It is almost a mathematical certainty that LVS will breach a covenant on its US facility in Q2/Q3 unless some drastic measures are taken. Asset sales, credit facility amendments, or even a US bankruptcy filing are potential remedies. These scenarios are discussed below.
First some background on LVS’ $5BN US facility, here’s some background. The US facility’s maximum consolidated leverage ratio is currently 7.5x, stepping down to 7.0x for the period ended March 31, 2009 and then continuing to step down 0.5x every six months to 5.0x for the period ended March 31, 2011. At the end of the 4Q08, consolidated leverage stood at 6.2x. The calculation of consolidated leverage allows for $100MM of “equity contributions,” and an addback of roughly $16MM of interest on the $250MM Senior Notes to the TTM EBITDA calculation. The TTM EBITDA calculation also allows for pro-forma treatment to new openings (like Bethlehem). The consolidated debt is calculated net of unrestricted cash over $75MM at LVSC and its Guarantors.
According to our calculation, LVS will breach its maximum leverage covenant on the US facility in either the 2Q or 3Q09. LVS has the ability to move cash around or procure a cash infusion to cure a small breach at the US level, so they may be able to make it past 3Q09. However, the size of the breach amount widens considerably in 2010 as the leverage covenant continues to step down.
Conceivably if LVS could sell some non-core assets this would also go a long way to alleviating a technical default scenario. Unfortunately, they have already sold the Palazzo retail, but will likely only get an unsecured claim in GGP’s likely bankruptcy when payment comes due in 2010. Another asset LVS would probably love to sell is the St Regis residence tower, which is a much tougher proposition, but currently that asset produces no cash flow, so any price LVS can get would be de-leveraging. We believe that LVS would happily sell it at cost if it could (roughly $600MM). However, the sale of the St Regis Tower alone would probably not be enough to avoid breaching the covenant.
Given the licensing hurdles and mark to market that banks would need to take, many gaming operators that stumble into technical default are able to get amendments at a price. We believe that the banks would want at least an additional 200-400bps ($100-$200MM) in interest spread in return for leverage covenant relief. The actual increase in spread would depend on what else they offered the banks. The US facility is secured by the two Las Vegas assets’ “Guarantor”. If LVS offers up Sands Bethlehem as collateral, and perhaps a stock pledge of the public entity, this would help in lowering the additional spread that they would need to pay to secure an amendment.
However, coupling the licensing issues with the fact that LVS is levered approximately 12.5x through the bank debt, which is trading in the 50 cent range, and that there is no residual equity value at the Guarantor level, we don’t think that the banks have a lot of leverage to extract any material amendment fee. In fact, we believe that the most likely scenario is that the banks just charge LVS a modest amendment fee and allow LVS to continue making interest payments.
The banks’ only other alternatives are to either take over the collateral, or throw LVS into bankruptcy. Unlike distressed buyers of debt, the banks probably own the bank debt at par, and hence they would own the assets at 12.5x EBITDA. They would also have to hire a licensed operator and spend a large chunk on restructuring advisors and attorneys. If the banks attempt to seize the assets, then LVS would likely file for bankruptcy protection. The end result would likely be some sort of pre-pack where some of the bank debt would get equatized. There’s no real reason for banks to force LVS down this path when they can just sit and collect their interest payments and avoid the mark down of their loans.
Even in the unlikely scenario that LVS does end up filing the US Subsidiary for bankruptcy protection, this doesn’t render the stock of LVS worthless. In the event this scenario plays out, as we already mentioned, some of the debt will likely get “equatized” and the current shareholders of LVS will get diluted. In a perverse way though, this may actually boost the value of the stock.
At the current stock price, investors are clearly pricing in a high probability that the company is worth zero and herein lies the issue. We agree that the US entity is worth zero, but that doesn’t render the Macau and Singapore subsidiaries worthless. A filing at the US entity doesn’t trigger a default at the Macau or Singapore facilities. Macau may be worth around $6.00 (if the covenant situation there is overcome) and Singapore around $4. Even if the US entity files, and equatizes $1-2BN of debt, there is still value in the remaining two entities, and now the probability of zero is largely eliminated.
First some background on LVS’ $5BN US facility, here’s some background. The US facility’s maximum consolidated leverage ratio is currently 7.5x, stepping down to 7.0x for the period ended March 31, 2009 and then continuing to step down 0.5x every six months to 5.0x for the period ended March 31, 2011. At the end of the 4Q08, consolidated leverage stood at 6.2x. The calculation of consolidated leverage allows for $100MM of “equity contributions,” and an addback of roughly $16MM of interest on the $250MM Senior Notes to the TTM EBITDA calculation. The TTM EBITDA calculation also allows for pro-forma treatment to new openings (like Bethlehem). The consolidated debt is calculated net of unrestricted cash over $75MM at LVSC and its Guarantors.
According to our calculation, LVS will breach its maximum leverage covenant on the US facility in either the 2Q or 3Q09. LVS has the ability to move cash around or procure a cash infusion to cure a small breach at the US level, so they may be able to make it past 3Q09. However, the size of the breach amount widens considerably in 2010 as the leverage covenant continues to step down.
Conceivably if LVS could sell some non-core assets this would also go a long way to alleviating a technical default scenario. Unfortunately, they have already sold the Palazzo retail, but will likely only get an unsecured claim in GGP’s likely bankruptcy when payment comes due in 2010. Another asset LVS would probably love to sell is the St Regis residence tower, which is a much tougher proposition, but currently that asset produces no cash flow, so any price LVS can get would be de-leveraging. We believe that LVS would happily sell it at cost if it could (roughly $600MM). However, the sale of the St Regis Tower alone would probably not be enough to avoid breaching the covenant.
Given the licensing hurdles and mark to market that banks would need to take, many gaming operators that stumble into technical default are able to get amendments at a price. We believe that the banks would want at least an additional 200-400bps ($100-$200MM) in interest spread in return for leverage covenant relief. The actual increase in spread would depend on what else they offered the banks. The US facility is secured by the two Las Vegas assets’ “Guarantor”. If LVS offers up Sands Bethlehem as collateral, and perhaps a stock pledge of the public entity, this would help in lowering the additional spread that they would need to pay to secure an amendment.
However, coupling the licensing issues with the fact that LVS is levered approximately 12.5x through the bank debt, which is trading in the 50 cent range, and that there is no residual equity value at the Guarantor level, we don’t think that the banks have a lot of leverage to extract any material amendment fee. In fact, we believe that the most likely scenario is that the banks just charge LVS a modest amendment fee and allow LVS to continue making interest payments.
The banks’ only other alternatives are to either take over the collateral, or throw LVS into bankruptcy. Unlike distressed buyers of debt, the banks probably own the bank debt at par, and hence they would own the assets at 12.5x EBITDA. They would also have to hire a licensed operator and spend a large chunk on restructuring advisors and attorneys. If the banks attempt to seize the assets, then LVS would likely file for bankruptcy protection. The end result would likely be some sort of pre-pack where some of the bank debt would get equatized. There’s no real reason for banks to force LVS down this path when they can just sit and collect their interest payments and avoid the mark down of their loans.
Even in the unlikely scenario that LVS does end up filing the US Subsidiary for bankruptcy protection, this doesn’t render the stock of LVS worthless. In the event this scenario plays out, as we already mentioned, some of the debt will likely get “equatized” and the current shareholders of LVS will get diluted. In a perverse way though, this may actually boost the value of the stock.
At the current stock price, investors are clearly pricing in a high probability that the company is worth zero and herein lies the issue. We agree that the US entity is worth zero, but that doesn’t render the Macau and Singapore subsidiaries worthless. A filing at the US entity doesn’t trigger a default at the Macau or Singapore facilities. Macau may be worth around $6.00 (if the covenant situation there is overcome) and Singapore around $4. Even if the US entity files, and equatizes $1-2BN of debt, there is still value in the remaining two entities, and now the probability of zero is largely eliminated.
