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Gaming stocks hit jackpot
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December 1, 1999: 1:57 p.m. ET
Forget tech stocks, a stake in gambling casinos promises a winning streak
By Staff Writer Alex Frew McMillan
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NEW YORK (CNNfn) - Ten years after The Mirage casino changed the way people thought about Las Vegas, investors might want to change the way they think about gaming stocks.
Alternately in vogue and then subsequently shunned, they look set to produce steadier returns over the next few years, analysts say, rather than continuing as the crap shoot they have been in the past.
"The house always wins, that’s the old cliché,” said Jason Ader, senior managing director and gaming analyst at Bear Stearns. Retail investors get fired up about technology and health care stocks at the moment. But gambling shares are less of a gamble than those industries, he said, and may be worth a shot in a diversified portfolio. "At the end of the day it’s a good business because it’s a solid business.”
The Chicago Board Options Exchange Gaming Index has risen 57.7 percent since the start of 1999, hitting its high at the start of November. That far outpaces the S&P 500’s 13.1 percent increase since January.
Those numbers are thanks to a great middle part of the year for the industry and the fact that it had a lousy 1998. Gambling bombed thanks to a glut of new casinos coming on the market, fears of a recession in this country and a dip in visits from Asian tourists due to their economic crisis.
The turnaround in 1999 has been so dramatic that many of the individual stocks such as, Park Place Entertainment (PPE), Harrah’s Entertainment (HET), Mandalay Resort Group (MBG) and MGM Grand (MGG) are over, or close to, double their price for the start of the year. To analysts’ surprise, the anticipated glut of rooms in Las Vegas has been absorbed, and several companies had surprising earnings. And most states that will consider the issue are now passing more permissive laws, with Illinois and Missouri easing restrictions on riverboat gambling, for instance.
Do not expect such stellar stock returns heading into 2000, but gambling companies should show solid growth, analysts say, and the stocks are relatively cheap. Gaming is looking a little like a growth industry again to some.
"Maybe it doesn’t have the appeal of the Internet, but you’re not going to get killed either,” said Stuart Linde, gaming analyst for Lehman Brothers. "You’re not going to wake up one day and find your stock has halved.”
Know when to hold them
Not that gaming stocks are easy money. Even the largest companies are more mid-cap, meaning they are more volatile, and the stocks tend to move in bursts as interest waxes and wanes.
"They’re tricky for investors,” said Craig Callahan, chief investment officer of Meridian Investment Manager, which runs the Icon Leisure Fund. Gambling stocks - part entertainment, part hotel, part tourism - "kind of dance to their own drummer,” he said.
The Icon mutual fund bought into gaming stocks in the second half of 1998, looking for a value play when they were beaten down. Gambling has accounted for around a quarter of the fund since then, a weighting he expects to continue. Hurt by tobacco holdings, the fund’s performance has been poor - it is down 4.1 percent year to date and up 3.8 percent for the 12 months through Nov. 18, according to fund tracking company Wiesenberger.
"They seem to move more in spurts than other stocks instead of taking a steady path,” Callahan said. "We tend to hold things for a year and a half to two years, so we don’t mind holding until that burst happens.”
Callahan has noticed that they tend to produce most of their returns in windows as narrow as three to four weeks. Given that unpredictability, maybe it is not surprising that the interest, and the money, in gambling stocks is heavily institutional.
Attractive demographics, attracting customers
But, he thinks gaming stocks are a good play for individual investors who like to ride trends, in this case the aging of the Baby Boomers. Gambling is increasingly popular and acceptable to them, and Las Vegas in particular has played into their hands, so to speak, by tempting them with family-style amenities - shopping, restaurants, shows like Chicago, Siegfried & Roy and Cirque du Soleil.
Gambling stocks often do get attention from people who know and have "used” the brands, like many consumer-oriented industries. Individual investors have often visited the various gambling hotspots, particularly Las Vegas, and got in based on what they saw. A gambler who lost to the house might as well buy a few bricks, after all.
You just have to look to the chatter on Internet message boards. "Las Vegas was the busiest I’ve ever seen it,” DJQuakerK, wrote on a Yahoo stock message board after Thanksgiving weekend. He identifies himself as a 25-year-old Southern California resident. "I’m not going to give a casino-by-casino low down, because EVERY ONE I went to was hopping ... I think all investors won this past weekend.” His family members were not there to gamble but spent money on the rides, the shopping, the restaurants and shows, he said, a trend he thinks bodes well for the industry.
Retail interest in gambling stocks reached a high around 1993 and 1994 when the riverboat-gambling companies debuted, then dropped off. But, though it is a little haphazard to buy in after a spot visit, it is not a bad idea to buy what you know. "That’s actually a healthy way to look at it,” said Brian Egger, gaming analyst at Donaldson Lufkin & Jenrette.
Gambling may be in for steadier winnings
The industry is set to show some solid gains and prove less erratic than it normally does, he thinks, because there is little new construction around the country. That breaks the overspend, overbuild cycle that has been the industry’s bugaboo in the past. Companies are intent on paying down debt, managing their existing properties and coming up with new ways to draw in customers.
Gaming is "moderately cyclical,” Egger said, meaning growth slows but does not decelerate in a recession. The last decline came with the double jeopardy of a recession and the Gulf War, which hurt travel, in 1991. Since then, he thinks the focus on resort-style hotels means the industry is less dependent on good economic times than it used to be. That kicked in with The Mirage but was followed up heavily over the past 12 months, when Bellagio, Mandalay Bay, the Venetian and Paris resorts opened in turn between October 1998 and this September.
And gambling is not just Las Vegas, Linde pointed out. "Many people view [the industry] as the rise and fall of the Strip,” he said. But the limit on licenses in Indiana, Illinois, Iowa, Louisiana and the lack of viable real estate in Mississippi and Missouri make those attractive markets, too.
In those markets the casinos, which are often riverboats across state lines from major cities, are basically oligopolies. That is a surer bet than Las Vegas, where anyone with the cash can buy an old casino next to your new-fangled resort, implode it and try to one-up it. The smaller markets also depend on locals more than volatile tourism, shooting to get 20 percent of the locals to come and try what is basically the only show in town.
Largest companies are the analysts’ picks
Couple those factors with consolidation - many smaller companies looked to sell out in the poor markets late last year - and most analysts favor the largest two gaming companies. They each operate in Las Vegas, Atlantic City, N.J., and a number of other markets.
No. 1 -- Park Place Entertainment (PPE) had 1998 revenues of $2.3 billion and runs casinos under the Bally, Flamingo and Grand names. It also owns the Paris and several casino Hiltons, a chain it spun off from Dec. 31, 1998. It is buying Starwood Hotel & Resorts Worldwide (HOT)’s three Caesars hotel-casinos and other gaming operations, a deal expected to close before year-end.
"As we get more well-known, we are developing a stronger retail following,” said Chief Financial Officer Scott LaPorta. Still, only about 35 percent of its shares are held by individual investors, with just over half held by institutions and the rest by insiders. Individual investors like its name brands and the "world’s largest” tag, LaPorta said. Institutions tend to understand the value of the geographic and demographic diversity from its 29 casinos, which reduces earnings volatility.
Egger rates Park Place his top pick in the industry with a 12-month target price of $17. The Paris casino, which opened in September, shows the company is able to generate good returns on investment, he said. The company keeps down construction costs, which are known to run rampant in gambling, and picks good locations and strong themes, he said.
No. 2 -- Harrah’s Entertainment (HET) had $2 billion in revenues for 1998, from its eponymous hotel-casinos as well as under the Showboat and Rio brands. It is trying to bounce back from a debacle opening a Harrah’s in New Orleans and is closing a deal to buy Players International (PLAY), which runs five riverboats in three states.
Where Park Place fights to produce earnings by keeping costs in check, Harrah’s is the master of marketing among gambling companies. Its Total Gold program, a "frequent gambler” program, has been effective in rewarding a variety of types of players - big spenders, big losers, small winners, you name it - often luring or "comping” them at another location in the chain. The program carries from venue to venue.
Much of the credit goes to its Chief Operating Officer, Gary Loveman, an ex-Harvard Business School professor, according to David Anders, a gaming analyst with CS First Boston. "Not only do they rate you in one existing facility, which builds customer loyalty in one market, but they also entice you to go to their other locations,” Anders said. "It’s much more advanced than other casinos.” He rates Harrah’s a strong buy with a 12-month target of $35.
Other large gaming companies with some diversification that a few analysts say are worth considering are, in order of revenues: Mirage Resorts (MIR); the former Circus Circus Enterprises, now under that Mandalay Resort Group (MBG) name; and MGM Grand (MGG). Most shy away from debt-heavy Trump Hotels & Casino Resorts (DJT).
While Wall Street punished Mirage’s move into Mississippi with its upscale Beau Rivage resort, MGM’s foray into Detroit has been highly successful. Though gaming stocks tend to move together, Linde, the Lehman analyst, said he thinks there may be a split in the pack between diversified companies and the rest. What is more, with the spend-build cycle abated, "clearly my feeling is, those companies with better fundamentals will outperform the others,” he said.
Some analysts also like Station Casinos (STN), a smaller company that attracts mainly a local crowd rather than tourists. It creates more mall-like entertainment around its casinos, with movie theaters, restaurants and even child care. It stands to benefit from the rapid growth in Las Vegas’ population, at roughly 5 percent a year, driven by the lack of income tax, warm climate, growing employee base and popularity with retirees.
Overall, the industry is more stable than it has been in years, analysts say. There are no new jurisdictions to prompt speculation and inflate stocks, few properties are being built, and maintenance and expenses on the completed casinos are minimal. That means the companies just have to keep the cash flowing. And anyone who has fancied a flutter might have noticed that is something casinos are adept at doing.
"Keep in mind that there’s a good reason that organized crime and the mob liked this business in the 1960s and 1970s,” Anders at CS First Boston jibed. "It’s a good cash business.” 
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