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With Penn National shares taking a year-long beating in the eye of the credit storm, buyout sponsors Fortress and Centerbridge are aware that the original deal price for the casino operator might not be the best reflection of today’s market or of the fair value of Penn’s properties, according to dealReporter.
“You don’t have to have a PhD in math to understand that [the buyers] bought at the top of the cycle and overpaid for properties that are not as glamorous as those of Harrah’s,” according to a source close to the deal. He went on to acknowledge Harrah’s, which had an unsuccessful showing in its own syndication efforts, has not only more, but higher quality real estate than Penn.
As an appetite for LBO debt has dried up, a group of banks funding the USD 17.1bn takeover of Las Vegas-based Harrah’s Entertainment discovered earlier this month that there were few takers for USD 6.34bn of bonds brought to the market. Only a third of the securities were funded by investors who were persuaded to exchange a bridge loan financing, while the rest was retained by the banks.
Harrah’s and Penn’s comparative data shows that more highly leveraged Penn with less attractive real estate portfolio, located in Colorado, Illinois, Indiana, Iowa, Louisiana, Maine, Mississippi, Missouri, Ontario and West Virginia has a higher EV/EBITDA multiple, which could be one of the issues Penn’s buyers are scratching their heads over.
Harrah’s pro forma debt leverage, including the proposed USD 6.5bn of CMBS debt and USD 2bn of PIK preferred equity, is expected to approach 9.5x upon the close of the LBO transaction. Penn’s leverage multiple, with USD 6.7bn in total debt and FYE 2007 EBITDA, is at 9.96x. However, Penn’s enterprise multiple (EV/ FYE 2007 EBITDA) is higher at 12.42x, against Harrah’s 11.62x EV/EBITDA.
When asked whether the sponsors might request a re-cut on the deal, the source admitted the possibility exists but that he had no indication the sponsors are pursuing or will pursue that avenue. Banks are on board for funding the deal and the merger contract contains a specific performance, leaving sponsors little room to wiggle out of the current agreement, the source said. However, if a price re-cut were to emerge, it would make it easier for banks to change their position, said the source.
Still, market investors are sceptical any deal will happen with Penn currently trading around USD 46.00 per share on the deal valued at USD 67 per share. “I hear the deal has no way of closing,” said an equity investor. He gave a litany of reasons this deal has everything going against it: closed credit markets, private equity shops under significant pressure, and regional market gaming results rapidly deteriorating.
The sponsors would seem to have financial incentive to pay the comparatively low USD 200m reverse break fee and walk, said the equity investor and a high yield investor following the gaming sector.
The price will need a major haircut, said the equity investor, questioning whether Penn Chairman and CEO Peter Carlino would go through with a deal under those conditions.
Fortress and Centerbridge declined to comment.
The source said there is hope among the parties that the market will rebound before Penn goes to syndication, an event still months out. The deal’s estimated close is late Q2 2008 but the source said this could spill over to July if the current environment prevails. Regardless, it is too early to talk about financing with too much uncertainty in the credit market, he said.
The deal’s current financing package is composed of a secured USD 7.1bn debt commitment, consisting of a USD 5.1bn senior credit facility and a USD 2bn term loan in addition to the sponsors supplying USD 3bn in equity.
As for what contractual wiggle room the buyside might have in any renegotiations, a second source close to the situation said, “The contract is the contract” and it is very strong.
Additionally, there is a clear evidence of sponsors’ continuous commitment to the deal, the first source said. Penn has been following the sponsors-approved operational plan including buying some expensive real estate such as the 150-acre former airport property, Bader Field.
Penn has offered USD 800m for the land, and USD 100m to cash-starved Atlantic City to use as quick property tax relief in return for being able to avoid a lengthy bidding process for the land.
Penn is also currently looking at other properties that would require a significant capital expenditure, the first source said. According to the high yield investor following the gaming sector, Penn is believed to be looking at buying opportunities in Atlantic City and Kansas.
“There’s a real motivation to get the deal done from an estate-planning standpoint,” said the high yield investor.
The high yield investor suggested Penn could try to sell assets in the open market in an attempt to de-lever and boost cash. Harrah’s flexibility in divesting any assets was impeded because of its Total Rewards program, he explained.
Another factor which could point to perseverance on the sponsors’ behalf is their continued endeavour to obtain gaming licenses through a drawn out and rigorous regulatory process, the Penn investor said. “The likelihood for someone to just bail after months is probably a little less likely than a normal deal,” he suggested.
The first source said all of the regulatory approvals were coming in nicely and on time and that he did not foresee any delays in that aspect. The regulatory process is going well, agreed the second source, who added the procedure is never a “no-brainer” with 15 jurisdictions.
”As long as the regulatory process continues to go as smooth as it has so far, and there is some air moving through the tight credit market, sponsors are doing this deal and the banks are funding it,” said the first source.
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