Earnings Call Transcript - MLCO Q3 2020

Operator, Operator

Ladies and gentlemen, thank you for standing by. Thank you for participating in the Third Quarter 2020 Earnings Conference Call of Melco Resorts & Entertainment Limited. Today's conference is being recorded. I'd now like to turn the call over to Mr. Richard Huang, Director of Investor Relations of Melco Resorts & Entertainment Limited.

Richard Huang, Director of Investor Relations

Thank you for joining us today for our third quarter 2020 earnings call. On the call today are Lawrence Ho, Geoff Davis, Evan Winkler, and our property presidents in Macau, Manila, and Cyprus. Before we get started, please note that today's discussion may contain forward-looking statements made under the safe harbor provision of federal securities law. Our actual results could differ from anticipated results. In addition, we may discuss non-GAAP measures. A definition and a reconciliation of these measures to the most comparable GAAP financial measures are included in the earnings release. Finally, please note that our supplementary earnings slides are posted on our Investor Relations website. With that, I'll turn the call over to Lawrence.

Lawrence Ho, CEO

Thank you, Richard, and hello, everybody. During the third quarter, our integrated resorts experienced gradual recovery in business levels, helped by the resumption of the IVS visa issuance in Guangdong in late August and nationwide resumption of visa issuance in late September. Despite increased inbound visitation, thanks to the Macau and the Mainland Chinese government's measured and prudent approach towards border reopening, we have not seen any new COVID cases after the relaxation of the travel restriction measures. Benefiting from the resumption of visa issuance, our Macau mass table games operation, which contributes the vast majority of our EBITDA in pre-COVID times, saw notable sequential improvements from 2Q to 3Q. Business trends have also improved in the Philippines, with gaming and hospitality operations at City of Dreams Manila operating on a limited trial run basis as authorized by PAGCOR. In the middle of June, operations at Cyprus Casinos partially reopened. We saw a swift return of domestic gaming demand, which drove the return of our third quarter gaming revenues to approximately 75% of last year's levels. Looking ahead, while we are encouraged by the resumption of visa issuance and growing inbound visitation, ensuring the safety and well-being of our colleagues, customers, and the communities in which we operate remains our highest priority. We continue to expect a faster rebound and faster growth in the premium gaming segment, which benefits Melco's portfolio of luxury integrated resorts. To further strengthen our leadership in premium mass, we have made good use of the past few months to accelerate various upgrade projects at COD with the fully renovated Nüwa hotel tower currently anticipated to reopen before the Chinese New Year. Despite COVID-19, Melco remains committed to its global development program. Our next major project in Macau will be Studio City Phase 2, where construction is going full steam ahead. Upon completion, the Phase 2 expansion will increase Studio City's hotel room inventory by approximately 60%, with two new hotel towers offering approximately 900 luxury hotel rooms and suites. Gaming space will be expanded. New non-gaming attractions will also be added, which includes a Cineplex, one of the world's largest indoor/outdoor water parks, fine dining restaurants, and state-of-the-art MICE space. In Cyprus, we're making good progress with the development of City of Dreams Mediterranean, which, upon completion, will be Europe's largest integrated resort, offering over 100 gaming tables, 1,000 slot machines, and 500 hotel rooms. Turning to Japan, we remain unwavering in our commitment to bring to the country the world's leading IR. Our global team continues to monitor the process at a local and national level and engage with key stakeholders. We remain convinced that Japan represents the best potential new gaming market globally. At this time, we remain patient, and we will maintain our disciplined approach with respect to all development activities, including Japan. Last, while I expect demand recovery in Macau to be gradual, I remain confident in Macau's medium- and long-term growth prospects. I believe Macau is still the most attractive integrated resort market in the world. Our balance sheet was also strengthened by our recent capital market transactions, enabling us to overcome near-term challenges while investing for the future. With that, I'll turn it over to Geoff to go through some of the numbers.

Geoffrey Davis, CFO

Thank you, Lawrence. In the third quarter of 2020, we reported negative group-wide property EBITDA of approximately $77 million, while luck-adjusted EBITDA came in at negative $89 million. A favorable VIP win rate positively affected EBITDA at COD Macau, COD Manila, Studio City, and Altira by approximately $8 million, $2 million, $1 million, and $1 million, respectively. On a consolidated basis, overall results were positively impacted by approximately $12 million. Details of these adjustments can be found in our supplementary earnings slides posted on our Investor Relations website. In addition to the VIP win rate fluctuation, our performance was also affected by our bad debt provision. During the third quarter of 2020, we incurred a bad debt charge of approximately $32 million compared to a bad debt charge of approximately $10 million in the third quarter of 2019. On a year-over-year basis, the change in the bad debt provision negatively affected EBITDA by approximately $22 million. Last, to reflect challenges that the company and the global integrated resort industry faced in 2020, we reversed a previously booked bonus accrual, which positively affected third quarter 2020 EBITDA by approximately $27 million. On our second quarter conference call, we indicated that our Macau operations could achieve breakeven adjusted property EBITDA upon reaching approximately 30% to 35% of our historical gross gaming revenue levels, which was based on pre-COVID revenues and mix of business. With improving revenue mix and successful cost controls, we now expect our Macau operations to achieve breakeven adjusted property EBITDA upon reaching the mid- to high 20% range of our pre-COVID gross gaming revenue levels. Turning to our balance sheet, to optimize our capital structure, Studio City had in July issued $500 million of 6% senior notes due 2025 and $500 million of 6.5% senior notes due 2028. In August, Studio City completed a series of private share placements, raising approximately $500 million of proceeds to strengthen their balance sheet. Additionally, Melco in August issued $500 million of 5.75% senior notes due 2028. Taking advantage of favorable market conditions, Melco subsequently tapped the 2028 notes for another $350 million, which brought the blended average yield for the entire 2028 notes offering to 5.68%. Aided by these capital market transactions, as of the end of September, we had approximately $1.9 billion of cash on hand and undrawn revolving facilities in Macau and Manila of approximately $1.7 billion. To provide more clarity regarding our capital structure within our wholly owned group, we had cash of approximately $960 million and gross debt of approximately $4.1 billion at the end of the third quarter of 2020, excluding Studio City, the Philippines, and Cyprus. As we normally do, we'll give you some guidance on nonoperating line items for the upcoming quarter. Total depreciation and amortization expense is expected to be approximately $145 million to $150 million. Corporate expense is expected to come in at approximately $20 million to $22 million. And consolidated net interest expense is expected to be approximately $94 million to $98 million, which includes finance lease interest of $11 million related to City of Dreams Manila and $3 million of capitalized interest. That concludes our prepared remarks. Operator, back to you for the Q&A.

Operator, Operator

The first question comes from Billy Ng of Bank of America.

Billy Ng, Analyst

I have a couple of questions here. But first of all, would you mind to provide a bit more color on what you have seen on the ground recently in the last few weeks, especially since some of your peers keep mentioning that they see more pickup of the coming volume in the last few weeks? In addition, I also heard that the recovery is largely premium mass-driven. Can you provide a bit more color on whether the high-end premium mass or the low-end premium mass are doing better right now?

Lawrence Ho, CEO

Billy, it's Lawrence here. As we predicted on the last earnings call, we've always anticipated the recovery to be very gradual. And I think it is panning out to be exactly what we had anticipated. I think for details of what we've seen on the ground, why don't I pass it over to David Sisk to give more color?

David Sisk, CRO

Sure. Thanks, Lawrence. Billy, so what we've seen essentially is more of our, let's call it our premium, premium mass, more of our higher-end premium mass players coming back. A lot of our players are coming out of the non-Guangdong region. Guangdong is still somewhat complicated, and we're still having some trouble, as you've probably heard about in some of the other calls, and I think it's been pretty well noted in a lot of the writings regarding IVS and how it's currently functioning. But we've been fairly pleased with what we've seen come back. We're probably about 35% of our volumes from what we've had before. Overall, this has actually worked fairly well for us in terms of what's returned. Just to give a little more context, the players we're seeing at the moment are playing down a little bit, meaning that their average bets are a bit lower. They seem to be a bit more cautious. Playing time has not changed that much. One of the other things we've noticed is that players don't move between the properties as much now. This is likely more a reaction to COVID and just the difficulty as you navigate through each property and have to go through checks as you're moving from location to location or in and out of the casinos.

Billy Ng, Analyst

I see. I really appreciate the color. But just a follow-up on that is, you mentioned volume-wise, it's getting back to 35%. Does that mean the company is already back to profitability, given that I think Geoff mentioned the breakeven point is lower now?

Geoffrey Davis, CFO

So this is Geoff. Yes. We played a bit unlucky, but for the month of October on a PO basis, we are marginally in positive EBITDA territory. And that includes roughly $10 million of bad debt expense.

Billy Ng, Analyst

And just final question. Given the headline news about the Chinese government cracking down on junket activities in China, is the company changing its strategy post-COVID? Will you reallocate resources to more premium market segments and take away tables or rooms from the junket operations?

Lawrence Ho, CEO

Billy, it's Lawrence. Over the last ten years, we've been very focused. If anything, we pioneered the premium mass segment, anticipating the market to shift. We have a great team and a well-suited product to cater to that segment. At the current moment, with the anti-gaming campaign or anti-junket campaign, I believe this will have some long-term positives for Macau because, after all, they are focusing on overseas gaming. In due course, I believe we will see some of that traffic return to Macau. On an operational level, David and his senior team have always done a great job managing for what the market demands. David, do you have any more color to add?

David Sisk, CRO

I think a couple of things, Lawrence. First, the junket business or VIP business represents about 10% of our profitability. Therefore, it is not a huge portion of our revenue streams. As Lawrence mentioned, we've always made substantial investments towards our premium mass and mass-plus players, and we continued that investment during this downtime for COVID. We made significant improvements to our casino, enhancing the player experience, both in our rooms and dining. The last thing I'd say is as Lawrence was kind of alluding to, we believe this is a net positive for us overall. Whether that business returns through junkets or our premium direct business, we think, long-term, we are well-positioned to benefit from these changes.

Operator, Operator

Next question is from the line of Joe Greff of JP Morgan.

Joseph Greff, Analyst

I have two Macau-centric questions. One, Lawrence, David, or Geoff, could you talk about what you're hearing regarding China's efforts to reduce some of the bottlenecks and timelines for mainlanders to get visas under IVS? What is incrementally happening recently?

Lawrence Ho, CEO

David, do you want to give more detail?

David Sisk, CRO

Sure, I'll take that one. It's somewhat funny because there's incredible inconsistency in China between provinces and cities. For instance, non-Guangdong provinces can process visas in 1 day, while in Guangdong, it could take up to 14 days. We still haven't established a real consistent pattern beyond this inconsistency. Many of our Guangdong players who came in early October have been informed that they cannot return for 2 months. We are trying hard to get our players back promptly, but the process remains highly variable. We're maintaining our contacts, but the whole thing is very hit or miss. I think this kind of inconsistency will persist for the foreseeable future until things return to normal.

Joseph Greff, Analyst

Great. Geoff, regarding your comments on the new threshold for EBITDA breakeven, could you elaborate on the assumptions with respect to the incremental bad debt from here? It seems to have been affecting EBITDA over the last few quarters. Can you clarify the math behind the mid- to high 20% threshold for breakeven?

Geoffrey Davis, CFO

I would say on the lower end of the range, that excludes bad debts, while on the upper end, that includes bad debts.

Joseph Greff, Analyst

Do you think that, given your experience over the past 7 or 8 months, you’ve taken most of the hits regarding bad debt? Or could it be potentially more coming from external sources?

Geoffrey Davis, CFO

As you know, we've been very conservative in our provisioning for most of this year. At some point, as we see visitors return, we do anticipate that we will begin to reverse this, and we will start to collect. However, that has not been factored into our breakeven GGR guidance.

Joseph Greff, Analyst

Finally, how much of the bad debt is direct versus junkets?

Geoffrey Davis, CFO

Predominantly direct.

Operator, Operator

Next question is from the line of Edward Engel of Macquarie.

Edward Engel, Analyst

Of the 35% recovery you've seen in October, have you seen the mass business outshining the VIP business overall? Or have they generally performed similarly?

David Sisk, CRO

Lawrence, mind if I take that one?

Lawrence Ho, CEO

Yes, please go ahead.

David Sisk, CRO

Honestly, the junket and VIP business have been somewhat challenged by the visa process, particularly with Hong Kong being closed. Of the 35% recovery we're witnessing, that is primarily emerging from our mass, especially premium mass.

Edward Engel, Analyst

Did you notice visitation plateau by the end of October? Or was there consistent momentum throughout the month and into November?

David Sisk, CRO

We've indicated that visitation has slowed down, and while I wouldn't say it's plateaued, it has slowed. Immediately after we reopened in October during the Golden Week, we noticed a strong uptick, but it decelerated in the second week before picking up again in the third week. This seems to be linked to visa issuances for the non-Guangdong area. When we opened in September following the Guangdong relaxation, there was about a 2- or 3-week lag before visa approvals started. We're still observing good visitation patterns, particularly on weekends, but it has slowed somewhat, likely just due to the calendar and typical post-October patterns.

Operator, Operator

Next question is from the line of Ricardo Chinchilla of Deutsche Bank.

Luis Chinchilla, Analyst

While I know it's probably still early to analyze, can you share some insights regarding CapEx for 2021? Specifically for the wholly owned group and the plans for Studio City?

Lawrence Ho, CEO

For 2021, we anticipate roughly $1 billion. Approximately $250 million will be for Cyprus, and about $525 million will be focused on Studio City Phase 2.

Luis Chinchilla, Analyst

And regarding the maintenance for the wholly owned properties, would the remainder of that be allocated there?

Lawrence Ho, CEO

It would be a combination of maintenance, primarily maintenance and then also development.

Luis Chinchilla, Analyst

Can you comment on any observations from the junket side? Are you seeing any liquidity issues or impacts from the capital curves outside of China?

Lawrence Ho, CEO

David, can you take that?

David Sisk, CRO

Sure. From the IVS perspective, it remains challenging for players to access our facilities with Hong Kong closed. Therefore, the junkets are modestly cautious with the players they are managing. They are facing some collections challenges, but primarily it is a function of the IVS and the closed borders of Hong Kong.

Operator, Operator

And I'd now like to hand the conference back to Mr. Richard Huang. Please go ahead.

Richard Huang, Director of Investor Relations

Thank you for dialing in for our conference call today. We look forward to speaking with you again next quarter.

Operator, Operator

Thank you, ladies and gentlemen. That concludes the conference for today, and thank you for participating. You may now all disconnect.