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I’ve got to give credit where credit is due. Up until recently, we’ve been highly critical of this management team for exploiting the easy money era without the proper risk management strategy. They’ve dug a pretty massive hole of debt, covenants, capex, and a lack of liquidity. However, it’s time for redemption and MGM is off to a good start.

As best as we can figure out, here is the three pronged strategy:

1. Sell off assets – TI should close in Q2 but there may be others (The Mirage?). This is not, in and of itself deleveraging, particularly with the huge tax bite, unless the proceeds are used to buy discounted sub debt. See #2 below.
2. Buy back heavily discounted subordinated bonds – As we discussed in our 12/17/08 post, “MGM: UPON FURTHER REVIEW”, buying back its own discounted bonds is a deleveraging transaction by the amount of the discount. Buy at 65 and retire at par. Thankfully, MGM’s credit facility allows it to buy back sub debt with the proceeds of asset sales.
3. Cut Capex – For the second time in the last few months, MGM downsized CityCenter Capex, this time by $200 million to go along with the $400 million cut announced during the Q3 earnings release. You can bet MGM isn’t buying many slot machines either.

We calculate this strategy will carry MGM through 2009, but just barely, as the chart shows. Our projection assumes $1 billion in cash spent for bonds at 65 cents on the dollar. The company will come dangerously close to breaching the leverage covenant in Q3. However, if they can close another sale, such as The Mirage by the end of Q3, and use some of the proceeds the buyback more bonds, they should clear the covenant fairly easily.

This strategy can only take MGM so far. The company will run out of availability on its credit facility to buy enough bonds to avoid a 2010 covenant breach. However, buying time is critical. Much can happen in a year including a more favorable refinancing environment, improved operating conditions, etc.

Q3 is tight unless they can sell The Mirage or another asset