Casino stocks have been badly hit by the coronavirus shutdown of our economy but there’s light at the end of the tunnel!
The Crown Resorts Ltd (ASX: CWN) share price surged 7% to $7.22 while the Star Entertainment Group Ltd (ASX: SGR) share price popped 17.3% to $1.90 during lunch time trade after Citigroup upgraded both stocks to “buy”.
The outperformance of the stocks stand in contrast with the more modest 2.5% gain by the S&P/ASX 200 Index (Index:^AXJO) (ASX:XJO).
Play the long game
Casinos have been forced to close by the government in an effort to contain the COVID-19 pandemic. There’s no word on when these venues can reopen.
“We expect both Crown and Star to bunker down through a three-month period of casino closures and a further six months of a challenging consumer backdrop,” said Citigroup.
“In 12 months, however, we expect investors to be refocusing on the ‘normalised’ earnings of both businesses, with COVID-19 disruption and the worst of the ‘U shaped’ macro outlook in the past.”
Looking like a good bet
Both stocks are looking cheap based on the broker’s estimates. They are trading on a 6 times enterprise value-to-earnings before interest, tax, depreciation and amortisation (EV/EBITDA) multiple for FY22.
What’s more Crown’s free cash flow yield is hitting 12% while Star is sitting on a yield of 7%, according to Citi.
But both companies will likely have to join many others in cutting their dividends. The broker is tipping two dividend cuts by Crown and three by Star, which Citi considers prudent as cash becomes a very scarce commodity.
Banks expected to be supportive
Further, Citi believes banks will be flexible should the casinos breach their debt covenants given how widespread the fallout from the coronavirus is.
Citi upgraded Star by two full notches to “buy” from “sell” with a price target of $2.40 a share and it upgraded Crown to “buy” from “hold” with a target price of $8.20 a share.
Citi isn’t the only one making upgrades. Credit Suisse lifted its recommendation on Star to “outperform” from “neutral” as the stock is trading significantly below its 12-momth price target of $3.90 a share.
The valuation assumes a one-month shutdown followed by a 75% game utilisation capacity in the June quarter. It also assumes that Crown Sydney will take some market share off Star.
Further, Credit Suisse thinks there is little danger of Star falling over as it believes Star has ample liquidity even if casinos were forced to close for a longer than expected period.
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Motley Fool contributor Brendon Lau has no position in any of the stocks mentioned. The Motley Fool Australia owns shares of and has recommended Crown Resorts Limited. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.