Corporates Gaming / U.S.A. 2014 Outlook: U.S. Gaming Deleveraging Potential Outlook Report High Leverage Is So 2013: After a busy 2013, with a first-ever gaming/REIT spin-off and three Rating Outlook major debt-funded M&A transactions, gaming companies are positioned with solid FCF profiles, STABLE limited development prospects and stringent credit agreement provisions. Fitch Ratings believes this is a formula for meaningful deleveraging across the industry. Notable exceptions (2013: STABLE) could be the U.S.-based Macau operators, which will be ramping up developments on Cotai and currently maintain low leverage levels in Macau. A handful of lightly leveraged companies may also look to increase shareholder-friendly activity. Finally, a Gaming REIT: Fitch believes the entrance of REITs into the gaming sector will potentially drive up trading EV/EBITDA multiples, provide new sources of capital (e.g. sale and leaseback), create better transparency on the value of physical casino assets and the gaming licenses (retained by the operator) and possibly increase tolerance for higher leverage. Tepid Domestic Growth Prospects: 2014 casino openings in Ohio, Baltimore and possibly Lake Charles, LA will grow but also cannibalize their respective markets. Same-store growth will continue to be soft, although we project regional markets to fare better relative to 2013 as the effects from the sequester and the payroll tax holiday rollback will anniversary. Operators with exposure to the Las Vegas Strip and Macau will continue to benefit. We project 3% gaming revenue growth for the Las Vegas Strip (5% RevPAR growth) and 12% for Macau. Sector Outlook Greater Interest Rate Sensitivity: Many gaming companies used term loans to refinance STABLE fixed-rate notes or execute M&As. We estimate that for the top 15 gaming issuers on a simple average-basis bank debt will make up 50% of their debt outstanding heading into 2014 relative (2013: STABLE) to 44% at year-end 2012. This might be more of a 2015/2016 risk, as the Fed has signaled its Lackluster regional gaming outlook; intention to keep rates low for the time being. See page 4 for more analysis. Las Vegas and Macau are the bright spots. Industry on Sound Footing: Financial flexibility for most gaming issuers remains solid despite Relatively benign regulatory/new the ramp-up in equity-friendly initiatives undertaken by some in 2013. A few issuers improved supply environment, although online credit profiles by refinancing more expensive debt, extending maturities and/or using asset sale gaming and possible expansion in Florida may lead to cannibalization. and equity issuance proceeds to pay down debt. Caesars Entertainment Operating Company (CEOC) remains over-leveraged and we think some sort of restructuring is possible in 2014. Related Research Regulatory Watch: Online gaming will be live in three states. Gaming licenses will be awarded Other Outlooks www.fitchratings.com/outlooks in Massachusetts, Prince George County, MD, and Philadelphia, while New York will start the 2014 Outlook: Asia Pacific Gaming bidding process for its four new licenses. The Florida and Illinois legislatures will consider Other Research gaming expansions. On the federal level, online gaming will get some albeit little traction, while Fitch Fundamentals Index - U.S. Index the Obama administration will continue to take a lenient stance on off-reservation gaming. Trend Analysis – 3Q13 (October 2013) Go to Appendix for list of rated entities. Outlook Sensitivities Analysts Stable Outlook Well Entrenched: We can get more bullish if the U.S. economy outperforms Michael Paladino, CFA Fitch’s GDP 2.6% growth forecast for 2014; online gaming is accretive to land-based +1 212-908-9113 operations; Penn’s REIT spin-off provides additional source of capital for the sector at attractive [email protected] terms; and companies err on the side of conservatism when making capital allocation decisions. Alex Bumazhny, CFA +1 212-908-9179 Room for Caution: The converse of the above positive drivers may have us take a more [email protected] bearish stance. However, it is worth reiterating that gaming companies are generally on sound Adam Dolkart +1 312-368-2095 financial footing and there is some tolerance for a modest amount of operating pressure and/or [email protected] further ramp-up in shareholder-friendly activities. www.fitchratings.com December 16, 2013 Corporates Table of Contents Key Issues Key Issues Financial Policies/Capital Allocation ........ 2 Balance Sheets Highly Leveraged ........... 2 Stated Financial Policies Point to Deleveraging in 2014 for Most REIT Spin-Off Implications ....................... 3 Short-Term Rates Sensitivity ................... 4 Fitch expects gaming companies to take a breather in 2014 after a hectic 2013, which saw a Project Pipelines ...................................... 5 first-ever gaming/REIT spin-off and three large-scale M&As. Casino operators with high Regulation ................................................ 6 New York ................................................ 6 leverage will focus on deleveraging, while opportunistically seeking out small-scale M&As and Florida .................................................... 7 Illinois ..................................................... 8 development opportunities. Multiple U.S. regional operators, which tend to be 6x–7x leveraged, Market Outlooks have publicly stated goals of lowering their leverage to 5x or below. Las Vegas Strip ...................................... 8 Midwest/South ........................................ 9 Deleveraging will be aided by nearly universal healthy FCFs, modest development pipelines, Atlantic City/Northeast.......................... 10 Las Vegas Locals ................................. 10 and covenants that restrict dividends. Pinnacle Entertainment (Pinnacle), Station Casino Asia-Pacific........................................... 11 (Station), Boyd Gaming (Boyd), Isle of Capri (Isle) all fit this profile. The above attributes also Other Key Topics Online Gaming ..................................... 12 apply to MGM Resorts International (MGM) for 2014, although we expect the company to get Native American Gaming ..................... 12 into the heavy-spending phase of its Cotai project and possibly start construction in Maryland Slot Suppliers ....................................... 13 2013 Review ............................................ 13 and/or Massachusetts toward the latter part of 2014. Appendix High-Yield Defaults .............................. 15 Las Vegas Sands (LVS) and Wynn Resorts (Wynn) are the only two major U.S.-headquartered Gaming Revenues ............................... 16 commercial operators with leverage below 5x. Both companies have been busy returning cash Capital Allocation Summaries .............. 17 Coverage List ....................................... 20 to shareholders. As a result, Wynn’s leverage has migrated toward the 5x marker, with the company issuing $800 million of new money debt in 2013, some of which will go toward its $4 billion Cotai development. LVS’s outperformance in Macau has kept its leverage below 3x, despite meaningful increases in dividends and the initiation of a $2 billion share-buyback program. Both issuers’ leverage may tick up as their respective Cotai projects advance further. Caesars Entertainment Corp’s (CEC) CEOC remains burdened by the debt load it took on in the 2008 LBO. Some form of restructuring at CEOC is possible within one to two years and maybe within the next several months, given the extent of the FCF burn. CEC did manage to refinance the debt at its PropCo entity (Caesars Entertainment Resort Properties [CERP]), which we now see as having a sustainable capital structure. To execute the refinancing CEC issued $200 million in equity and mezzanine lenders took modest haircuts (receiving 90 cents on the dollar). We have included financial policy summary tables in the Appendix to this report starting on page 17. High Leverage Risk is Partially Offset by Healthy FCF/Liquidity Aside from LVS and Wynn, most of commercial casino operators’ leverage hovers above 6x. For context, U.S. casinos trade at around 7x EV/EBITDA multiples for regional assets (plus/minus 1x, depending on the market/asset quality) and probably closer to 10x for Las Vegas Strip assets. Therefore, at 6x leverage some equity cushion exists, although we would still characterize the industry as highly leveraged. The concern over high leverage is partially offset by generally healthy FCF profiles and communicated desire by many industry participants to use FCF to deleverage. We also take comfort in healthy liquidity profiles across the industry. Many issuers used favorable capital markets in 2012 and 2013 to refinance with cheaper debt while pushing out maturities. 2014 Outlook: U.S. Gaming 2 December 16, 2013 Corporates Credit Metrics and Liquidity Summary for Major Gaming Issuers Gross Leverage (x)a FCFb Pro Forma Liquidityc Pro Forma Maturities 2013 2013 Revolver ($ Mil.) IDR Outlook 2011 2012 LTM 2011 2012 LTM Cash Availability Total 2014 2015 2016 Comments Boyd Gaming B Stable 9.0 8.1 7.6 132 50 110 325 325 Leverage and FCF include Peninsula. Caesars CEOC CCC Negative 12.7 14.4 15.1 (485) (660) (1,010) 1,700 1,700 10 1,017 1,062 Cash is pro forma for sale of Planet Hollywood and Macau land. Bulk of revolver capacity matures Jan. 2014. For LTM period and 2012 maintenance capex is estimated at $300 million. Caesars CERP