GUEST OPINION: Gaming industry resilient amid chaos

September 23, 2002 - Over the past year, the stock market has probably seen some of its most volatile activity in recent decades.

Included in this period, we have seen some unusual and extenuating circumstances, including: (1) the tragic events of Sept. 11, (2) speculation surrounding alternate terrorism mechanisms - such as the excessive media exposure over the perceived threat of anthrax, (3) the uncertainty in the search for key terrorism targets, (4) corporate accounting scandals of substantial proportions, (5) a series of unprecedented large-cap bankruptcies, (6) the recent speculation of U. S. attacks in the mid-East, and countless other anomalies, never before witnessed in such a relatively short period of time.

All of these factors have contributed to an unpredictable and volatile equity market. Over the past 12 months we have witnessed declines in the S&P 500 from 30 percent (September 2001 compared to September 2000) to the most recent month's decline of 23 percent when comparing the daily average S&P 500 index for August 2002 to August 2001 (pre-Sept. 11).

Similarly, the Dow Jones Industrial Average (DJIA) also reported similar declines over the months following Sept. 11. The DJIA for September 2001 reported an immediate decline of 18 percent compared to the prior year. Again, in the most recent month of August 2002, the decline compared to the prior year was 16 percent.

It is also true that the major gaming companies also reported substantial declines in equity valuations. Considering some of the major Las Vegas Strip operators of MGM Mirage, Park Place Entertainment, Mandalay Resort Group and Harrah's Entertainment, year over year stock price declines in September 2001 were significant, ranging from the lowest decline of 8 percent for Harrah's Entertainment to a high of 46 percent for Park Place Entertainment. The composite of these four operators witnessed an aggregate loss in valuations of 29 percent, only one point off of the S&P 500 decline for the same period.

Clearly this impact was a direct result of the tremendous amount of uncertainty surrounding air travel, both internationally and domestically. Many of the operators witnessed declines in pre-booked hotel rooms in the months following the release of air travel restrictions. Certainly, the decreased activity is due to the lag effect while many of the international tourism wholesalers assessed the impacts of the world events and domestic travelers ventured to destinations within driving distance from their homes. Some of this lag effect still exists today.

As we moved further away from Sept. 11, the stock market, as a whole, witnessed some improvement from these lows; however, corporate accounting scandals and the drop in investor confidence levels spurred another significant change in the equity markets.

Despite these uncertainties, major operators in the gaming sector continued to report increased valuations. It was only in the third month following Sept. 11 that the previously mentioned operators obtained an aggregate positive growth rate in stock prices over the same period of the prior year. Despite the change in operator's customer mix from higher value customers to more cost-conscious consumers, valuations continued their climb.

As of August 2002, the resilient gaming sector has reported an increase in stock price alone of 63 percent from September 2001, when looking at these four operators in aggregate. Other contributors to the rise can include company stock repurchase programs, such as that of Harrah's Entertainment.

However, one clear indicator of the direction of this industry is the capital investment in these properties for the future, which include the Mandalay Bay convention project, recently-announced Bellagio expansion, and the Forum Shops expansion at Caesars Palace, just to name a few. This development activity sends a clear message that management of these companies is anticipating positive returns on their investments. Another strong message is the return to pre-Sept. 11 profitability levels. Despite reduced revenue levels, operators have learned to run more efficiently with a watchful eye on expenses.

Overall, I wouldn't expect the climb in valuations to continue at this rate, while it is important to note that the recent inverse relationship between selected gaming stocks and the overall market we have witnessed over the last 12 months can quickly re-adjust within days of changes in the world's political, social and economic conditions.

Brian Gordon is principal analyst with Las Vegas-based Applied Analysis.

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