Penn National Gaming under-levered by gaming industry standards, eyes expansion as top priority

By Paul Deckelman

New York, May 19 - Penn National Gaming Inc. has ample excess liquidity and free cash flow - and its biggest worry right now seems to be what to spend its money on. With relatively low leverage by gaming industry standards, its chief financial officer said Thursday that the company's top priority is further expansion.

Appearing at the UBS Leveraged Finance Conference in New York, CFO William J. Clifford told participants that the company's top priority for using its free cash flow is "to grow the company in a profitable, good return."

He specifically mentioned Ohio, Massachusetts and Texas as possible jurisdictions where the acquisitive company - which has expanded greatly since the 1972 opening of its original horse-racing track near Harrisburg, Pa., through the acquisitions of such former competitors as Casino Magic, Hollywood Casino and Argosy Gaming and now has nearly 30 casinos and race tracks - might be willing to invest.

The company currently owns two racetracks in Ohio, one in Toledo and the other in Columbus, and is building a casino near each of those tracks, with opening projected for next year. It is in a joint venture with the owner of two Texas race tracks, one in the Houston area, but is actually betting that its stake will become more valuable if the Lone Star State legalizes "racino" operations that would allow the placement of slot machines at the tracks. Massachusetts officials are still debating expansion of gaming in the Bay State.

Loan comes due in 2015

Clifford said that if Penn National hasn't found anyplace to invest its money by 2015 - and he said "that would be a bad day" - the company's backup plan would be to use accumulated cash plus whatever funds it would need to raise by selling debt to repay a $1.25 billion interest-free loan, which the company was granted in 2008 as part of its settlement when a $6 billion plan to buy out the company fell apart.

Fortress Investment Group LLC and Centerbridge Partners LP had agreed in 2007 to take the company private at $67 per share, but backed out the following summer after the U.S. credit markets began collapsing, instead paying Penn National a $225 million break-up fee and the interest-free loan due 2015.

If it wanted to, the company could issue stock to Fortress and Centerbridge instead of paying them in cash, but Clifford said it would want to avoid that kind of dilution of its shares "so at that point, we would go out and raise the debt and pay it off." He said that the $1.25 billion commitment "takes care of the bulk of the free cash flow as a kind of safety valve."

Favorable leverage levels

Generating cash, or raising it through the credit markets, would seem to be no problem for Penn National. According to information supplied to investors by the company as part of its UBS presentation, it generated about $301 million of free cash flow in 2010.

While the company had $2.135 billion of total debt as of the end of the first quarter on March 31, including $1.518 billion of term loan debt maturing in October 2012, plus $250 million of 6¾% senior subordinated notes due 2015 and $325 million of 8¾% subordinated debt due 2019, its leverage ratios are very low by industry standards.

The company's ratio of senior debt versus trailing 12-month EBITDA as of March 31 was 2.4 times - no comparable figure was available for its industry peer group - while total debt-to-EBITDA stood at 3.2x, or only slightly more than one-third of the industry peer group's 9.3x average ratio.

The peer group consists of Caesars Entertainment Corp., MGM Resorts International, the non-Macau operations of Las Vegas Sands Corp. and Wynn Resorts Ltd., as well as Ameristar Casinos Inc., Boyd Gaming Corp., Pinnacle Entertainment, Inc. and Isle of Capri Casinos, Inc.

At the same time, Penn National had an EBITDA-to-interest coverage of 5.7x, versus a 2.2x average ratio for its industry peers.

The company had $79.5 million of excess cash as of March 31 and $640 million of available borrowing capacity under its revolving credit line, which matures in July 2012.

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