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Friday, October 16, 1998
Grand Casinos Inc.
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Phone: (612) 449-9353
Price (10/15/98): $6 5/8
HOW DID IT FIND TROUBLE?
For many moons, Grand Casinos shareholders hoped for a buyout. Some became downright jubilant when the name "Hilton" was published in credible sources as one of the interested suitors. But many Grand shareholders were anything but happy when the companies announced in June that they would only be merging the casino side of Hilton with Grand. Hilton's hotels were not going to be part of the new family, which the market clearly did not like.
Throw in Hurricane Georges, nailing two of the company's primary assets in Mississippi, and you've got trouble.
BUSINESS DESCRIPTION
Grand Casinos started out managing several tribal casinos in Minnesota and, over the years, aggressively expanded its business to include casinos in Mississippi as well. It's a good thing the company did not sit on its laurels, because the first tribal contract in Mille Lacs, Minnesota, has expired without being renewed.
Beyond the one tribal casino left in Minnesota, the company also manages tribal casinos in Mississippi and Louisiana. More importantly, though, Grand has leading market share in the growing Gulf Coast gambling market by owning and operating casinos in both Gulfport and Biloxi, Mississippi. Furthermore, it owns the largest facility in the emerging Tunica, Mississippi, gaming market.
On June 30, 1998, Grand agreed to split the company in two. Grand's three wholly owned casinos in Mississippi will be merged into a new, yet-to-be-created, gaming-only division of Hilton. After the split is complete, Grand's tribal management division and some miscellaneous assets will continue to be publicly traded.
FINANCIAL FACTS
Income Statement*
12-month net sales: $643.2 million
12-month income: $67.9 million
12-month EBITDA: $194.7 million
12-month EPS: $1.57
Profit Margin: 10.6%
Market Cap: $286.4 million
*Includes charges
Balance Sheet
Cash: $92.8 million
Current Assets: $149.8 million
Current Liabilities: $87.4 million
Long-term Debt: $663.7 million
Ratios
Price-to-earnings: 4.2
Price-to-sales: 0.45
HOW COULD YOU HAVE SEEN IT COMING?
Grand represents a perfect case study on the risks of speculating on mergers. While the rumors of a buyout from Hilton ran rampant for many months, the final structure of this deal was certainly unexpected. Instead of marrying the whole of Hilton, with its highly regarded hotel business to counteract any weakness in the gambling business, Grand got stuck with what Wall Street considers the "ugly duckling" part of Hilton. It's not that the new combined casino business won't be relatively healthy with its projected $800 million in operating cash flow (EBITDA). The market just seems to be paying a higher premium for upscale hotels than for blackjack tables and slot machines.
With the meltdown of gaming stocks as a whole continuing, it made sense that the dropping tide was going to drop Grand's barge, too. The Chicago Board Options Exchange Gaming Index, for instance, is at only 45% of its highs reached earlier this year. This underscores the importance of picking not only the right stocks, but the right industries.
WHERE TO FROM HERE?
Investors in Grand have to wonder whether the company's skies are truly blue ahead, or if this is merely the eye of the storm with more turbulent times coming. The good news is that while Hurricane Georges created a mess along the coast, Grand's facilities sustained only minor damage. Any negative effects from the storm are temporary.
To truly answer where the stock is headed, one has to know if the merger with Hilton is going to go forward or not. The company has shown little indication of weakness in the deal. However, if some of the discussions on various Internet message boards are any indication, there appear to be large groups of shareholders strongly opposed to the split and merger with Hilton. The market, by selling off the stock so dramatically, has also clearly given the thumbs-down to the deal. However unlikely, there still is a chance that the split and merger will be voted down by Grand's shareholders.
It's certainly difficult to ascertain the value of the merger to current Grand shareholders, which is probably one of the reasons the market has sold the stock off. Simply said, Wall Street hates uncertainty. Since Grand will be merging with an entity that technically does not even exist yet, there is plenty of uncertainty to go around.
Fundamentally, Grand faces a mixed picture. Like the Mille Lacs contract, Grand's Hinckley contract will probably not be renewed next year, making the company's cash-cow management business that much thinner. Plus, there's little reason to think the other tribal contracts won't suffer the same fate when they expire over the next few years. There's still time to milk this cow, but the cow won't live forever.
While Tunica should remain a somewhat stable earner for Grand, the Gulf Coast will get more crowded as Mirage Resorts <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: MIR)") else Response.Write("(NYSE: MIR)") end if %> opens its huge facility early next year. Luckily for both Grand and Mirage, Mississippi as a whole is still seeing double-digit revenue growth. The healthy market will likely help to offset any competitive pinch.
Still, while there is competitive pressure ahead and plenty of questions to be answered with the Hilton deal, it is rather tough to find stocks trading as cheaply as Grand Casinos. It's not every day you find a stock trading at nearly 5 times earnings and almost half of book value, no matter how much uncertainty there is.
-Paul Larson
([email protected])
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