Despite cyberattack, Deutsche Bank bullish on MGM

October 19, 2023 8:27 PM
Photo: Shutterstock
  • Buck Wargo, CDC Gaming Reports
October 19, 2023 8:27 PM
  • Buck Wargo, CDC Gaming Reports

Deutsche Bank’s assessment of MGM Resorts International is positive ahead of the release of its third- quarter earnings on Nov. 8. It dropped its price target by only $1 to account for the hack of MGM computer systems.

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The price target for MGM’s stock, which has been trading in the $36-plus range this week, went from $57 to $56, according to a note to investors released by analyst Carlo Santarelli, who referred to the stock as “very cheap.” Price targets are based on a 2025 forecast.

When the market closes Nov. 8 and MGM releases its earnings, Santarelli expects “plenty of room for interpretation in the results, though we have revised our forecasts to account for the impact, as detailed by management,” of last month’s cyberattack that disabled slot machines, ATMs, and computer systems. Deutsche Bank has adjusted its forecast for the third quarter to embed MGM’s stated impact from the cyber issues, which management noted would total about $100 million in adjusted EBITDAR, $80 million in Las Vegas. The balance of their forecasts was essentially unchanged, Santarelli said.

The impact of the attack on MGM’s occupancy in September was to lower it to 88%, down from 93% in September 2022. The leakage into the fourth quarter appears to be minimal, with October occupancy expected to be 93%, down from 94% in October 2022, but a full rebound is expected in November.

“The impact from one-time expenses related to the breach is expected to be less than $10 million in the third quarter, and we do not believe these expenses will be reflected in adjusted EBITDAR, as they are expected to be covered by insurance,” Santarelli said. “MGM believes its cybersecurity insurance will be sufficient to cover the operational and one-time expenses related to the incident.”

Based on recent discussions with operators in Las Vegas, Santarelli said they believe group bookings remain healthy and up year over year for 2024. Previously, MGM noted that the first quarter of 2024 is pacing well, thanks to the Super Bowl, with three to four times higher room rates on the books. The entire 2024, from a convention-booking perspective, is pacing up about 6% in room nights, he noted.

“Given gross gaming revenue trends in the quarter to date, which include some favorable baccarat performance, we expect MGM to reaffirm the strength at the high-end properties of their Strip asset portfolio,” Santarelli said. “This subset represents about 65% of MGM’s Strip rooms and generated about 80% of second-quarter Strip property EBITDAR.”

Regional gross gaming revenue for MGM is down 2.7% in the third quarter so far, with results for September at MGM Grand Detroit pending, Santarelli said. The result represents a deceleration from the flat performance in the second quarter. Despite that flatness, net revenue was down 3.5% year over year.

“The deceleration in the third quarter, however, was largely a result of September performance and we believe primarily relates to the cyber-security incident, as well as the reporting of GGR related to the incident,” Santarelli said. “July and August GGR trends were essentially flat.”

Santarelli said their 2024 consolidated property EBITDAR forecast is down about 1% from their prior estimate, with Las Vegas and regional estimates broadly unchanged and their Macau forecast down about 4%, given the more gradual recovery in the market.

“Our $56 price target is based on a sum-of-the-parts approach,” Santarelli said. “We value MGM’s domestic OpCo asset base, its domestic managed operations, and the royalty fees associated with MGM Macau at a blended multiple of 6.5x our 2025 adjusted EBITDAR estimate.”

Santarelli said they make value adjustments for MGM’s 50% stake in BetMGM, its $370 million stake in VICI, and the $50 million BREIT stake, before extracting net debt, including the capitalized lease debt. They estimate the domestic portfolio is worth $41 per share.

According to Santarelli, downside risks include challenging domestic-revenue comparisons; the potential for margin pressures, stemming from labor-cost increases or potential revenue declines that extend beyond their current forecasts; limited flexibility in the current cost structure; and macroeconomic and geopolitical risks that go beyond what is currently contemplated in the estimates.

While casino mix, as well as rising hotel average daily rates and other amenity-price increases, will elevate customer-reinvestment levels (the delta between gross and net casino revenue), Santarelli said they believe the Las Vegas Strip has “become a bit more competitive over the last several quarters. As such, we think it will be important for investors to see reinvestment rates level off, though, given the cyber incident, it is possible reinvestment rates are somewhat skewed in the period.”

In addition to reinvestment levels, Santarelli thinks investors will focus on same-store margin performance, which fell about 350 basis points year over year in the second quarter. The majority of the decline stemmed from increased labor costs.

“While the cyber-security incident impacted revenue primarily, we do not expect the reported same-store margins in the third quarter will be representative of normalized trends,” Santarelli said. “We remain comfortable with MGM’s ability to maintain Strip margins in the range of 400 to 600 basis points above 2019 levels over the near to medium term.”

While ambiguity remains as to whether MGM is prepared for increased union-wage expenses following negotiations with the Culinary Union, Santarelli doesn’t expect the union issues to linger beyond the Las Vegas Grand Prix Formula One race in November.

“We estimate that every 1% change, from current levels, in the union wage and benefits package would impact annual Strip EBITDAR by about $12 million and margins by about 12.5 to 15 basis points, excluding any savings from potential mitigation efforts driven by labor flexibility or technology.”

As for Macau, Santarelli expects steady share and modest margin improvement during the third quarter. MGM “has benefited incrementally from considerable share gains,” with the second-quarter share coming in at about 14.6%, up 560 basis points from the second quarter of 2019, though down 90 basis points quarter over quarter.

“MGM has noted that it can maintain current market-share levels, and based on checks for the third quarter, it appears likely the shares held firm in the period,” Santarelli said. “Recall, management previously noted that they are focusing on four key priorities to maintain market share gains; 1) activating the incremental 200 tables, 2) casino floor remodels to maximize yield, 3) incremental mass and premium-mass-focused tables, and 4) direct marketing to global customers.”

Santarelli said they expect margins to expand modestly quarter over quarter due to the increased mix of mass revenue on a market-wide basis. During the second quarter, while not calling it out specifically, they believed MGM China garnered an EBITDA benefit of $3 million to $4 million from higher-than-normal VIP hold.

“As such, while our current estimate for the third quarter (28.5% property margin) is up 20 basis points quarter over quarter, the hold adjusted improvement is likely to be greater,” Santarelli said.

As for BetMGM during the third quarter, Santarelli said while its partner recently confirmed full-year guidance of net revenue toward the high end of $1.8 billion to $2 billion for 2023 and an EBITDA-positive second half of 2023, the third quarter was “largely uneventful, with growth moderating year over year. We project sequential performance to be relatively flat, despite what appears to be some sequential share loss in the icasino segment. We anticipate EBITDA around breakeven for the third quarter, though the lagged reporting could sway results modestly in either direction.”

During the third quarter, BetMGM went live with a single-wallet feature in 14 states, which make up about 50% of their player database. The rollout continued throughout the period and into the fourth quarter.