It’s been over two months since I posted my cautious note Wynn Resorts Ltd. (NASDAQ: Wynn), I suggest there are better risk-adjusted investments out there. Since this article was published, The S&P 500 rose about 1.3%, but shares fell another 6.3% (SP500). This is an ongoing trend for the stock, which has lost about 14.5% since I last wrote about it, while the S&P 500 has gained 8.10% possible. At some point, though, these stocks will represent good value, so I’d have to review this name again. After all, just because an item is a bad investment at $111.30 doesn’t mean it’s a bad investment at $95.I’ll see if a buyback makes sense based on the latest financials and current circumstances Valuation.
If you are one of my regular readers, you know that I put a “thesis statement” at the beginning of every article. I do this because I’m absolutely committed to making my readers’ lives as enjoyable as possible, and one of the ways I can do that is by saving them time. In a thesis statement, you have the opportunity to get into the article, get the gist of my idea, and then exit again before you get too far into my silliness or correct spelling. You’re welcome.
I feel much better about Wynn Resorts today, and I think there’s a lot to like about the financials here. Dividends are well paid and all the dynamics of the business are working well in my opinion. The problem is that “casinos” still haven’t recovered to pre-pandemic levels, which is significant given the importance of the business. That said, it’s recovered well compared to the same period a year ago, so the trend is very much in the right direction. The issue for me is the relative valuation here. In a world where “TINA” no longer exists and I can earn 4.5% on a risk-free investment, why would I risk all the associated risks by purchasing this stock? I will certainly reconsider if and when the stock price continues to fall, but for now I will remain on the sidelines.
Financial performance is either “very good” or “moderate,” depending on your perspective. Compared with the same period last year, the latest financial results are impressive, with revenue and net profit increasing by US$1.157 billion and US$430 million respectively. The problem is, things haven’t returned to 2019 levels yet, with revenue and net profit down 8.8% and 41% respectively. Revenue from rooms, food and beverage, entertainment, and retail increased by 41%, 25%, and 49% respectively, which is very good.
The problem is this is still a casino-driven business. This isn’t exactly a casino-driven business, given that casinos have dropped from 70% of revenue in 2019 to around 56% today, but it’s still the biggest piece of the puzzle. So any percentage decline in that revenue can have a huge impact on overall operations.
As I write this, I should point out that casino revenue is trending in the right direction, nearly doubling (97%) year-over-year, so I estimate that by early 2024, this number will be back on trend. Furthermore, I think the dividend is paid out pretty well with a payout ratio of only 24%. With all of this in mind, and with apologies to the author of the famous game show catchphrase, I’m willing to buy the stock if the price is right.
I’ve written it before, and I’m absolutely sure I’ll write it again. I might run the risk of boring my readers, but if it’s not clear to you by now, then obviously I’m willing to take that risk. The more you pay for $1 of future earnings, the lower your subsequent returns. That’s why I try to buy stocks when they’re cheap. In other words, there is a strong negative correlation between the price paid and future returns.
I keep writing this article because I often encounter people who take the “we don’t buy stocks, we buy businesses” view. It seems to me that these poor souls have been fed some propaganda. I’ll try to dispel this nonsense by offering a thought experiment. Let’s consider the story of two investors buying Wynn Resorts, and then consider the following thoughts. One investor bought the shares on September 1, when “Macau casino revenue reached a new post-pandemic high,” and another investor bought the shares six days later. The former fell by about 6.8%, while the latter rose by about 3.25%. There’s not enough change in those six days to explain more than 10% of the difference in returns. We buy stocks, and I feel it’s important to point out that those who buy cheap do better.
I should finish my sermon by pointing out that I use several methods to measure how cheap a stock is, ranging from simple to complex. From a simple perspective, I like to look at price versus some measure of economic value, such as earnings, free cash, book value, etc. I like to see a stock trading at a discount to both its history and the overall market. When I last reviewed Wynn Resorts, the price-to-sales ratio was about 2.675x, down significantly from 3.385x when I reviewed the stock in May. Furthermore, the dividend yield was a measly 0.25%, about 375 basis points below the risk-free rate at the time.
Fast forward to now, and the stocks are actually about 18% cheaper on a price-to-sales ratio, and the dividend yield has doubled. However, even after doubling, the dividend yield here is still about 400 basis points lower than the 20-year Treasury note. As a result, these stocks are cheaper in some ways, and investors are receiving much more than they were the last time I reviewed this company name. To me, the issue is that investors can take on less risk to generate higher levels of cash flow.
As I wrote above, in addition to looking at simple ratios, I also look at more complex valuation metrics. In particular, I want to try to unpack the assumptions currently embedded in prices. If you read my articles regularly, you’ll know that I rely increasingly on the work of Professor Stephen Penman, and increasingly on Mauboussin and Rappaport, to do this. This method uses the stock price itself as a source of information. The method involves “reverse engineering” the assumptions that led to the current price. To do this, I applied the magic of high school algebra to a fairly standard financial formula to isolate the “g” (growth) variable.
Using this approach, the market is currently predicting Wynn’s future growth rate to be around 5%. In my opinion, this is a fairly optimistic forecast and suggests that the stock is not yet cheap enough to be considered a purchase. I’m also troubled by the fact that the analyst base forecasts earnings per share to grow at a CAGR of about 25% over the next six years. Given the above, I will continue to avoid stocks, and I may change this view if stock prices continue to fall and the spread between risk-free rates and dividend yields shrinks further. As a reminder to my readers, we are not looking for “return.” We’re looking for “risk-adjusted returns,” and in my estimation, the alternatives available to Wynn Resorts Ltd. can provide substantial returns at much lower risk. Given this, why would anyone buy these stocks?