THE COVENANTS DON’T CARE

MGM confirmed rumors that it is selling Treasure Island (TI). The purchase price is $775 million and we estimate net proceeds will be in the $700-725 million range after a decent sized tax bite. The company expects the transaction to close in Q2 2009, which is an important quarter for another reason. Absent new financing, we estimate MGM will trip the leverage covenant in its credit facility during that quarter. If it doesn’t happen in Q2, a covenant bust is virtually a mathematical certainty in Q3.

The TI sale looks like a non-event. Near term liquidity is improved but the multiple was just ok. Most importantly, the covenant situation is essentially unchanged. The chart below provides estimated quarterly leverage ratios against the maximum allowable ratio as provided in the credit agreement. This is the biggest issue facing MGM right now. Investors should expect a highly dilutive equity offering in the coming months or a sharp rise in the company’s borrowing rate should they choose to renegotiate their credit facility. Neither of these options will be good for the current equity.


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