Galaxy Entertainment Group Ltd

HKEX:27

Earnings Call Transcript 2019-Q2

[Operator]

Thanks for holding, and welcome to the Galaxy Entertainment Group's management update for the second quarter and interim results of 2019. Joining us today are Mr. Michael Mecca, GEG Board's Nonexecutive Director; Mr. Robert Drake, Group CFO; Mr. Ronald To, Senior Director of Strategic Planning; and Mr. Peter Caveny, Senior Vice President of Investor Relations.

[Operator Instructions] I will now like to pass the call to Mr. Drake for our presentation. Mr. Drake, please go ahead.

[Robert Drake, executive]

Thank you, operator. And greetings, everyone, and thank you for joining us on today's call. We are pleased to report GEG's second quarter results for the period ended June 30, 2019. The GEG team joining me here today at our headquarters in Hong Kong include: Mike Mecca, a member of the GEG Board of Directors; Ronald To, Senior Director of Strategic Planning; and Peter Caveny, Assistant Senior Vice President of Investor Relations. A copy of our media release, stock exchange announcement and PowerPoint presentation are available on our website, which also include our customary disclaimers.

We believe that the Macau market delivered a solid set of results in Q2 2019, where the trend in Q1 certainly carried through into Q2 and so far into Q3. The tale of 2 markets continues where Mass continues to grow while the decline in VIP appears to be slowing. Now that all the Macau concessionaires have reported, we believe that Mass revenue grew 12% year-on-year and declined 2% quarter-on-quarter, while VIP declined 13% year-on-year and a more modest 6% quarter-on-quarter as expected.

Further, VIP volume was down 20% year-on-year and down modestly quarter-on-quarter, which seems to indicate that VIP's decline is decelerating and that it also played lucky in Q2 2019, especially on a year-on-year basis. Interestingly and to no surprise, the VIP-Mass revenue mix, including EG, has shifted from approximately 45% VIP, 55% Mass in Q2 2018; to 40% VIP, 60% Mass in Q2 2019. This accounts for the 7% increase in Q2 2019 market EBITDA against a modest decline in market revenue.

We made the following statement last quarter which certainly warrants repeating again this quarter. If you dissect the market by the type of customer, we believe that the story is about the strong core and middle-market segments, which are arguably noncyclical; and the slowing premium segments, which probably accounts for the sequential decline in Q2 Mass. We are encouraged by some improving market fundamentals, including Macau's 12th consecutive quarter of year-on-year visitation growth, but at the same time are conscious that the slowing global economy may impact consumer sentiment and spending habits.

We're also encouraged by the central government's escalating support for -- of the Greater Bay Area, which includes 9 cities with Southern Guangdong, Hong Kong and of course Macau. We were also excited by new and forthcoming enhancements to the infrastructure network, including the future underpublicized enhancement to China's all-important high-speed rail network, which will make Macau even more accessible. More specifically, we look forward to the extension of the intercity rail from Gongbei Gate to the Lotus Bridge and the associated new train station, which will be the second-largest underground train station in all of China. Further, we look forward to the opening of the Taipa-Cotai leg of the Macau Light Rail Transit system towards the end of 2019, which will make it easier to travel within Macau.

This all translates into a winning combination for all stakeholders, including the GBA; Macau government; the local community at large; our customers; concessionaires; and of course, the broader financial community where we believe the investment thesis continues to strengthen, especially in the longer term. We believe that Galaxy is uniquely positioned to capitalize on this once in a lifetime opportunity with Macau's largest land bank.

Let's move on to GEG's results, where we delivered a solid performance in Q2 2019 given the prevailing economic conditions and a very competitive market, driven by near-record Mass win, which partially offset a decline in our VIP business. GEG's Q2 2019 EBITDA matched our prior performance and grew 9% sequentially to $4.3 billion. Our results include a little help from Lady Luck, which benefited EBITDA by approximately $349 million primarily in VIP and our premium direct business. Luck-adjusted EBITDA declined 11% year-on-year but grew 3% quarter-on-quarter to $4 billion. Our latest 12-month EBITDA grew slightly year-on-year to $16.5 billion, which is still over USD 2 billion.

Our results reflect our continuous effort to optimize our portfolio where Mass delivered a very solid performance which, as I said, partially offset the decline in our VIP business. We're particularly pleased with our Mass performance despite the softness in the premium segments, which represents a higher-quality and more predictable earnings stream, which is consistent with the Macau government's objectives.

GEG's statutory revenue in Q2 2019 was down 5% year-on-year and increased 1% quarter-on-quarter to $13.2 billion. The group's total gaming revenue on a management basis decreased 11% year-on-year and declined more modest 1% sequentially to $15.2 billion, where we played lucky in Mass and very lucky in VIP and premium direct. Mass table revenue grew 6% year-on-year and was down modestly quarter-on-quarter to a near-record $7.3 billion, where we played lucky on the back of one of our best volume performances of $30.4 billion. Our market-leading VIP business reported volume of $180 billion, which declined 38% year-on-year and decreased 12% quarter-on-quarter, as expected. This translated into VIP revenue of $7.3 billion, which was down 25% year-on-year and decreased 1% quarter-on-quarter. Further, our EG win grew 6% year-on-year to $0.6 billion and was flat sequentially. Our year-on-year results certainly demonstrate the impact of new capacity on our numbers, where on a sequential basis we are more than holding our own.

Moving on to nongaming. We are confident that our portfolio of 7 hotels was amongst the market leaders with virtually 100% occupancy. We continue to focus on driving and yielding rated play, which contributed to a 7% year-on-year increase in cash ADR despite significant new competitive capacity. Our new -- our nongaming revenue grew 4% year-on-year and was down 2% quarter-on-quarter to a near-record $1.3 billion, which excludes Construction Materials. Our nongaming revenue performance reflects our continuous efforts to optimize our operations, where we drove a higher year-on-year casino mix in our hotels, and our retail business posted solid results.

Let's turn to the Q2 property financial review, beginning in Cotai. Galaxy Macau's net revenue declined 4% year-on-year and grew 3% quarter-on-quarter to $9.5 billion. Our results were driven by one of our best Mass performances and solid gaming plus playing lucky. Hotel occupancy remained high at virtually 100% across Galaxy Macau's 5 hotels. Galaxy Macau improved its casino mix year-on-year and generated higher year-on-year cash ADR, even with significant new capacity ramping up in the market. Our mall delivered strong results with a 12% year-on-year increase in revenue to just under $300 million. Tenant same-store sales declined 8% year-on-year due primarily to the prevailing market conditions.

EBITDA in Q2 2019 matched prior year and grew 7% quarter-on-quarter to $3.2 billion. Our gaming operation played lucky in Q2, where we played lucky in Mass and very lucky in junket VIP and premium direct, which in the aggregate increased EBITDA by approximately $253 million. EBITDA on a normalized basis decreased 11% year-on-year and was flat quarter-on-quarter with $3 billion. Actual EBITDA margin improved year-on-year and quarter-on-quarter to 34%.

Further, we are pleased to report that Galaxy Macau continued to lead the market in every major property gaming revenue metric, including total gaming revenue, VIP, Mass and EG as well as ranked #1 in property EBITDA. You may also be interested in knowing that Galaxy Macau's LTM ROI was 35%. We are particularly pleased about Galaxy Macau's performance given the fact that we have consistently exceeded The Street's expectations by defending against 3 major integrated resort openings in Cotai, 1 major hotel opening in Cotai and significant upgrades across the market in a very competitive environment.

Next up is StarWorld, where we continue to see healthy demand for the peninsula experience despite a challenging market. Net revenue declined 10% year-on-year and slid 8% quarter-on-quarter at $2.8 billion, driven by near-record Mass win which partially offset a decline in VIP where we played lucky in both segments. We're pleased to report that Mass delivered a very solid volume performance, which translated into near-record win of $1.7 billion. StarWorld's hotel occupancy was virtually 100% for the quarter.

Q2 2019 EBITDA declined 4% year-on-year and was down modestly quarter-on-quarter with $943 million. Our gaming operations played lucky in both VIP and Mass, which increased EBITDA by approximately $92 million. EBITDA on a normalized basis declined 14% year-on-year and was down 3% quarter-on-quarter to $851 million. EBITDA margin improved year-on-year and sequentially to 34% in Q2. Finally, StarWorld's LTM ROI was 92%.

Our Construction Materials division reported quarterly EBITDA of $364 million, which grew 16% year-on-year and substantially quarter-on-quarter after a seasonally slow Q1. This was due primarily to strong demand for cement and slag in China which more than offset the decline in Hong Kong after the completion of the Hong Kong-Zhuhai-Macau Bridge.

Next up is development, where we are continuing with our $1.5 billion property enhancement program for Galaxy Macau and StarWorld. This program is designed to upgrade our amenities and strengthen our competitive positioning.

Let's move on to our update on Macau's largest land bank in Cotai. We continue to finalize the plans for Cotai, The Next Chapter, which will focus on hotel, MICE, entertainment and gaming. We continue to move forward with our MICE-focused Phase 3, which consists of approximately 1,500 hotel rooms and a 16,000-seat arena and 40,000 square meters of convention and meeting space, and of course, gaming, among other amenities. The construction continues to move forward and targeted -- begin opening Phase 3 in multiple phases beginning in late 2020 or the early part of 2021.

The construction of the new hotel tower at Galaxy Macau also continues to move forward, where we have accelerated the target opening from late 2021 to early 2021.

We have also begun site preparation work and completed a majority of the piling on our Phase 4, which will be Macau's only next generated -- generation integrated resort. Phase 4 consists of approximately 3,000 hotel rooms with high-tech, state-of-the-art gaming supported by, of course, gaming and the traditional array of nongaming amenities. We look forward to sharing more detailed information with you in the future. We also continue to make progress with our conceptual plans in Hengqin.

We continue to actively pursue new opportunities to strategically expand our brand into overseas markets. First up is Japan, where the momentum continues to build. We are certainly encouraged by the continued progress in Japan, including most recently the news where Osaka announced a second RFC which is due in mid-September. We continue to actively pursue all opportunities throughout Japan with our partner, SBM in Monte Carlo.

We are very fortunate to have gaming's most definable development pipeline with Cotai Phases 3 and 4, which is supported by new overseas initiatives such as Japan, among others. We still believe that Macau continues to represent the best medium- and long-term investment potential in the world. Again, we believe that Galaxy is uniquely positioned to capitalize on this with Macau's largest land bank, where we will be the only company in the market to develop a next-generation integrated resort. This of course translates into definable, not speculative, future earnings potential where we truly remain a growth company. This clearly distinguishes us from our competitors.

Our balance sheet continues to be one of the strongest in global gaming. Cash and liquid investments increased from $49.3 billion at the end of March 2019 to $50.4 billion at June 30, 2019. Our net cash position improved from $42.5 billion to $43.9 billion. Total debt decreased from $6.8 billion to $6.5 billion due to the repayment of some Construction Materials debt. Debt associated with our treasury yield enhancement initiative remained a consistent $6.0 billion in June 2019. Our strong balance sheet, which remains virtually unlevered, coupled with generating solid cash flow from operation creates significant flexibility in funding global gaming's most definable development pipeline in Macau and other value-creating projects such as Japan.

Moving on to dividends, where we are pleased to announce another special dividend of $0.46 per share payable in October 2019. Our special dividend certainly demonstrates our continued confidence in the Macau market and GEG's future performance as well as our commitment to return capital to shareholders while at the same time maintaining our status as a growth company.

Moving on to our outlook, where Q3 is off to a soft start. Further, like everyone else, we will continue to closely monitor the highly publicized macroeconomic and geopolitical issues including, among others, global trade tensions, but believe it's prudent to remain cautious. The next key indicator for the market will be the Golden Week holiday in October.

Looking further forward, GEG remains cautiously optimistic about the prospects for Macau in general and GEG specifically. We are definitely a growth company where we have a very definable pipeline of future growth projects. Our confidence is supported by the improving fundamental drivers for growth, such as increasing domestic consumption due to a growing affluent Chinese middle class; low penetration rates; infrastructure improvements; and the increasing demand by Chinese for tourism, leisure and travel, all of which will drive increased visitation to Macau. This of course is supported by the highly publicized Greater Bay Area initiative, where Macau will continue to play a key role.

Having said that, we do acknowledge that the competition has increased with the recent new property openings and enhancements to existing ones and will continue in the future with additional new openings, including regional markets as well as a tightening regular -- regulatory environment closer to home. We believe in healthy competition and believe that GEG continues to rise to the challenge. GEG is well positioned in the current market with our world-class, differentiated resorts, combined with our renowned World Class, Asian heart service, to deliver memorable customer experiences, coupled with an exciting future with Cotai Phases 3 and 4, Hengqin and our international initiatives, including Japan among others.

And finally, we would also like to thank all of our GEG team members who deliver World Class, Asian Heart service every day.

That concludes our opening remarks. Thanks for listening. Let's turn it back to the operator for Q&A.

[Operator]

[Operator Instructions] Our first question, we have Kenneth from Crédit Suisse.

[K. Fong, analyst]

Can you hear me?

[Robert Drake, executive]

Yes. What's on your mind?

[K. Fong, analyst]

Good, yes. Congrats on the very solid set of results. I have 2 questions. On the VIP, like from your prepared remarks, were being soft. But with Macau recently stopping the proxy betting for the junkets for overseas operation, medium term, do you see that as beneficial to Macau? This is for the VIP.

And for Mass, how do you see the mass traffic trend during the summer holiday? Especially from the recent events in Hong Kong, do you see any impact at all?

[Robert Drake, executive]

Thanks for the questions. On VIP, as we said, the trends have been pretty consistent throughout the year. Given the -- you can see that the regulatory environment is tightening, especially with the recent edicts from the DICJ, including things like settling all offshore play being settled in Macau, so it's -- that's certainly a positive for the market overall, along with the other initiatives that they announced.

We continue to feel that VIP will be pressured for the near future. And although we have seen signs of stabilization in that segment of the market, it is still decelerating. And we're watching this very closely like everyone else. As far as our VIP business is concerned, it was an interesting quarter for us. We actually closed 2 VIP rooms, reduced our capacity by 8% to 10% as we kind of optimized our portfolio there. As you know, we're in the midst of our $1.5 billion enhancement program. And we're doing a lot of refurbishments, not only the nongaming amenities but certainly some of our VIP rooms. And we're -- as Francis said recently at the press conference, we should wrap that up towards the beginning or middle of next year. So we continue to make progress on that front.

As far as Mass is concerned, it continues to grow. And what we've seen in our database is that our database continues to grow in terms of rated play. Customers are visiting less frequently and they're spending less. However, the value associated with our database is flat to growing. And what we've seen is that our low to middle tier Mass business, or core to the mid-market segment, has virtually offset the softness in our premium segment. And in particular, our casual business has done very well. So you can see that's probably a catalyst from the increase in visitation of plus or minus 20% during the quarter.

So as far as the foreseeable future is concerned, we think that segment of the market will continue to grow. We think the premium segments will continue to face pressure. And the next key indicator for us will be the Golden Week holiday in October.

[K. Fong, analyst]

And I have a follow-up question on the luck adjustment. For the $350 million of luck adjustment, it is fair to assume that most of it is mainly related to the VIP, especially for the VIP direct? Because I saw that the Mass hold rate for GM and StarWorld is actually largely consistent with the historical average over the past few quarters since you restate the Mass hold in first quarter '18.

[Robert Drake, executive]

Sure, sure. We played very lucky in VIP, as you saw, it was north -- and junket VIP around $350 million. We played even luckier in our premium direct business, which is approaching $370 million. So that was about $250 million of the $350 million. And then of course the balance would be in our Mass business, and the majority of that was at StarWorld.

[Operator]

Our next question, with Chelsey from Morningstar.

[Chelsey Tam, analyst]

I only have one question because I think another question was asked. So I'm just wondering if there's like a breakdown of capital expenditure between Phase 3 and Phase 4.

[Robert Drake, executive]

As far as the CapEx for Phase 3 and Phase 4, we haven't really dissected it into its component parts, but we're looking still at the budget of $45 billion to $50 billion. As we said on the call, in our opening remarks, that the opening schedule's been adjusted somewhat. Our Phase 3, the convention center with the 16,000-seat arena, 40,000 square feet of meeting space, it's targeted to open towards the end of next year, beginning of '21. We brought forward the Galaxy Macau's fourth hotel tower from the end of '21 to the beginning of '21. So those 2 will probably open very close to each other. Now as far as our Phase 4 is concerned, the opening schedule there would be still around 2022.

[Operator]

Next in queue, we have [ Daniel ] from Citigroup.

[Anil Daswani, analyst]

Two things. Could you help us dissect? There's a lot of macro events taking place, whether it be the protests in Hong Kong, the RMB that you're seeing that's also impacting things as well as the trade war. Which one of those 3 do you think is the most significant in hitting the Macau GGR going forward? Is there any one of those that you think is more important than the others? That's my first question.

The second question is maybe could we get an update from Mike on what the status is with Japan and what the latest developments are there as well, please?

[Robert Drake, executive]

I thought you had a new name.

[Anil Daswani, analyst]

[ I just let it go. ]

[Robert Drake, executive]

I don't know if you hired someone else to help you out there.

But Anil, thank you for the questions. And it's very hard to dissect the -- all these macroeconomic factors, the geopolitical factors and the like there. The -- before the recent events in Hong Kong and the recent depreciation, we could only conclude that the more macro issues had bearing on consumer sentiment and spending habits. As we've seen that throughout the year, that's been pressuring the premium segment as far as it's really hitting Macau in the first quarter of the year because we actually had a very strong quarter in Q4, as you know. So -- but I think it's just -- now it's more a combination of all these events. It's very difficult to dissect it. But I think these things will only weigh on consumer sentiment going forward.

So we'll -- and we will adapt to the market as we move forward. And what we've seen, as we just talked about in our VIP segment, continued pressure there probably for the balance of the year, especially given the recent events there. Our core Mass and middle market Mass business is just very strong. So it's the -- we see a lot of demand for the product in the summer season. It's one of the peak seasons for the market. We're virtually sold out every day with an increasing ADR, so that's a good sign. So we'll continue to watch it, with more information available probably in the Golden Week holiday. We'll see if some of the premium business starts to come back. We have seen some shoots -- green shoots in our premium business, but it's not enough to call it a trend yet. So it's the -- we're -- we'll continue just to watch this very closely.

As far as Japan is concerned, I'll just turn that over to Mike.

[Michael Mecca, executive]

Anil, thanks for the question on Japan. The positive momentum around IRs continues to build within Japan, and many cities and prefectures are expressing heightened interest in hosting an IR. We've got a few updates for you.

Importantly, the ruling LDP party retained majority control of the upper house in late July where they include support for IRs in their manifesto for the very first time. The federal government established the International Tourism department within the Japan Tourism Agency to manage IRs, including the site selection process. And the Japan cabinet office is also forming the Casino Administration Committee, which will be in charge of casino regulations, safety and probity. And we should be hearing from them at the end of this year.

Osaka continues to be the most vocal city and is aggressively preparing for the IR selection process by running a second and more formal nonbinding RFC, which is due in September 2019, where you have to bet that all the major IR operators are expected to participate, and certainly including GEG.

Yokohama continues to conduct research on IRs, where the mayor may decide on pursuing an IR after the basic policy is released in 2020. And they face significant local opposition. Other jurisdictions, such as Nagasaki and Hokkaido, continue to express interest in IRs. And I expect other jurisdictions to more formally state their interest and run RFIs as the process moves forward.

As you know at GEG, we continue to actively engage with government bodies and build community relationships. On Saturday, 27 July, GEG sponsored the Euro-Japan Cup that was held in Yokohama and was played between Manchester City and the Yokohama Marinos. Bringing Manchester City to Yokohama was well received and generated significant positive media coverage. And by the way, the game was a sellout, 65,000 people. A good day for Manchester City and for Galaxy.

And we continue to actively follow up on the 7 RFIs that GEG previously submitted. And GEG and SBM Monaco are very excited about the opportunity in Japan and look forward to updating you with our progress.

[Operator]

Next in queue, we have Billy from Bank of America.

[Billy Ng, analyst]

Congratulations on very solid results. I only have one question. Bob, could you mind to walk us through for the renovation project, the HKD 1.5 billion renovation project? It will have -- it will take another 2, 3 quarters to complete? And in the next 2, 3 quarters, what kind of improvement that you will be able to expect? For example, like any incremental junket rooms, incremental or additional restaurants? Or anything that you can point out that help us to visualize the project.

[Robert Drake, executive]

Sure. Thanks for the question, Billy. And as we said previously, there's no one big project that comprises the $1.5 billion. Having said that, it's focused on nongaming and gaming, hotel, restaurants, food and beverage, the main gaming floor and the like there, including some VIP rooms that we're renovating, including some that should open before Golden Week at both StarWorld and Galaxy Macau.

Beyond that, if you walk the property, you see we are boarding up and repositioning some of our retail. We continue with hotel renovations at Galaxy, recently completed the whole Banyan Tree renovation project. Also doing just similar things at StarWorld. So it's -- again, there's no one big project that is the lion's share of the $1.5 billion. There's just a lot of smaller -- and as Francis said, we should finish it towards the beginning to middle of [ 2020 ].

[Operator]

Next we have Ian from UBS,

[Ian Wong, analyst]

So one quick question from me, I just wanted to ask in terms of what is driving the acceleration for what we can see in terms of the Phase 3 opening? Just get some color on the back of that, please.

[Robert Drake, executive]

Now we're always starting to build our projects as fast as we can, and we're moving forward with the permitting process. And we always build as much as the Macau government will allow us to build at any one point in time. Right now, we're pretty confident that we can deliver on an accelerated time frame of late 2021 and bringing that forward into the early part of 2021, which would directionally coincide with the opening of our convention center complex.

[Operator]

Thank you. There are currently no questions in queue. [Operator Instructions]

[Robert Drake, executive]

Well, thank you very much for listening, and we look forward to updating you on our Q3 results in the near future. Thank you very much.

[Operator]

Thank you. This is the end of GEG's conference call. Thank you for joining us today. You may now disconnect.