Although earnings recovery is likely to be patchy post-lockdown, we remain OVERWEIGHT on the Gaming Sector as we believe valuations are attractive with the sector stocks heavily sold down these few months. We reckon the hit on 2QCY20 earnings will be severe, especially for casino players with their operations closed for almost the entire quarter while impact on NFOs is seen to be lesser given their relatively low operating costs. However, business volume should slowly pick up in 2HCY20 and investors should look into next year’s earnings recovery instead of this wash-out year. Given the earnings uncertainty faced by casino players, we prefer NFO players as their earnings recovery could be immediate and faster than the casino given social distancing issue on operating space factor as well as the cross border travelling restriction faced by the latter. BJTOTO is our TOP PICK for 3QCY20 strategy for its resilient earnings and attractive yield of c.7%.

Buy for recovery in 2021; maintain OVERWEIGHT. While the quarterly results which are due to be released next month is highly expected to be bad, especially the casinos which are anticipated to be loss-making, valuations remain fairly attractive as the rebound of gaming stocks from the lows in midMarch amidst the market meltdown has yet to fully regain the oversold positions. With the re-opening of NFO outlets on 17 June and the casino on 19 June, business volume should start to pick up in 3QCY20 from about 11-13 days of business days in 2QCY20. Thus, share prices should have already bottomed and sentiment should also improve further. Besides attractive valuation where casino operators are trading at 2SD below 5-year PBV mean and 1SD below 5-year PBV mean for NFO players, the stocks also offer decent dividend yields of 4%-7%. As such, we keep our OVERWEIGHT rating on the sector with BJTOTO (OP; TP: RM2.55) as our Top Pick for 3QCY20 Strategy for its resilient earnings with attractive dividend yield. We like GENTING for its deep valuation and BJTOTO for its resilient earnings as well as attractive dividend yield.

Casinos: re-opening to restore business and sentiment. At the heights of market meltdown on 19 March, both GENTING and GENM (OP; TP: RM3.35) saw their share prices plummeting 51% and 41% YTD then, a day after the entire country went into lockdown under the Movement Control Order (MCO) on 18 March. Since then, they have recovered 31% and 20%, respectively. With the re-opening of Resorts World Genting on 19 June, Genting UK casino on 4 July and Resorts World Bimini on 1 July, GENM should return to profitability in 3QFY20 after a near total closure throughout 2QFY20 which is expected to be a loss-making quarter. Together with Resorts World Sentosa which was reopened on 1 July, 2QFY20 would be equally bad for GENTING as well. We reckon that a “business as usual” to pre-COVID-19 level is unlikely any time soon as near-term earnings are likely to be lacklustre. But, business volume should slowly pick up in 2HCY20 and one should look into next year’s earnings instead of this wash-out year. Valuation-wise, we see deep value in GENTING which is trading at 2SD below its 5-year PBV mean and 57% discount to its SoP valuation. In addition, GENTING’s share price is at 30% discount to its combined equity stake values in GENS and GENM based on current price prices, not forgetting its equity stakes in GENP and other non-gaming businesses.

NFOs: earnings to pick up in 2HCY20 as business resumed. After three months of business closure, the NFOs were reopened on 17 June. In the three months period, BJTOTO had to cancel a total of 40 draws while MAGNUM (MP; TP: RM2.45) also had 39 draws cancelled. This led us to cut the NFOs’ earnings twice with total FY20 earnings cut of 33% or RM85.4m for BJTOTO and 28% or RM73.0m for MAGNUM. Meanwhile, we may see higher special draws from eight draws per year currently given the purpose of special draws for emergency events and COVID-19 is a valid reason to have extra special draws to raise tax revenues for the government. However, special draws have minimal earnings enhancement to the NFO operators as it comes with additional 10% tax. On the other hand, as government is looking for way of increasing tax revenue and NFO had their last gaming tax hike 10 years ago on 1 Jul 2010, market is speculating a potential gaming tax hike. But, in our opinion, any change in higher taxes may results in reduced prize payout and may likely lead to illegal players taking more market shares from the legal operators. At the end, the government will lose out with lower tax revenue receipts.

Expecting the worst in 2QCY20. With only six draws available for both BJTOTO and MAGNUM, their upcoming 4QFY20 and 2QFY20 earnings are expected to be badly hit to as low as below RM5m while GENTING and GENM are likely to see their 2QFY20 result in the red as its home-turf casino will only operate for 12 days in the quarter. Overall, we expect earnings to slowly pick up in 2HCY20 before a return to “business as usual” level in 2021. Meanwhile, we believe the earnings recovery for NFOs will be faster than GENM given that social distancing likely to have less impact on the former but a greater impact on the latter given the operating space factor as well as the cross border travelling restriction

Source: Kenanga Research - 8 Jul 2020