London Clubs engineers deal for control of Aladdin

David Strow

Tuesday, July 31, 2001 | 10:47 a.m.

British casino operator London Clubs International announced today it is the new majority shareholder of the $1.2 billion Aladdin hotel-casino on the Las Vegas Strip.

As part of the changeover, LCI appears to have struck a deal with the Aladdin's bankers that should buy the property more time -- though long-term problems still remain.

LCI currently owns 40 percent of the Aladdin's common stock, compared to the 57 percent owned by the Sommer Trust. But LCI, which has poured in excess of $200 million into the Aladdin, also owns $166.4 million in preferred stock, compared to just $13.8 million held by Sommer.

Under today's agreement, these preferred shares will be swapped for new common stock. Once that's complete, LCI will own 85 percent of the Aladdin; Sommer's stake will drop below 15 percent.

What isn't known is what changes LCI has in mind at the property -- Aladdin officials this morning said they had no information beyond what was in the LCI report. LCI and Sommer officials couldn't be reached for comment.

What LCI is signaling is that it doesn't want to be the majority shareholder for long. The Aladdin's financial difficulties have badly hurt LCI's bottom line -- this morning, LCI reported an annual loss of 51.7 million pounds ($73.5 million), almost all of it from losses at the Aladdin.

"This equity restructuring will enable LCI to pursue discussions with third parties who have expressed interest in the Aladdin project and should enable us to significantly reduce our existing level of investment," an LCI statement said.

While LCI tries to find a buyer, it appears it's struck a deal with the Aladdin's bankers to keep the property out of bankruptcy, at least for the near-term.

LCI said the banks have agreed to waive "all financial covenants ... and keep well agreements" through August 2002, "provid(ing) a stable financial platform on which the operation can develop."

This is understood to mean two things -- one, that LCI and Sommer will not have to make the $8.7 million payment to the Aladdin that's been due for months; and two, that the Aladdin's received partial relief on its debt repayment.

Analysts believe the deal means the Aladdin will have to continue making debt interest payments through next August, but will be able to delay principal payments.

"It's implied, but not definitively stated, that if they're going to reach an agreement with London Clubs, a similar agreement must have been reached with Aladdin to potentially defer the amortization of its bank debt," said Jason Kroll, gaming analyst with Bear Stearns.

The Aladdin carries more than $700 million in debt and liabilities, and its cash flow hasn't been nearly enough to cover the nearly $75 million in annual payments that heavy debt load demands. If an agreement has been reached with the banks, that pressure should be relieved for the next 12 months.

Which means, at least for now, that bankruptcy is unlikely, said gaming analyst Andrew Zarnett of Deutsche Banc Alex. Brown.

"The only thing that could cause it (in the near-term) is a serious deterioration in fundamentals from where they are today," Zarnett said. "This postpones their fate, but doesn't eliminate it."

That's because not only will these payments resume after August 2002, but the Aladdin will also start requiring maintenance capital. In addition, the Aladdin will be required to start making interest payments on $212.5 million in bonds in 2003, adding another $29 million to annual expenses.

"They won't have the liquidity to do that (maintenance and bond payments) unless they restructure," Zarnett said.

That gives LCI some time to try to find a white knight for the property.

The challenge LCI now faces isn't impossible. When the Mirage opened in 1989, it too was laden with high interest debt, and many expected the property to suffocate under the heavy debt payments. Yet Steve Wynn, then chairman of Mirage Resorts Inc., was able to wriggle the Mirage out from under its debt by selling stock.

"They didn't have the money to pay off their debt service, so they worked it out with their creditors, who bought more stock in exchange (for debt)," said Bill Thompson, professor of public administration at UNLV.

But the Mirage and the Aladdin are vastly different situations, Thompson said.

"They (the Mirage's creditors) saw a flurry of business," Thompson said. "The company who buys the Aladdin will say, 'Hey, I don't see the business.' It's going to be a fire sale."

Park Place Entertainment Corp. owns one-third of the Aladdin's bonds, controls three of the four properties directly north of the Aladdin, and has eyed the property since at least 1999. Park Place could also squeeze more profit out of the property, Kroll said.

"Under Park Place, it's a totally different enterprise," Kroll said. "You have a different capital structure, a significant (customer) database, less overhead expenses, economies of scale. Could it perform at levels superior than today? It definitely has a chance."

Park Place isn't saying anything, but most observers still don't expect Park Place to play ball anywhere outside of a bankruptcy court.

"I would find that (a Park Place purchase) very hard to believe," said Eric Matejevich, analyst at Merrill Lynch. "In cases like this, you would wait until the property is in bankruptcy before making a move. There's no incentive to purchase the equity today when you have substantial levels of debt ahead of you."

Under an established gaming operator, Zarnett believes the property could produce $70 million to $80 million in annual cash flow versus an annual rate of about $45 million now. If the Aladdin could achieve the higher figure, it would have a debt level of 10 times annual cash flow -- yet no major gaming deal has been done for more than 8.5 times annual cash flow, Zarnett said.

That means a sale wouldn't even produce enough to pay off all the debt.

"So why would anyone pay anything for the equity?" Zarnett said. "The Sommers don't believe there's any equity value in this property, since they surrendered a great portion of their stock interest."

If a buyer took over the Aladdin from LCI, it would also be responsible for paying back the bonds at 101 percent of their current accumulated value, adding $182 million to the cost.

Those are the financial problems. But there are other problems as well. They include a design that makes it difficult for patrons to get from the parking garage to the casino and entrances that discourage walk-in traffic from the Strip.

It also doesn't compete well against the flood of new properties now operatign on the Strip, said Hal Rothman, a history professor and tourism expert at UNLV.

"There's nothing original about it," Rothman said. "It imitates real well, but it's still an imitation. Why pick the Aladdin over any other (Las Vegas resort)? It isn't unique, and unique brings people into properties.

"It's perverted the Las Vegas formula (of) giving the middle class a luxury experience at a middle class price. What the Aladdin does is give the middle class a middle class experience at a luxury price."

The Aladdin's severe financial difficulties could have one effect felt across the Strip. With such a high-profile project struggling so badly, will lenders be gun-shy about providing billions of dollars more to build the Strip's next generation of resorts?

It depends on who builds them.

"What's clearly become more difficult is financing projects, particularly for non-corporate companies without a track record in developing new properties," Kroll said. "Look at all the new developments on the table in Las Vegas ... we've been talking about these for a year now, and we still haven't seen anything. I'm sure the struggles of the Aladdin have made the hurdle for other start-up projects extremely difficult."

Large companies like Park Place, MGM MIRAGE and Mandalay Resort Group will still be able to get cash, provided they have sound business plans, Kroll said. They not only have track records, but the ability to ride out a new property's bumpy opening period with cash produced by their other properties.

And that's why, ultimately, modern Las Vegas is becoming more and more corporate-controlled, Rothman said.

"The Aladdin's real problem is that it's free-standing ... it rises and falls on its own performance," Rothman said. "They have all their eggs in one basket. That's not the case with Mandalay, Park Place or MGM MIRAGE.

"What this means is that Las Vegas will continue its trend toward corporatization. It's very hard to run a single property today."

The news follows Monday's surprise resignation of Alan Goodenough, executive chairman of LCI, who resigned for health reasons. Though LCI's announcement made no mention of it, the British press said these health problems were caused by the stress of dealing with the Aladdin situation. The Aladdin caused LCI further financial pain this year -- in its statement today, LCI reported it wrote down the value of its investment in the Aladdin by 50 million pounds ($71.1 million).

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