Going private hasn't saved companies from slump, By Arnold M. Knightly - Review-Journal - 19th October 2008

Station Casinos, Harrah's cuts costs along with public rivals

About a year and half ago, many industry observers saw private-equity ownership of casino companies as the wave of the future.

On Nov. 9, 2007, Colony Chief Investment Officer Jon Grunzweig told a group of gaming attorneys at the Mandalay Bay that the buyouts were just "the infancy of private equity."

Harrah's Entertainment was first to go this route, when private-equity firms Apollo Management and TPG Capital offered $15 billion in October 2006 to take the publicly held casino giant private. Station Casinos jumped in soon afterward in a management-led buyout that included real estate investment firm Colony Capital of Los Angeles.

Observers were soon speculating that MGM Mirage would follow their lead, especially after majority shareholder Kirk Kerkorian began buying up shares of the company amid complaints that he believed the market was severely undervaluing his company's stock.

Private-equity ownership, the thinking went, would make the private-equity owners even richer and allow the casino companies to continue expanding aggressively.

Harrah's was moving aggressively to expand its business then. It was looking for partnerships and opportunities in Macau and elsewhere around the world and it was promising to announce plans for a major CityCenterlike development on the Strip's east side.

After the buyout offer was announced, Harrah's Chief Executive Officer Gary Loveman assured investors, regulators and the media that the private-equity deal would not slow the company's expansion plans.

Two years later, however, Harrah's and Station are in the same storm-tossed boat as MGM Mirage and other publicly held casino companies.

Through July, gaming revenues in Nevada are down 6.6 percent from 2007. The economic downturn has forced Harrah's and Station Casinos to take cost-cutting measures similar to those taken by their publicly traded counterparts. Jobs have been eliminated, hotel room rates have been lowered and restaurant hours have been reduced.

Also, seemingly forgotten, for now at least, is that Harrah's has dropped plans for a grand master-planned mixed-use development for the Strip and several overseas projects.

How much of the pullback is due to the economic meltdown and how much is due to private-equity companies pressuring company officials to extract more value from their high-priced deals is unclear.

"Theoretically, the privately held companies should be less concerned with the bottom line right now," said David Schwartz, director of the University of Nevada, Las Vegas' Gaming Research Center. "They're more concerned with the bottom line in five to 10 years when they sell it and make a lot of money."

Schwartz said private equity firms traditionally take a longer-term investment view. So it makes sense to leave the daily operations to the management team running the day-to-day operations.

Both companies are still led by the management teams that were in place before their buyouts. Officials for the two companies say those executives, not the private equity owners, are driving day-to-day decisions.

At Harrah's, the private equity ownership controls eight of 13 director slots on the board. But Loveman, who is also chairman, continues to run the company.

At Station Casinos, the founding family remains in control with Frank Fertitta III still chairman and CEO. His brother, Lorenzo Fertitta, remains vice chairman. Colony holds two of the five seats on the Station Casinos board despite owning approximately 75 percent of the company.

Bond analysts and industry watchers have expressed concerns that large amount of debt the casino operators now carry are hampering their financial flexibility.

Private equity giants TPG Capital and Apollo Management paid $17.3 billion and took on an additional $12.4 billion in debt to buy Harrah's in late January. The casino giant owns and operates 50 casinos in 10 states and internationally.

Station Casinos was taken over in November for $5.4 billion. The Las Vegas-based company owns 17 casinos and resorts throughout Las Vegas and manages an American Indian casino in Northern California.

The private-equity owners of Harrah's and Station have had to devalue their investments in both companies since the deals closed.

"There has been such a pullback in offering capital to corporate America that it is very difficult for them to grow their business," Wachovia Capital Markets bond analyst Dennis Farrell Jr. said. "So now, to grow cash flows and pay down debt, they have to do it through cost controls and eliminating new capital expenditures going forward."

The current economic crisis has forced cutbacks at all local casino companies, both private and public.

Harrah's has been slowly cutting jobs since early last year, months after the leveraged buyout deal with Apollo and TPG was announced.

Nearly 200 jobs were eliminated at the company's corporate office in Las Vegas in January 2007, beginning a companywide trend. Many Harrah's casino properties have reduced their staffs, although how much is unknown. Several executives also left on their own volition, including Chief Operating Officer Tim Wilmott, who resigned in January 2007.

Harrah's officials have maintained over the past 20 months that the private equity ownership did not mandate the reductions, made before the economic slowdown.

Three long-time executives have departed Station Casinos since that buyout was announced in late 2006, including Chief Operating Officer Bill Warner and longtime Chief Financial Officer Glenn Christenson. That group also includes former president and equity shareholder Lorenzo Fertitta, who remains vice chairman. He left the casino business to concentrate on the privately held Ultimate Fighting Championship, which he co-owns with his brother.

As with Harrah's, Station Casinos officials said the departures weren't related to the buyout.

Both companies, however, have expanded their job reductions since gaming revenues began heading south earlier this year.

Jan Jones, Harrah's senior vice president of communications and government relations, said the executive team is now focused on helping the company "survive the economic downturn."

Officials from Station Casinos and Colony, which also owns the Las Vegas Hilton and casinos in the east, declined to be interviewed for this article.

Revenues and cash flow for both casino companies declined sharply the first six months of 2008, and the drop is expected to continue when third-quarter earnings are released this month and in November.

Harrah's revenues declined 2.9 percent in the first six months of this year; Station Casinos' revenues fell 6.4 percent.

The declining numbers make it hard to work down the companies' debt, which sits at $24 billion for Harrah's and $5.3 billion for Station Casinos, following the buyouts.

"When the companies went private, the amount of debt they put on has been magnified by their cash flow weakness," Farrell said. "Both have been in touch, or will be in touch, with their banks to continue to monitor their covenants."

Despite the slowdown, Harrah's and Station Casinos are continuing to build new resorts and to announce future developments, while several of their publicly traded competitors have struggled to complete or find financing for projects. Boyd Gaming Corp. suspended work on its mixed-use Echelon project this summer, and MGM Mirage has been working to complete financing for CityCenter.

Harrah's spent the first eight months of the year aggressively pursuing and winning a contract to build a state-owned casino in south central Kansas. Plans call for the $485 million project to open in August 2010. Harrah's owns a 40 percent share.

Station Casinos publicly discussed plans in July to break ground next year on Durango Station in southwest Las Vegas, the next project following the opening of the $675 million Aliante Station scheduled for Nov. 11.

That discussion followed a statement in April by company executives that a multibillion-dollar project, tentatively called Viva, is in the early design stages for 110 acres on Tropicana Avenue just west of Interstate 15.

All three projects still need to secure financing, which will be challenging in the current credit market.

"The question becomes, can they go to a bank and borrow money at a reasonable interest rate," UNLV finance professor Michael Sullivan said. "That's why you see a lot of projects around town being put on hold right now because that's just not possible."

The private-equity companies have had to step back from some projects.

Harrah's has slowed development on projects in Spain and Biloxi, Miss., and exited partnerships to build resorts in the Bahamas and Slovenia.

Harrah's blamed the slowdowns on the economy. The company said the cancellations were attributed to political factors in the Bahamas and Slovenia, not a desire by the private equity ownership to cut costs. TPG and Apollo did not factor in those decisions, Harrah's officials say.

Jones noted that her company has completed, or is scheduled to complete, a series of projects either this year or next year, evidence of the new owners' commitment to grow the company.

A $1 billion expansion of Caesars Palace is scheduled to open next summer. A $565 million expansion at Harrah's Atlantic City opened this past summer. The $485 million Horseshoe in Hammond, Ind., was completed in July.

With the completion of these projects, Jones said Harrah's will focus on maintaining its current portfolio, including seven Strip hotel-casinos and the off-Strip Rio.

"What that maintenance budget becomes will be determined by how our numbers are progressing," Jones said. "We're not looking for new capital to either acquire or expand."

Contact reporter Arnold M. Knightly at aknightly@reviewjournal.com or 702-477-3893. Review-Journal reporter Howard Stutz and Bloomberg News contributed to this report.

(Credit: Review-Journal)

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