For this part, we shall have a look at the business of Genting Singapore. As everybody knows, the key attraction of Genting Singapore is that it is one of the only 2 IR operators in Singapore and many believe that casino and duopoly equate to a highly profitable business as seen from the prosperous Macau.
Understanding the business model of a casino
More than 80% of Genting Singapore's revenue come from its gaming revenue while the other 20% comes from hotel, USS and Marine Life Park. Hence, gaming is at the core of Genting Singapore and will be the focus of the post today. To operate a casino, one needs a license from the government and in the case of Singapore, the area of casino is capped at 15,000 sqm. Thus, within this limited 15,000 sqm area, a casino will have to optimize its area by placing the table and machine at the appropriate place to maximize its revenue per sqm. Next, for each table it has to maximize the turnover by having as much game played as possible. Finally, odds are calculated in such a way that the casino operator will always have an edge over the gambler. Win rate for the casino operator is often much lower at 1-8% as compared to much higher rate than Toto, 4D or lottery operator. Hence, volume is much more important for casino and the higher the volume, the higher their profit and the more likely the win rate tends to their edge due to the law of large numbers. Another reason why volume is important is that casino requires huge initial capital expenditure and outlay as seen from Genting's balance sheet where PPE accounts for 55% of their asset. There's also high fixed cost in the number of dealers, tables and cards which need to be paid for regardless whether there's only 1 gambler at the table or there're 10.
Industry Outlook
It is indeed true that the casino operators in Singapore enjoy a very healthy duopoly market structure which should theoretically bestow upon them high profit margin and ROE. However, many have not realized that for the casino in Singapore to prosper, they will need to rely much more on foreigner rather than the locals. Singapore certainly has a much lower population compared to other countries in the region which means that to generate higher volume of gamblers, Singapore will need to continue to attract tourist and foreigners to come to Singapore to gamble. What this means is while we can safely say that it is a duopoly in terms of capturing the local market, it seemed to be a regional competition for foreign gamblers that is much more important.
However, as a results of its initial success for its 2 IRs, there are now increasing competition in the region as we see numerous countries in the region opening new casinos from 2012 -2015. Vietnam, Philippines and Cambodia will be opening new casinos in 2012 and 2013. Russia and South Korea will also be building new casinos to attract the tourist while Taiwan has already legalized casinos. Both Japan and Thailand are also debating on the issue of legalization of casinos. As such, it seemed like competition is fierce within the region with better and newer casinos built over the next few years.
Given these various forms of competition, it seemed like Macau is still going to be the most thriving gaming countries in Asia. More casinos are going to open in the Cotai Strip and Macau easily outclassed the 2nd largest casino market, Las vegas, by 2-3x more in revenue. Despite supposed slowdown in China in lieu of the changeover of leadership, Macau is still expected to grow by 10-15% this year as compared to 5% for Singapore according to S&P. In the next 5 years, Macau's gaming industry is expected to grow by 15% as compared to 5-8% for Singapore. So what exactly is the secret to Macau's success that is hard for Singapore's 2 IRs to replicate? What is the reason to Macau's average ROA of 20% and ROE of 60% as compared to Genting Singapore's 10-15%.
The business model of Macau's casino
Essentially, Macau's casino runs on a junket model where the junket accounts for 75% of their revenue. Junkets are middleman who will bring in the high net worth individual (HNWI) to the casino and will take in a portion of the HNWI's total chips played. The casinos will also offer rebates and free chips to HNWI to attract these big whales to play in the casino. Hence, in such a model, the profit margin for the casino operators will be much lower. However, they will be able to attract the volume which is essential for the casino as the fixed cost of a casino is high.
In fact, junket has been the critical factor for the success of Macau's gambling industry that other countries are unable to replicate. These junkets are like the private bankers that establish the relationship with important clients and bring in the revenue. Many of the HNWI from China will prefer to go in a group lead by junket as they enjoys special rebate and networking opportunity. Coupled with its close proximity to China, Macau is the natural destination for the wealthy Chinese which takes on a more active attitude towards gambling as compared to the Westerner.
However, in the case of Singapore, the government does not allow and is very cautious of junket operation. Even for the 2 operators allowed for Genting Singapore, they are called as International Market Agent and they are very small players based in Malaysia and not Macau or Hong Kong. This is bad for RWS and MBS as the mass market often stagnate within 2-3 years and it is the junket that is needed to drive VIP's volume growth.
High DSO and impairment loss of receivables
In part 1, I have discussed about the high DSO of 5 months for Genting Singapore and the frequent impairment loss on receivables of 17% for Genting Singapore.This is in fact linked to the lack of junket operation in Singapore. In Macau, not only does the junket brings in the HNWI, they are also responsible for the collection of the debt. As such, Macau has very low receivables on its balance sheet and is able to enjoy higher ROA and better working capital management. Debts are often a problematic issue for VIP customers for casino as they are also afraid that being too aggressive in collection of debt will deter the clients from visiting their casinos again.
For Singapore, due to the lack of junket operation, the 2 operators have been slack on their credit policies in a bid to attract the VIP customers. They allow them higher credit, longer term of collection and these results in the high receivables amount as seen on its balance sheet. If we were to take into account that the mass market often produces no receivables as no credit is to be issued to them, the actual DSO from the VIP business is much higher. As seen, the implication of junket is not just a higher revenue but a better working capital management as well as higher quality of earning.
Given the huge differences in growth potential, ROE, DSO, it seemed like the 2 casino operators pale in comparison to the many Macau's casinos listed on the Hong Kong exchange who are also able to offer much higher dividend yield as compared to Singapore. Unless the government approves the junket operation in Singapore (which is very unlikely), it seemed like Genting Singapore is going to face a stagnant market where growth will at best be single digits and the fact that 16% of its receivables have to be impaired annually.
Showing posts with label Genting. Show all posts
Showing posts with label Genting. Show all posts
Monday, December 10, 2012
Tuesday, September 11, 2012
Genting Singapore - Part 1 (Financial Statement Analysis)
This is likely to be one of the last New company that I will do an analysis on for the next 2-3 months as I intend to focus on my studies which has been a bit overloading at times. Nonetheless, I do hope to be able to resume research on new company when holiday is here. I will still continue coverage on VICOM and Silverlake Axis whenever possible.
This will be a 2-part analysis and as always I will start off with financial statement analysis. Genting Singapore operates one of two casinos in Singapore, owning 6 hotels with 1800 rooms as well as 2 key attractions of USS and Marine Life Park. While price might have fallen quite a bit from its peak, it may still have been overvalued at its current price. For the past few years, investors have been pricing in high teen growth rate for this company that seemed to have a long way to go. However, it seemed like RWS might have reached a stagnant market already.
Figure 1 - Income Statement
For the 1st half of 2012, Genting Singapore reported decline in gaming revenue of 19% and 4% for the first 2 quarter which seemed to imply that they have been affected by the decline in macroeconomic condition. Total revenue dropped by 14.2% and 2.9% in Q1 and Q2 2012 as 80% of Genting's revenue comes from gaming. And the decline was as a result of lower rolling chip volume and not lower hold rate (luck factor of casino). In Q2 2012, VIP rolling volume dropped by 14% and Mass volume contracted by 4% in spite of a slightly higher win rate of 3.1% than the theoretical win rate.
There has also been decline in the profit margin which the management has attributed to pre-opening expense of Marine Life Park. However, pre-opening expense increase is very insignificant and the fact is simply a lower gaming revenue. Despite 2 of its hotels, Equarius and Beach Villas, being opened in Feb 2012 which results in 8% increase in room inventory, non-gaming revenue only rises by 1%. RWS also recorded higher average room rent of $432 and occupancy rate of 92% as well as higher visitation rate. These did not lead to significant increase in non-gaming revenue which could imply the use of its non-gaming asset as complementary to attract the VIP players. If this trend continues, then we should not expect much from the non-gaming revenue as well.
Figure 2 - Balance Sheet
For the balance sheet, the right column of 2012 Q1 and Q2 is where I transferred the $2.3 billion worth of perpetual securities to the long-term debt. While it is being accounted as equity, it is clearly a form of debt of which the company will have to pay $118 million in interest tax per year, representing 9.6% of FY 11 net profit. While the company has the right not to pay out interest, it is cumulative and will hurt the company's reputation. Of course, debt level is still manageable as it can be cleared by Genting with 3-5 years of profits.
In any case, the company has not proven its need to raise cash through perpetual securities though the cost of debt is lower than its ROA of ~8%. Instead, "the Group invested in a portfolio of quoted securities, unquoted equity investment and compounded financial instruments amounting to S$1,148.9 million" in Q2 2012. This amounts to 9% of its total asset and yet there is a lack of transparency as to what sort of equity investment and financial instrument did Genting Singapore decide to play with. In any case, equity investment is definitely not a core competency of Genting Singapore.
Figure 3 - Receivables
Figure 4 - DSO Not Accounting the Mass Market Revenue
Figure 3 is something that I don't find very comfortable with, which is that Days' Sale Outstanding of Genting Singapore is as high as around 3 months and have been rising ever since RWS commenced operation in 2010. And if we take into account the fact that casino is not supposed to grant any Singaporeans and PRs credit unless they are Premium Player (deposited $100k as credit balance), the actual DSO is much higher as seen in Figure 4. In fact, it has gone up as high as 150 days in 2012 1H which is equals to 5 months of receivables. This is just the tip of the iceberg...
Figure 5 - Impairment Loss of Receivables
In actual fact, Genting Singapore has been taking significant amount of impairment loss ever since RWS started. It has ranged at an average of 17% of total receivables and 4% of total revenue which is not a small amount. This figure is not shown explicitly in the Income Statement as it is hidden in the "PROFIT/ (LOSS) BEFORE TAXATION – CONTINUING OPERATIONS" under rows of figures. Alternatively, it can also be found in the cash flow statement. Performing impairment losses every quarter is something that's worth noting about and I will elaborate on the reasons for the receivables in Part 2.
Figure 6 - Profitability Ratio
Figure 7 - Profitability Ratio of Macau Peers
I have always thought that being one of two casinos in Singapore should have made it very profitable, but it seemed otherwise with its average ROA of 7-8%, ROE of 12-13% and ROIC of 12-13%. While some might have thought that the $2.3 billion perpetual securities have dragged the profitability, ROA and ROE are at 7% and 12% after taking away the perpetual securities. Such profitability ratio seemed to imply an average company and not one with sustainable competitive advantage.
Now, compare to Macau Peers with an average ROA of 20% and ROE of 60%, it seemed like RWS really pale in comparison especially as an Integrated Resort company operating in a duopoly structure. Given that Genting Singapore has a high profit margin of 23% to 31%, it means that its asset turnover ratio is very low. Not forgetting that Macau's casino are subjected to a 40% tax on gross gaming revenue as compared to 12% in Singapore. Looking back at Figure 2, PPE accounted for 45% of total asset, which means that volume is much more important than profit margin in order to drive operating leverage. Macau's peers does have a lower profit margin, but they are able to make it up with high asset turnover. This will be explained in Part 2.
Figure 8- Cash Flow Statement
Figure 9 - Cash Flow Analysis
This will be a 2-part analysis and as always I will start off with financial statement analysis. Genting Singapore operates one of two casinos in Singapore, owning 6 hotels with 1800 rooms as well as 2 key attractions of USS and Marine Life Park. While price might have fallen quite a bit from its peak, it may still have been overvalued at its current price. For the past few years, investors have been pricing in high teen growth rate for this company that seemed to have a long way to go. However, it seemed like RWS might have reached a stagnant market already.
There has also been decline in the profit margin which the management has attributed to pre-opening expense of Marine Life Park. However, pre-opening expense increase is very insignificant and the fact is simply a lower gaming revenue. Despite 2 of its hotels, Equarius and Beach Villas, being opened in Feb 2012 which results in 8% increase in room inventory, non-gaming revenue only rises by 1%. RWS also recorded higher average room rent of $432 and occupancy rate of 92% as well as higher visitation rate. These did not lead to significant increase in non-gaming revenue which could imply the use of its non-gaming asset as complementary to attract the VIP players. If this trend continues, then we should not expect much from the non-gaming revenue as well.
For the balance sheet, the right column of 2012 Q1 and Q2 is where I transferred the $2.3 billion worth of perpetual securities to the long-term debt. While it is being accounted as equity, it is clearly a form of debt of which the company will have to pay $118 million in interest tax per year, representing 9.6% of FY 11 net profit. While the company has the right not to pay out interest, it is cumulative and will hurt the company's reputation. Of course, debt level is still manageable as it can be cleared by Genting with 3-5 years of profits.
In any case, the company has not proven its need to raise cash through perpetual securities though the cost of debt is lower than its ROA of ~8%. Instead, "the Group invested in a portfolio of quoted securities, unquoted equity investment and compounded financial instruments amounting to S$1,148.9 million" in Q2 2012. This amounts to 9% of its total asset and yet there is a lack of transparency as to what sort of equity investment and financial instrument did Genting Singapore decide to play with. In any case, equity investment is definitely not a core competency of Genting Singapore.
In actual fact, Genting Singapore has been taking significant amount of impairment loss ever since RWS started. It has ranged at an average of 17% of total receivables and 4% of total revenue which is not a small amount. This figure is not shown explicitly in the Income Statement as it is hidden in the "PROFIT/ (LOSS) BEFORE TAXATION – CONTINUING OPERATIONS" under rows of figures. Alternatively, it can also be found in the cash flow statement. Performing impairment losses every quarter is something that's worth noting about and I will elaborate on the reasons for the receivables in Part 2.
Now, compare to Macau Peers with an average ROA of 20% and ROE of 60%, it seemed like RWS really pale in comparison especially as an Integrated Resort company operating in a duopoly structure. Given that Genting Singapore has a high profit margin of 23% to 31%, it means that its asset turnover ratio is very low. Not forgetting that Macau's casino are subjected to a 40% tax on gross gaming revenue as compared to 12% in Singapore. Looking back at Figure 2, PPE accounted for 45% of total asset, which means that volume is much more important than profit margin in order to drive operating leverage. Macau's peers does have a lower profit margin, but they are able to make it up with high asset turnover. This will be explained in Part 2.
Free cash flow has been unstable as the company is still at an investment phase as the West Zone and Marine Life Park is not yet opened. Until the investment phase is over, we will not be able to see a clear picture of the maintenance capex and derive a stable state FCF. However, as a guide, PPE as a percentage of revenue has been around 20-40% of revenue during this phase and I expect the maintenance figure to be around 5% -8% of total revenue when it is done with the initial investment.
In conclusion, we can see from its financial statement that it is certainly not a company with a very strong business model. In that case, it seemed to have been overpriced at PER of 16x and 18X based on FY 11 results and forecast FY 12 result. Part 2 will be on the industry and Genting's business model.
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