Macau is perhaps more acutely impacted by political risk than other PRC cities. In his policy address for 2022, Macau’s Chief Executive, Ho Iat Seng, said little about government plans for Macau’s casino sector.

His silence added to the uncertainty affecting the casino industry, given that gaming concessions are due to expire in mid-2022 – and so illustrated clearly how rising political risk across China is directly affecting international investors.

Foreign investors must therefore understand, monitor, anticipate and react to, these political risks, so as to protect their interests.

Considerable uncertainty

Ho Iat Seng’s reticence as to the future of the gaming concessions in his comments on 16 November 2021 was striking, given that gaming accounts for 80% of Macau’s GDP, and, equally, that the end of the concessions in June 2022 is pending.

The Chief Executive simply commented that a public tender process will take place after the expiry of current concessions. He did not provide further detail on timing, despite earlier commitments to complete a tender process by the fourth quarter of 2021 – a schedule that now seems very optimistic.

Of course, the authorities could still fudge the issue, and simply extend the concessions (as is possible under the existing rules, for a maximum of five years). In the interim, though, the tendering process remains opaque, leaving the casino sector in a state of limbo.

Tighter regulations

What Ho did say, though, held out scant hope for the sector in the short term. In particular, he spoke of the need to ensure “healthy” development, and above all stressed the battle against COVID. Investors should thus expect continued travel restrictions coupled with a sectoral cleansing, perhaps comparable to those under way in the tutoring and video gaming sectors in mainland China.

The Chief Executive also put greater emphasis on the enforcement of capital controls, in line with mainland policies for “dual circulation”, a dogma advocating a form of autarchy, and on diversifying Macau’s economy, in line with regional integration plans under the Greater Bay Area Initiative.

Prior to the speech, the government had already put forward legislation that would sharply tighten regulatory arrangements. Under the proposals, major foreign companies, such as Wynn Macau, MGM China, and Sands China, might have to increase the percentage of share capital held by Macau residents (currently at 10%), so forcing casinos to become more “Chinese”, and, therefore, patriotic in outlook.

Equally, casino companies may have to secure approval to pay dividends outside of Macau – a move that would affect investors directly; dividends paid out of Macau in the 2019 financial year amounted to 100% of profits for Wynn Macau, and 109% of profits for Sands China. Now, parent companies should expect lower returns, affecting pension funds and major strategic investors holding these stocks.

The junket sector is also under pressure. Proposed limitations on the use of cash will curtail the junkets’ freedom of action, and may lead to further industry consolidation, and any clean-up would target the nefarious activities of Macau’s junket operators, which are often triad-related and have deep involvement in unauthorised money transfers.

All told, then, these factors have made clear how little the sector can hope for. The Macau government seems, under direction from Beijing, determined to diversify away from a total reliance on casino gaming; and the looming end of the concessions provides great leverage to force through the necessary changes.

An uncertain outlook

Prior to these shifts, the industry had already been struggling. COVID-19 sharply cut visitor numbers, which fell well below historic averages during the crucial October “Golden Week”.

Total gross gaming revenues for the ten months to October 2021 reached USD8.99 billion – admittedly up 57% on October 2020, during the height of the pandemic, but still well below the more than USD40 billion for the whole year of 2013.

The impact on company finances has been significant. Analysis by Bloomberg suggested that the period within which casinos might recoup investments has lengthened, from one year for Sands China in 2004 (on costs of about USD256 million), to perhaps 5.4 years for The Parisian (about USD2.5 billion), which opened in 2016, and 11 years for MGM Cotai (about USD3.4 billion), which opened in 2018.

A corollary is that the casinos’ debt positions have deteriorated. Companies have sold USD28.6 billion in bonds since 2017, comprising some 80% of all the debt issued since the liberalisation of the casino industry in 2001. Sooner or later, this debt burden will take its toll, at the very least by reducing investment returns.

Not all gaming-companies are at risk

None of these developments augur well for the industry, but the threat is not evenly spread.

Foreign-owned businesses are most exposed, especially given current tensions between the US and China; indeed, MGM China, Wynn Resorts and Sands China have underperformed local companies, such as Galaxy Entertainment, on stock markets, so far in 2021.

As mentioned above, junket promoters are at extreme risk. These organisations have historically identified VIP gamers in China, and helped move funds out of the mainland, or have collected debts, often operating in symbiosis with triad societies and corrupt officials. Now, though, an emphasis on law and order will raise the costs of infringement sharply.

Some recent signs have emerged of major junkets, such as Suncity Group, diversifying their interests away from Macau, to the Philippines, say, or Vietnam. Whether these companies can adapt in time, though, is not yet clear. Their reliance on an unofficial Macau settlement system links them closely to mainland China.

Macau as a warning

Macau’s go-go years do seem over, then. After all, the casino industry’s rapid expansion always depended on a degree of acquiescence in capital outflows and widespread, if concealed organised crime involvement with the junkets.

Now, the central Chinese and the local Macau governments have retracted that acquiescence, and display an appetite for tighter controls. Investors in the casino businesses should manage expectations accordingly.

Perhaps more intriguingly, though, Macau’s situation also provides a neat illustration of how rising political risks will affect foreign businesses across China.

After all, an emphasis on tighter state control is discernible not just in Macau’s casino sector, but also in the education, technology, and property spheres in mainland China – and seems sure to affect other industries in the coming months.

Mitigating political risk – what to do?

Macau’s gaming sector offers a clear demonstration of the rising risks facing foreign business in China. Investors must take account of the changing climate, and act to protect their interests, or risk losing out. Key steps to mitigate risks include:

• Reappraising the impact of political risk on investments. For example, in Macau, the possibility is now emerging that an existing concession holder may not secure a tender to continue operations, or that success in any tender would depend on a restructuring of the business in favour of local owners. Such an outcome was previously inconceivable. Now, though, investors must factor such an outcome, and other uncertainties, into risk calculations.
• Monitoring plans to implement the new measures in China, taking account, in particular, of how a deterioration in relations between the US and its allies and China could affect investments. Macau is a good indicator with regard to broader Chinese attitudes towards foreign business; investors should watch the US-linked businesses, Wynn Macau, Sands China and MGM China, as bellwethers, because other large-scale companies operating in mainland China may soon face comparable challenges.
• Managing expectations and projections with regard to investment returns. It seems likely that the Macau government will limit the distribution of dividends to US-based parent companies. Other sectors, in other locales, may face comparable restrictions, not least as the whole Chinese economy is growing more slowly. For instance, the Chinese authorities are favouring domestic creditors over offshore bondholders in dealing with the Evergrande property insolvency.
• Examining existing relationships, on the understanding that previously countenanced activities, such as the movement of funds out of China in breach of capital controls, or junket promoters’ reliance on triad societies, may turn into a serious liability. After all, due diligence appraisals of investments may be five, or even ten, years out of date, and may not take account of the changing risk picture in China.
• Considering whether, and how, to restructure operations, so as to create firebreaks between different business lines, or to minimise perceptions of links to one-or-another “side” in any geopolitical contest. Companies with ties to Taiwan could face challenges, for instance, as may those with vocal US partners.
• Ensuring that foreign employees understand the need to eschew political statements. A clumsy disclosure or comment by a staff member could result in direct targeting by the regulatory authorities, or in boycotts or social media attacks. The law firm Mayer Brown, in Hong Kong, for instance, found itself unwittingly caught in a political maelstrom, of late.

SVA stands ready to assist with services aimed at mitigating such risks, including by conducting risk and threat appraisals, by carrying out investigative due diligence of partners, and by providing assistance for companies with political or regulatory problems, including matters related to fraud and other financial crime.

SVA (www.stevevickersassociates.com) is a specialist risk mitigation, corporate intelligence and risk consulting company. The firm serves financial institutions, private equity funds, corporations, high net-worth individuals and insurance companies and underwriters around the world.

SVA has a dedicated crisis management team which, for our retained clients, stands ready to assist companies during crisis situations. Retained clients pay an annual fee for a 24-hour response capability.

We stand ready to support companies faced with these challenges. Our consultants are available to assist, advise and execute as necessary.

SVA is based in Hong Kong and is the only firm with the local and senior expertise drawn from Intelligence, Operations and research functions of the former Royal Hong Kong Police Force.