors to Macau grow at an average annual rate of 10% in the coming years. This will translate into Macau gross gaming revenues of $80 billion by 2020 and MGM’s market share of around 9% will translate into gross gaming revenues of around $7 billion. The chart below shows the historical trends and projections for Mainland China visitors and Macau gross gaming revenues.

We still take a conservative view in our pricing model owing to the expected increase in competition, given the opening of other casinos in the region and uncertainties pertaining to anti-graft measures. Accordingly, we assume 6% growth in China’s personal disposable income and a little over 7% growth in Mainland China visitors.

Having said that, Macau could see massive demand for gaming in the coming years. Gambling in China is a widely accepted practice at home as well as in social circles, and Macau is the only place in China where gambling is legal and people travel from far states to the island purely for gambling. The region is seeing growth in the number of high net worth individuals (HNIs), but only a small portion of them currently visits Macau for gambling. China currently has about 1.3 million HNIs with a combined wealth of $4.3 trillion. As the region continues to grow, more people will likely visit Macau for gaming activities, and MGM Resorts as well as other casino operators should thus continue to benefit from the rising demand, as they did in the past. Accordingly, massive demand for gaming could add incremental revenues of $1.5 billion over the next few years, adding more than 20% to our price estimate and EPS for 2020.

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