Gaming industry merger talk heats up in wake of MGM deal

David Strow

Monday, March 13, 2000 | 11:14 a.m.

Merger talk in the gaming industry is heating up in the wake of MGM Grand Inc.'s agreement to acquire Mirage Resorts Inc. for $6.4 billion.

From the Strip to Wall Street, analysts and investors are busy guessing what the next target will be. The most popular candidate, by far, is one of the Strip's "Big Five" -- Mandalay Resort Group.

Two other members of the group, Park Place Entertainment Corp. and Harrah's Entertainment Inc., are most often mentioned as being on the prowl for new acquisition opportunities -- and potential suitors for Mandalay, despite the antitrust concerns that would certainly be raised by such a combination. Much of the reason is simply that the industry's large companies are trying to keep up with one another, as gaming's biggest names grow bigger and bigger.

"The industry will continue to consolidate for one reason -- there's no new markets for growth," said Jason Ader, senior managing director at Bear Stearns & Co., a New York investment house. "If big companies want to get bigger, they need to do it through acquisition."

In addition, recent acquisitions have produced average returns of 18 percent to 19 percent, far exceeding the 12.3 percent average seen for new properties on the Strip, said Robin Farley, gaming analyst with Deutsche Banc Alex. Brown.

"Park Place and Harrah's do have means of growth without having to do an acquisition," Farley said. "But consolidation ... has provided higher returns on investment than the new projects built on the Strip."

Mandalay discussed a possible merger in 1998 with Hilton Hotels Corp. but no deal was reached.

Talk is heating up that Park Place, Hilton's gaming spinoff, will make another run at Mandalay, despite the challenges such a combination would face.

"There's natural speculation about Park Place and Mandalay Resort Group," said Joe Coccimiglio, analyst with Prudential Securities. "The stock is pretty depressed. As it keeps going down, it becomes more and more of a target."

Prior to the announcement of an agreement between MGM Grand and Mirage Resorts, Mandalay was trading at $13.13, near a 52-week low. As recently as December, Mandalay traded near $25.

The MGM Grand announcement gave Mandalay a substantial boost. On March 6, the day of the MGM Grand-Mirage Resorts merger announcement, Mandalay's stock soared 13 percent, to $14.94.

In remarks to analysts last month, Park Place Chief Executive Arthur Goldberg indicated he had at least considered that combination, though he also tried to downplay it.

At the meeting, Goldberg said that a combination with Mandalay would result in too much market concentration in Las Vegas. However, Goldberg immediately added he believed Park Place could achieve about $90 million in cost savings by merging with Mandalay.

"Clearly, he had done some back of the envelope math," Farley said. "It's clearly something they've looked at."

Brian Egger, an analyst with Donaldson Lufkin & Jenrette, believes Goldberg was sending a clear signal he's still interested in acquisitions, despite its recent $3 billion buyout of Caesars World Inc.

"They're looking at other names where a combination might make sense," Egger said. "Given the background of Hilton and Circus Circus, it's certainly within the realm of possibility."

Park Place faced little antitrust scrutiny in its Caesars World purchase -- and little opposition is expected in the MGM Grand-Mirage Resorts merger. But a marriage of Park Place and Mandalay would create a concentration of power on the Strip not seen since the days of Howard Hughes -- the last developer to draw serious antitrust scrutiny from state and federal officials.

Nevada gaming regulations allow regulators to block a merger on antitrust grounds, and permit them to examine the issue from a wide variety of angles, including number of slot machines, table games, gross revenues, hotel rooms or employees.

A combined MGM Grand-Mirage Resorts would control 26.8 percent of the rooms on the Strip, edging slightly ahead of the 26.7 percent controlled by Mandalay. Park Place is third, with 21.3 percent.

If Park Place swallowed Mandalay, Goldberg's company would control 48 percent of the Strip's room inventory and 40 percent of its casino space. One out of every four hotel rooms in Clark County would belong to Park Place.

That's the kind of concentration that would draw serious antitrust scrutiny.

"Clearly, if you have over 50 percent of rooms or revenues (controlled by one company), then it's time for everyone sit back and take a good, hard look at it," said Steve DuCharme, chairman of the Nevada Gaming Control Board.

Even if such a merger did receive approval, it probably wouldn't be a good idea for shareholders, Ader said. Ader called many Mandalay assets, such as Circus Circus and Excalibur, "second-tier assets at best."

"The greater concern is just the fact that earnings will be concentrated in a market (Las Vegas) ... that's cyclical," Ader said. "Investors like the diversification (of Park Place). An acquisition of Mandalay would overweight earnings toward Las Vegas."

But Park Place could eliminate antitrust and market concentration issues by spinning off Mandalay's older properties following a merger, while retaining better performing properties such as the Luxor and Mandalay Bay, Farley said.

"You'd have the more attractive assets, and you wouldn't have as much of an issue of economic concentration," Farley said. "The jewels of Mandalay Resort Group are certainly a more attractive acquisition target."

But David Anders, analyst with CS First Boston, believes the more logical buyer of Mandalay would be Harrah's. The Mandalay portfolio would benefit from being rolled into Harrah's "Total Gold" national marketing program, Anders said.

Moreover, Harrah's would be far more likely to pass antitrust scrutiny as a buyer of the Mandalay portfolio. A combination of Harrah's and Mandalay would control roughly one-third of the Strip's hotel rooms and casino space -- larger than any other company, but not tremendously larger than its competitors.

"Obviously, the projects that would benefit most from Harrah's ... would be Mandalay Bay and Luxor," Anders said. "But Circus Circus and Excalibur continue to be nice cash flow generators. As long as you don't overpay for them, (Harrah's) wouldn't necessarily have to sell them out of the portfolio."

Farley believes Harrah's could offer as much as $20 per share for Mandalay -- a 44 percent premium over current prices -- and still immediately boost its earnings.

However, she noted, "Harrah's rate of same-store cash flow growth tells us that Harrah's does not need to buy Mandalay."

Other companies are being bandied about as possible targets for Park Place and Harrah's. One potential combination Ader believes is a strong possibility is a Harrah's buyout of Station Casinos Inc.

"They have a franchise you can't duplicate," Ader said. "(The Las Vegas locals) market is growing faster than any other market in the industry. Harrah's could buy it for the foothold into the Las Vegas market.

"Harrah's is a perfect strategic buyer for that company."

Another attraction for Harrah's would be solidifying its customer base in Missouri. Harrah's operates one of four casinos in the Kansas City market -- and its Kansas City casino vies with Station's Kansas City property for the title of largest-grossing property in the area. Acquiring Station would give it well over 50 percent of the increasingly lucrative Kansas City market, if such an acquisition could survive antitrust concerns there.

Station is trading just north of $19 a share, roughly the middle of its 52-week price range.

Harrah's, after failing to launch an official counterbid for Mirage Resorts, may also try to convince MGM Grand to part with one of the company's Strip properties, said Dave Ehlers, chairman of Las Vegas Investment Advisors.

"Why not acquire the Mirage (hotel-casino) from MGM Grand?" Ehlers said. "That would make the most sense."

One smaller company being eyed closely on Wall Street as a buyout waiting to happen is Aztar Corp. Though its stock is not depressed, the Phoenix company has two valuable assets a buyer would crave -- a position on one of the most valuable intersections on the Strip in the Tropicana hotel-casino and a strong-performing Atlantic City asset in the Tropicana Atlantic City.

"(The Tropicana) is at a great location in Las Vegas," Ader said. "My sense is that's something on people's radar screen. The question is, do they want to remain independent or not? If not, there would be some companies who are interested."

Anders also believes Aztar is a strong buyout candidate, but isn't sure who would be ready to pounce. Instead, he suggested the best route may be a merger with another strong acquisition target -- Argosy Gaming Inc. of Alton, Ill.

By merging, the companies could form a powerful competitor to the Big Five, with strong properties in Atlantic City and near Cincinnati, riverboats in St. Louis, Kansas City and Baton Rouge, La., and a long-term development opportunity on the Las Vegas Strip, Anders said.

"I'm not sure which one would buy the other, but you'd start to create the foundation to create a significant gaming company," said Anders, who upgraded Argosy to "strong buy" Friday. "That's my top pick."

In theory, Boyd Gaming Corp. is also seen as an attractive buy. Its stock is down 29 percent from its 52-week high, and its casinos include the Stardust on the Strip, Sam's Town on the Boulder Highway, and three downtown Las Vegas properties.

But the reason many analysts discount the possibility of a takeover is the chairman and chief executive of the company, William Boyd. Boyd controls more than 50 percent of his company's stock, so he could single-handedly block any suitor.

"Bill Boyd would have to want to sell," Ader said. "He has de facto control."

Still, one possibility does remain for Boyd -- a move to take the company private, as Sun International is doing, Anders said.

"The market is not giving you any credit for growth opportunities ... perhaps it's just better to go private," Anders said. "They do not need access to the public market, and it's a reasonable transaction as well."

Although merger speculation is expected to continue for some time, Ehlers noted that the pool of potential hunters is starting to shrink quickly. The top three candidates -- MGM Grand, Park Place and Harrah's -- are now all busy digesting earlier acquisitions, Ehlers said.

"The number of players is fading," Ehlers said.

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