Station faces $54 million penalty if merger fails

Gary Thompson

Tuesday, July 28, 1998 | 11:16 a.m.

A handful of Station Casinos Inc. preferred stockholders may use a penalty clause in the merger agreement with Crescent Real Estate Equities Co. to exact a higher price for their approval of the deal.

Crescent, a real estate investment trust controlled by Texas billionaire Richard Rainwater, stands to walk away with a $54 million "break-up" fee if Station shareholders don't approve its $1.5 billion acquisition of the Las Vegas-based casino company.

In a game of financial hardball, holders of some Station convertible preferred shares are balking at the proposed terms of the transaction, apparently hoping the penalty clause will prompt Station or Crescent to step up to the plate with an offer to appease them.

Whether actual or implied, the threat to veto the deal prompted Station to postpone indefinitely a special shareholder vote originally scheduled for next Tuesday.

The Station preferred stockholders -- primarily hedge funds and institutional investors -- are trying to leverage their veto power and a perilous eight-month time period to gain a conversion ratio comparable to that Crescent is offering holders of Station common stock.

The Station preferred holders have the option to convert any of their 2.07 million shares -- which pay a 7 percent annual dividend -- into Station common shares at any time.

Or, they can wait until the merger agreement is approved. In that case, Crescent would swap $103.5 million of its preferred shares for the Station preferred. The total is about 6 percent above the recent stock market valuation of the Station preferred.

Holders of Station's common stock, though, are to get about $503 million in Crescent common. That represents a 9 percent premium over recent market value.

In addition, Crescent said it would pay dividends of 66 cents on each common share. The preferred stock dividend is 42 cents a share, and Crescent hasn't said it would increase the return.

Theoretically, Station's preferred stockholders could gain the same conversion ratios and returns Crescent is offering holders of Station's common shares simply by converting.

But Station doesn't pay dividends on its common. Many investors favor convertible-preferred stocks because of their similarity to bonds, which pay a fixed return. Yet they also enjoy the option to convert to common stock, which can appreciate quickly in bull markets.

Yet if the proposed merger falls through for other reasons, Station's stock could slip back into the single digits from its close of 12 7/16 on Monday, leaving its preferred holders with a devalued stock paying no dividends.

Station can force conversion of the preferred into common on or after next March 15, then schedule a shareholder vote on the merger. A two-thirds majority is required to approve the deal, and Station insiders hold about 41 percent of the stock.

To redeem all 2.07 million preferred shares at that time would cost Station $108.6 million in new common, including a premium of roughly $5.1 million.

But Station management is reluctant to wait eight months, preferring to settle the dispute and proceed with the merger as quickly as possibly. Wall Street abhors uncertainty, often shunning merger stocks as time progresses and driving prices so low that some deals don't close.

Since January, Crescent common has fallen about 18 percent, to $30.50, as investors questioned its plan to diversify into gaming at a time of heavy competition in the casino business.

"Ultimately, everything is driven by Crescent's common shares because the value of the Crescent common drives the value of the Station common, which drives the value of the Station preferred," Station Executive Vice President and Chief Financial Officer Glenn Christenson said.

"When Crescent announced it was putting higher rates on its common than on its preferred, our preferred holders felt damaged," said.

"We're going to have further discussions to encourage the preferred stockholders to vote for the merger," Christenson said.

"I'm confident we can reach a settlement of the situation, but not confident of the time frame."

Crescent executives couldn't be reached for comment.