The Passed Seven
by Paul Larson (MF Parlay)

MARKET CLOSE           1/21/97    1/28/97
CBOE Gaming Index:     226.73      231.39  (+2.06%)
NASDAQ:               1376.99     1353.98  (-1.67%)
S&P 500:               782.72      764.97  (-2.27%)

CHICAGO, IL (Jan 28, 1997) -- Break out the party hats and kazoos! The Chicago Board Options Exchange Gaming Index (Symbol: GAX) absolutely stepped on the rest of the market this week. All of the gain in the index happened in one day, namely today! This wasn't just another industry taking a random walk on Wall Street since there was rather huge news to support the move up.

Hilton <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: HLT)") else Response.Write("(NYSE: HLT)") end if %> dropped a bomb on the industry yesterday by announcing that it was making a hostile bid for ITT Corp. <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: ITT)") else Response.Write("(NYSE: ITT)") end if %>. The bid Hilton is making will essentially be a half stock, half cash bid at $55 for every share of ITT. I won't bore you with the mechanics of the bid since news of the deal is covered in great detail in just about every business publication there is, including today's Fool Lunchtime News. Let's get to the meat of the deal. . . what this means to ITT, Hilton, and the rest of the industry.

Most gaming industry analysts believe the industry will see continued consolidation in the coming year, and this announcement proves these prophecies to be correct. This particular deal caught most off guard because Hilton had just consummated a large, friendly merger with Ballys Entertainment worth $3 billion (in which it ironically outbid ITT) at the end of 1996. Many were also surprised at the size of the deal since ITT and Hilton are roughly the same sized companies (huge). Hilton and ITT joining forces is to gaming what GM and Chrysler joining would be to the auto industry. Hilton is looking to buy ITT because ITT has a solid core of hotel and gaming holdings including the Sheraton and Caesar's chains that would make a nice compliment to Hilton's full service line of resorts. In addition, Hilton would likely sell off the non-core assets of ITT including stakes in Madison Square Garden, the New York Knicks and Rangers, TV station WBIS+, ITT Educational Services, ITT Information Services, and ITT World Directories. Such spin offs would reduce the real cost of the merger to Hilton. Hilton estimates a cost savings of $100 million per year could be achieved if the merger goes through.

What does this mean to Hilton? Hilton is leveraging their excellent credit rating and trying to buy hotel and gaming assets on the cheap. Nothing more. The cost savings would be a large bonus to the company as would a debt consolidation between the two companies. Another major advantage to Hilton is that it could control ITT's aggressive capital expenditure budget for the coming years in its gaming and hotel business. In other words, Hilton would benefit because it could substantially control its competition, especially in the key gaming markets of Atlantic City and Las Vegas. ITT is currently slated to spend upward of $3 billion expanding and upgrading its current group of hotels and casinos. Much of this expense would not be needed if Hilton and ITT were on the same side of the battlefield. Wall Street seems to think Hilton is making a good move since it has bid the stock up 2 5/8 to 27 7/8 since the deal was announced.

Hilton's CEO Steve Bollenbach is no stranger to large acquisitions. Bollenbach was seen as the driving force at Disney <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: DIS)") else Response.Write("(NYSE: DIS)") end if %> when the big mouse purchased Capital Cities/ABC for $19 billion in 1995. Hilton and its CEO have both been through the mega-merger song and dance before and few doubt Hilton's intent in the deal.

What does this mean to ITT? ITT actually represents a compelling value as a take over candidate. It has a strong portfolio of hotels and casinos but has been unable to bring the profits to the bottom line in any substantial way. Many have blamed ITT of undergoing "diworsification" by having its fingers in too many pies and not concentrating on what it does best. This Fool thinks Hilton's plan of breaking up the company into components is a positive one for ITT since the sum of the parts seems to be worth less than the whole. ITT shareholders also get an immediate 30% or so premium to what their stock was worth one week ago. Not to mention, some larger entity might also step in and make a higher bid than Hilton and spark a true bidding war for the stock. One only has to look as far as the Conrail historical chart to see what can happen to a stock when a company is the target of two different suitors.

Will the deal go through? Good question. It is still up in the air as to whether ITT will go along with the deal. ITT's debt has been placed on various credit watches in case the company decides to take actions to make itself that much more unsuitable as a takeover candidate to Hilton. So much depends on whether or not ITT's board decides to go along with the deal whole heartedly, reluctantly go along, or flatly deny it and take evasive action. There has been absolutely no indication thus far concerning what ITT's action is going to be. In any case, ITT's shareholders have been dealt a short-term treat since the stock is up over 30% since the deal was announced to trade at a current 56 7/8. The Hilton deal has added a whopping $2 billion of market cap to the company in a matter of hours.

What does the deal mean to the industry? A great deal. Having a blue-chip gaming company purchases another gaming company is a large vote of confidence more than anything. It also proves that Hilton, the largest company in the industry, is dead serious when it says that it is looking to acquire more gaming assets. Hilton could buy Aztar <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: AZR)") else Response.Write("(NYSE: AZR)") end if %>, Boyd <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: BYD)") else Response.Write("(NYSE: BYD)") end if %>, Station Casinos <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: STN)") else Response.Write("(NYSE: STN)") end if %>, Harvey's <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: HVY)") else Response.Write("(NYSE: HVY)") end if %>, Grand Casinos <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: GND)") else Response.Write("(NYSE: GND)") end if %>, Primadonna <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: PRMA)") else Response.Write("(Nasdaq: PRMA)") end if %>, and Harrah's <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: HET)") else Response.Write("(NYSE: HET)") end if %> combined for less than it is bidding for ITT. Numerous investors in the industry have been waiting for their beaten down gaming companies to be acquired and many feel this large deal may be the start of a cascade of others. I can't possibly reproduce the analysis that has been going on in the Gaming Industry Folder here in the Motley Fool, and I encourage anyone interested in the merger phenomenon to visit and read the posts of the last few weeks. I'm positive we will be talking about this monstrous Hilton/ITT deal a great deal in the coming months.

The other large news of the day came from the state legislation in New York. The state was contemplating legalizing non-tribal gaming in the upstate region to compete with the large casino recently opened in Niagara Falls, Canada (which I wrote about in my December 10th Update). It will be at least four years before this issue brought up again for a vote in New York. Among the forces lobbying heavily against such land based casinos were the Atlantic City operators such as Trump <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: DJT)") else Response.Write("(NYSE: DJT)") end if %>, Aztar, Hilton, Harrah's, and Showboat <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: SBO)") else Response.Write("(NYSE: SBO)") end if %>. Also positively effected by the "No" vote are the large tribal casinos already in the region such as the Foxwoods and Mohegan Sun resorts. Negatively effected were casino companies with a vested interesting in opening new units such as Harveys. The slot manufactures and distributors also have less a market to sell to, but they didn't seem to mind since Sodak <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: SODK)") else Response.Write("(Nasdaq: SODK)") end if %>, Anchor Gaming <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: SLOT)") else Response.Write("(Nasdaq: SLOT)") end if %>, and Silicon Gaming <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: SGIC)") else Response.Write("(Nasdaq: SGIC)") end if %> were all up significantly today. Again, I can't possibly compete with the high quality of posts found in the Gaming Industry Message board. We even had a former New York state gaming regulator post a thought or two in the board concerning the law's passage. I am still awestruck at times by the power of this medium at connecting people with similar interests.

Harrah's <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: HET)") else Response.Write("(NYSE: HET)") end if %> announced this week that is was selling its interest in the two Colorado casinos in operates in Blackhawk and Central City. Colorado is a "limited stakes" market where no single wager could be above $5. The two units were minuscule compared to the rest of Harrah's mega-resorts and riverboat units. Harrah's tries very hard at maintaining a relatively homogenous look and feel at all their casinos and the small Victorian limited stakes units did not "fit" well with the rest of the franchise. Selling the units will also allow Harrah's to concentrate where its strength lies: destination resorts and riverboats. Harrah's also announced that it will be closing one of its two casinos it operates in Tunica, Mississippi. Harrah's Mardi Gras will remain open while the initial Harrah's casino opened in 1993 will close its doors. Tunica has proven to be a brutally competitive market, especially since Grand Casinos <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: GND)") else Response.Write("(NYSE: GND)") end if %> opened a huge resort there this past year. This Fool is betting that this closure will not be the last in the Tunica shakeout that is occurring.

Harrah's will take a charge of $.27 to its 1996 earnings to reflect the cost of the closures. There are also some substantive rumors circulating that Harrah's is considering the closure of its riverboat in Vicksburg, Mississippi due to a soft market in that town. If history is any guide, these rumors may have some validity.

Did I mention that ITT also had earnings this week beyond this whole Hilton hullabaloo? The company announced earnings of $.57 for the fourth quarter compared to $.59 earned in 1995's fourth quarter. Among the companies announced weak gaming units were the Desert Inn in Las Vegas and its Sheraton casino in Tunica. The company announced that their EBITDA for the year was $988 million. Is there any doubt concerning the size of ITT?

Tuesday also found Rio <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: RHC)") else Response.Write("(NYSE: RHC)") end if %> announcing earnings of $.20 per share, which was ahead of the consensus estimate on Wall Street of $.19. Rio is in the process of opening a new 40 story tower of hotel suites at its sole Las Vegas unit. The company also announced the grand opening of its 60,000 square foot casino and retail addition as February 7. Rio has also started a national marketing campaign trumping up its "all suites" hotel and their new "Masquerade in the Sky" attraction. The company has placed a rather large bet on the continued expansion of the Las Vegas gaming and tourist market and should be rewarded handsomely if the city continues to grow.

In this week's news shorts. . . Stratosphere <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: TOWV)") else Response.Write("(Nasdaq: TOWV)") end if %> officially filed for bankruptcy today. This should come as no surprise to those who have been following Stratosphere and its majority shareholder, Grand Casinos. Silicon Gaming <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: SGIC)") else Response.Write("(Nasdaq: SGIC)") end if %> announced negative earnings of $.37 per share this week. The company has essentially zero revenues since it is a development stage company. Acres Gaming <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: AGAM)") else Response.Write("(Nasdaq: AGAM)") end if %> announced earnings of $.15 per share that was far ahead of the $.11 loss it posted in the same quarter last year. Many readers are saying that Acres fits many of the Fool's criteria for a small cap growth stock. I hope to have a more in depth analysis of the company in the coming weeks.

Sorry so long winded this week, but there was a heck of a lot of news to digest. Good luck this week!

Did You Know. . .

That the Chicago area gaming market (both Indiana and Illinois) has no nickel slot machines?

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