Analyst: Potential MGM REIT not a good idea

16 September 2015

One gaming analyst isn't waiting for MGM Resorts International to decide if it's a good idea to split off all or a portion of the casino company into a real estate investment trust.

Susquehanna Financial Group's Rachael Rothman told investors there are better ways for MGM to grow profits.

"An MGM REIT would not garner the same valuation as its hotel REIT or regional gaming REIT peers," Rothman wrote in a research report last week.

She cited MGM's geographic concentration — the company operates 10 resorts along the Strip — its $12.5 billion in long term debt, and the gaming industry's greater degree of volatility and cyclical nature as reasons against a REIT.

"MGM has significant upside," Rothman said, citing the company's resorts under development in Maryland and Massachusetts. "(There's) no need to do anything fancy."

MGM Resorts has been on top of the gaming industry REIT discussion since the spring, when a small investor launched a unsuccessful proxy fight to force the company into a REIT. In a July interview with the Las Vegas Review-Journal, MGM Chairman and CEO Jim Murren said the casino operator "was very engaged" in REIT discussions.

During its second quarter earnings last month, MGM Resorts unveiled its Profit Growth Plan Initiative, which Murren termed "a seminal internal transformation" that would ultimately grow annual cash flow 11 percent, or $300 million, by 2017. A REIT concept is one idea being considered.

Rothman suggested MGM would be better off cutting costs rather than undertaking a REIT process that could carry an additional financial burden through the development process. She said the valuation of having an operating company and a property company is not clear, but cost-cutting would result in a "home run" for investors.

Gaming companies, including Boyd Gaming Corp., are exploring whether or not a REIT process makes sense for their business model. The idea is to create two public companies — one that owns the real estate and a separate operating company that runs the businesses. Caesars Entertainment Corp. is asking a bankruptcy judge for permission to split its Caesars Entertainment Operating Co., into a REIT and a management business.

Las Vegas-based Pinnacle Entertainment said in July it was selling its 14 regional casinos to real estate investment trust Gaming and Leisure Properties for $4.75 billion. The deal would give Pennsylvania-based GLPI, which was spun off in 2013 by Penn National Gaming, ownership of the land and buildings. Under the terms of the transaction, Pinnacle would operate the casinos through a lease agreement with GLPI.

By law, REITs don't pay federal income taxes. With real estate as their primary source of income, REITs are required to distribute 90 percent of their taxable earnings to shareholders.

Because of the proxy battle and previous research, Murren said MGM Resorts probably knows more about REITs "than people realize." But he wasn't tipping his hand as to whether or not it would be part of the"sub-set of high-value initiatives" that will be unveiled by the company by the end of the year.

Rothman said it was unclear what valuation of a potential MGM REIT would carry. Company management said the increased cash flow projections will come from two areas — two-thirds from cost savings and one-third from revenue growth.

Morgan Stanley gaming analyst Thomas Allen told investors in August that MGM's goals were "achievable," but he thought cost-savings would also be a better avenue to travel. Allen didn't believe MGM would take on a full-REIT conversion, but more likely, "a combination of smaller transactions."

Allen speculated MGM could off spin its regional casinos in Mississippi and Detroit into a REIT, sell its ownership stake in the Crystals mall at CityCenter, or monetize vacant Strip land.

Rothman favors the company focusing on cost-savings and its development pipeline, including the $350 million sports arena MGM is building behind New York-New York Hotel & Casino in partnership with sports and entertainment company AEG.

"No change in (the) corporate structure is the right outcome," she said.

Rejection of a REIT would also chase away MGM investors who are "holding shares in the hopes of a big strategic change announcement."

Rothman said the company's stock value might "trade sideways" or be pressured as "special situations investors" sell their shares, which in turn would be bought by "fundamental longer-term investors."

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