Analysts: Harrah’s plan might not stave off bankruptcy

By Steve Green (contact)

Monday, April 13, 2009 | 11:09 a.m.

Harrah's Entertainment Inc.'s latest debt-exchange deal apparently didn't extinguish enough debt to ease fears that the world's largest casino resort company may be headed toward bankruptcy.

Analysts today weighed in on the results of the exchange that were announced Thursday. At that time, Harrah's said it would swap bonds with a principal amount of $5.55 billion for about $102 million in cash and new 10 percent notes totaling $3.4 billion with a longer maturity (2018) and, in some cases, a higher interest rate. The Las Vegas-based gaming company also replaced $442 million in bridge loans with new 2018 notes valued at $297 million. The company last reported total debt of $24.5 billion at the end of 2008.

Because of the complex nature of the Harrah's announcement and its complicated corporate structure, it wasn't clear Thursday how much the debt deal would reduce Harrah's annual interest costs -- a key concern since it paid $1.7 billion in interest and debt costs in 2008 just as the economy weakened and reduced visits to its hotels and casinos worldwide. And Harrah's executives are in a "quiet period'' because of securities industry rules, so they aren't talking about the issue.

Those questions were addressed today by analysts. The advisory company CreditSights said the deals reduced total debt by just under $1.9 billion and will reduce cash interest costs by about $70 million per year.

The $70 million reduction does not appear to be substantial, in the long term, compared to Harrah's total annual interest costs in relation to its cash flow.

"The improvement to (Harrah's) balance sheet is palpable, as the company should now clearly get through 2010 without any liquidity problems. Beyond that, particularly in 2011, the company will face significant hurdles from its debt maturities,'' CreditSights analysts Chris Snow and Frank Lee said in a report.

They said Harrah's ability to remain in compliance with a key credit agreement will be stressed by the middle of 2010.

"The gains from this exchange were more substantial than the prior exchange as investors have become more skeptical on the company’s medium-term prospects. At this point, we believe that covenant compliance will become a substantive issue by the middle of 2010, and that operating trends will provide limited opportunity to alter that outcome,'' they wrote in a note to clients.

A positive in the deal, Snow said in an interview, is that it should see Harrah's through 2010.

"In this environment, anytime you can move it downfield you're better off,'' he said.

Andrew Zarnett, debt securities analyst at Deutsche Bank who has said Harrah's may be headed toward bankruptcy, said the deal didn't alter Harrah's fundamental problem of having too little cash flow in relation to its debt.

Zarnett said Harrah's faces numerous challenges besides the weak economy that has reduced cash flow. Major capacity additions in Las Vegas like CityCenter, Cosmopolitan and Fontainebleau will likely hurt all Las Vegas Strip operators -- while Harrah's also faces extra and unneeded capacity in the works in its regional markets around the country including Atlantic City. And while Harrah's is working to cut costs to improve its finances, Zarnett is warning that Harrah's may lose market share as customers defect to MGM Mirage properties and other competitors over customer service issues.

Zarnett estimates Harrah's cash flow -- technically, earnings before interest, taxes, depreciation and amortization -- will tumble from $1.655 billion in 2008 to $1.38 billion this year.

"The equation of success comes down to what your cash flow is and what your debt is,'' he said.

Bankruptcy, however, is not a foregone conclusion at Harrah's. It could continue to engineer debt exchanges and -- like MGM Mirage -- has a multitude of options to fix its balance sheet including asset sales and equity infusions. In the event of a bankruptcy, Harrah's private-equity shop owners Apollo Global Management and TPG Capital (Texas Pacific Group) may maintain control of the company, as they have been buying its debt at currently distressed prices.