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Why Red Rock Resorts, Eldorado Resorts, and Penn National Gaming Rocketed Out of the Gate on May 20

What happened

Shares of casino operator Red Rock Resorts (NASDAQ: RRR) rose as much as 13% in the first half-hour of trading on May 20. Penn National Gaming (NASDAQ: PENN) went along for the ride, up 13% or so, as well. Eldorado Resorts (NASDAQ: ERI) pulled up the rear with a still impressive 11% gain. This is the second day in a row that these companies started the day off on a strong note. This time around, a generally positive mood on Wall Street coupled with Red Rock Resorts' earnings call was the likely impetus for the advance.

So what

The broader stock market was up around 1.5% by 10 a.m. on Wall Street. Clearly, investors were in a positive mood. That, no doubt, helped the shares of casino operators push past the 10% mark in early trading. Although notable moves on "risk on" and "risk off" days are pretty common lately, the "risk on" usually means a broadly positive view of the COVID-19 recovery.

Image source: Getty Images.

That's an important issue for the casino operators, since their business is to bring people together into their facilities so they can spend money on nonessential things -- like trying to win at slots. The government's effort to contain the spread of the coronavirus was brutal for these companies, as social distancing and the forced closure of nonessential businesses basically left their operations shut down. And for what seems like an eternity, though it's only been a month or so, it appeared that the economy would never reopen again. That, thankfully, has started to change, as states around the country once again let businesses operate, with some restrictions. Still, it's better to operate with restrictions than to not operate at all.

The financial hit from the shutdown can't be sidestepped. For example, Penn National and Eldorado both reported steep losses when they released first-quarter earnings. After the close on May 19 Red Rock joined the list, posting a top-line decline of nearly 16% year over year in the quarter. Its bottom line, like its casino peers, was deep in the red. The second quarter, which will also be impacted by the closures, will probably be even worse than the first.

But that's not what everyone wanted to talk about on Red Rock Resorts' first-quarter 2020 earnings conference call. The company's formal comments and the question-and-answer period were largely focused on what the reopening process would look like. In Red Rock's case, the story was pretty good. For example, it operates a number of casinos that tend to be frequented by Nevada locals. When it's allowed, it plans to bring a few of its facilities online to start, trying to match supply with demand, if you will. Those properties, it believes, can be EBITDA breakeven with just 35% to 45% of the pre-closure revenues they generated. That required a lot of work on the cost side of the equation, but it suggests that Red Rock, and perhaps its peers, can figure out how to survive even if social distancing puts a crimp on the number of people it can get through its doors.

RRR data by YCharts

Notably, Red Rock highlighted that roughly 60% of its costs are variable, something that is again likely to be true for many of its peers. That means it should be able to ramp up and down as demand ebbs and flows. In other words, if demand is greater than expected it can simply push harder on the gas pedal. If there's a resurgence of the coronavirus that spooks customers, it can tap the brake. And management believes it can operate for as long as three years with the cash it has on hand, even in a situation where it has no revenues. All in, Red Rock looks like it's going to survive the COVID-19 headwinds. Investors took that as good news for Red Rock and its peers.

Now what

Red Rock, Eldorado, and Penn National have been heading higher for a little bit now as investors start to see a light at the end of the tunnel. That's driven largely by the reopening plans being made at the state, federal, and, in this case, corporate levels. Still, news flow is what's backing investors' mood swings, and some negative updates could just as easily lead to steep declines in these turbulent times on Wall Street. In fact, just an hour or so into the trading day, all three of these casino operators had given back some portion of their gains. Red Rock, specifically, was up just 3% or so after the early burst of investor enthusiasm. Long-term investors might want to watch for more actual progress on the reopening path before stepping aboard any of the casino names here.

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Reuben Gregg Brewer has no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.


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