Monarch Casino & Resort: A Well-Managed Company With A Fair Valuation

Introduction

Monarch Casino & Resort (NASDAQ:MCRI) is a gaming and hospitality company that owns and operates two casino resorts in the United States: Atlantis Casino Resort Spa in Reno, Nevada, and Monarch Casino Resort Spa Black Hawk in Black Hawk, Colorado. The company faces competition from other casinos, Airbnb, online casinos, and other leisure activities. However, Monarch has several competitive advantages, including its convenient locations, customer service focus, and strong management team. Monarch is inside strong markets with opportunities to expand the top line. Moreover, there are plenty of opportunities to take more market share as the management focuses on improving the customer experience and strategic projects that generate acceptable returns.

Overall, Monarch Casino & Resort is a well-managed company with a strong track record of profitability. However, the stock is fairly valued at the current price, and I recommend it as a Hold.

Business Overview

Monarch Casino & Resort, Inc. (Monarch) is a gaming and hospitality company that owns and operates two casino resorts in the United States: Atlantis Casino Resort Spa in Reno, Nevada, and Monarch Casino Resort Spa Black Hawk in Black Hawk, Colorado. Monarch's casinos offer various gaming options, including slot machines, table games, and poker. The casinos also have restaurants, bars, lounges, and other amenities. In addition to its casinos, Monarch also operates hotel rooms. Monarch's business model is based on providing its customers with a high-quality gaming and entertainment experience. The company's casinos are designed to appeal to a wide range of customers, from casual gamblers to high-rollers. Likewise, the company’s strategy focuses on enhancements to customer services and cost structure rather than growth at any price.

Competitive Landscape

Reno has several hotels and 15 casinos close to downtown, such as Circus Circus, Silver Legacy, and Eldorado. Hence, the Reno market is highly competitive. Furthermore, the company faces competition from Las Vegas, Lake Tahoe, and Native American facilities in California, which can operate with higher flexibility as some operate under less stringent restrictions than Monarch Casino.

Nevertheless, the company has some competitive advantages in Reno that set it apart. First, its compelling location, close to the Reno-Tahoe International Airport and the Reno-Sparks Convention Center; thus, I believe conventioneers prefer and will prefer to make reservations in Atlantis rather than in other hotels. Moreover, convention agents will tend to organize their events in the Reno-Sparks due to its proximity to the airport and the center’s size (500,000 square feet). Nevertheless, other event centers in Reno compete directly with the Reno-Sparks, as seen in the map above. Still, the Reno-Sparks has the advantages of proximity to the airport and its large size.

Second, I think the intangible assets related to the Atlantis brand are a unique and strong competitive advantage over other hotels in Reno. TripAdvisor has awarded Atlantis as the best resort for nine consecutive years; in this sense, Forbes has awarded Atlantis as the only four-star venue in Reno for eight straight years, and the U.S. News & World Report decorated Atlantis as the Best resort and hotel in Reno. In addition, The 10Best decorated Atlantis is the #6 best US casino outside Las Vegas, the only one from Reno in the top ten in 2022, and the #8 in 2021 behind Peppermill. However, in 2023, Atlantis wasn’t on the list, and instead was the Grand Sierra Resort. Moreover, customers' reviews on Google are very similar among hotels, indicating that Atlantis satisfies its clients similarly to other hotels in Reno.

These competitive advantages, alongside a management team focused on improving the value proposition through projects with high ROIC compared to others inside the industry, have made Atlantis a clear winner inside the Reno market. In fact, Atlantis has increased its market share in the casino segment since 1996.

Moreover, if we compare the financial performance of Monarch Casino with Caesars Entertainment (CZR), which owns several hotels in Reno, MGM (MGM), and Golden Entertainment (GDEN), one thing is clear: Monarch is better managed than the rest. Monarc didn’t engage in a ‘growth at any price strategy,’ unlike the others. Instead, the management focuses on customer service and cost efficiency, and the strategy paid off as we can see the operating margin of Monarch is higher than peers’ since 2017, except for 2019.

Furthermore, Monarch did not try to grow through expensive acquisitions, so it doesn’t have an unpayable debt, unlike competitors focusing on acquiring other businesses, especially Caesars, which can barely pay its interest expenses with its TTM operating income. Of course, the strategy of growth at all costs has consequences in the return on those investments. As we can see, the firm has outperformed its peers regarding profitability. For instance, the company has had the highest ROA every year, but in 2019 and 2021, and it has been relatively constant; meanwhile, the peers experienced volatile returns on their assets. Furthermore, even if it didn’t have the highest ROE, this metric depends heavily on the Assets-to-Equity ratio, so the higher the financial leverage, the higher the ROE. Thus, the company operates more efficiently than its peers and has conservative leverage. Consequently, from my perspective, Monarch’s management team has demonstrated a better performance than other management teams, as its strategy proved better than just following growth, even if the returns are not attractive. Then, while Caesars and Golden experience low returns and burdensome debt, Monarch has a healthy balance sheet with long-term debt of $41 million and cash reserves of $35.1 million

In the Colorado market, the competition is limited to three towns – Black Hawk, Central City, and Cripple Creek – so the barriers to entry are mid-high, as casinos are limited geographically. In addition, Black Hawk accounts for 77% of the gambling market in Colorado. There are 21 casinos inside Black Hawk, so the competition is tough. Nevertheless, Monarch has increased its market share thanks to the property's end-by-end transformation and the expanded casino's coming online.

As Atlantis, the Monarch enjoys a convenient location on Highway 119 because it’s the first gaming location encountered by visitors from Denver. Moreover, according to Tripadvisor, Monarch is the second-best casino in Black Hawk. However, Native Americans have tried to increase competition in the zone by developing racetracks and video lotteries across the state. Still, a wide margin of the electorate has rejected the proposals.

Lastly, the company also faces competition from Airbnb, online casinos (which tend to have better Return to Players and lower costs), and other leisure activities, increasing the substitute threat and limiting the firm’s return.

Markets

Denver is a healthy market with a population growth of 16.9% from 2010 to 2021 when the national average was 7.5%. Likewise, the per capita personal income in the Denver area was 17% higher than the national average. Moreover, the limits to maximum betting ($100) were dropped, and now Black Hawk has no limit. I think the latest will continue to be a catalyst in this market.

On the other hand, Reno is a small city whose population grew 17% from 2010 to 2021. The city is experiencing an expansion as companies such as Tesla continue to expand their industrial capacities in the zone (as there are tax advantages compared to other states), along with significant investments in the Tahoe Reno Industrial Center. Nevertheless, unlike Black Hawk, the market faces stiff competition from tribal gaming in California, Washington, and Oregon.

Additionally, neither the conventioneers' nor the hotel segment have entirely recovered from pre-pandemic levels, as the occupancy rate remained lower but improving. Likewise, the cash ADR has grown by 39.62% since 2017. I think a higher cash ADR combined with the occupancy rates of 2017 or 2018 can boost sales in the near future.

Consequently, from my perspective, the company is inside strong markets with opportunities to expand the top line. Moreover, there are plenty of opportunities to take more market share as the management focuses on improving the customer experience and strategic projects that generate acceptable returns.

Risks Besides Competition

Concentration

Depending only on two properties exposes Monarch to changes in the competitive landscape of any location, changes in the regulation of Colorado and Nevada, and changes in the demographic and economic trends of both places. Moreover, extreme conditions could deter tourists from traveling to Reno or Black Hawk or even cause damage to the properties.

Voting Right Concentration

The CEO and president owned over 30% of the company, so there is a possibility they can act detrimental to minority stockholders, and it may be challenging to make a change in the company strategy. However, I think their strategy proved to be one of the best in the industry, measured by returns, margins, and market share; moreover, the ‘skin in the game’ motivates them to be careful when allocating capital, as they are working with their money. Even so, some related party transactions can be problematic at some point; however, they have a non-material impact.

Economic Conditions

The gambling and hotel industries depend heavily on the level of discretionary income and consumer confidence. At the moment of writing, consumers ran out of pandemic savings, and consumer confidence has deteriorated as interest rates and rising cost of living erode purchasing power. Nonetheless, sales only fell by -5.40% in the Great Recession, and during the Dotcom Bubble, the company didn’t experience any sales contraction. Furthermore, even in a challenging environment, casino revenue increased by 7.2% in 1H23, along with a growth in the food and hotel segments of 11.6% and 0.2%, respectively.

Valuation

To find the intrinsic value of Monarch Casino, I will use the 10-year average ROE (excluding 2020), a $1.2 annual dividend, a discount rate of 16.70%, and a terminal value equivalent to a P/E of 17. The terminal value is conservative, as the median P/E in the last five years has been 23.22. Likewise, the discount rate aims to reflect the stiff competition that Monarch faces; however, as we saw above, the company has the capacity to compete and competitive advantages to keep in the industry.

The stock is fairly valued at $61.46 per share. But if we change the terminal value to 20, closer to the 5-year median, the intrinsic value is $75.08 per share, so the shares may be undervalued at the current price. Nevertheless, I prefer to stick with a P/E 17 to avoid the threat of multiple contractions due to increased competition or other unexpected outcomes. Consequently, in my opinion, the stock is a ‘Hold.’

Conclusion

Monarch Casino & Resort is a well-managed company with a strong track record of profitability. It has competitive advantages in both the Reno and Black Hawk markets, including its convenient locations and its focus on customer service. However, the company faces many challenges, including competition from other casinos, Airbnb, online casinos, and other leisure activities. It is also exposed to changes in the competitive landscape, changes in regulation, and changes in economic conditions. Overall, I believe Monarch Casino & Resort is a well-managed company with a strong track record of profitability. However, I think the stock is fairly valued at the current price, and I am giving it a Hold recommendation.