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Last night the WSJ stated that CityCenter is preparing for a potential bankruptcy filing of CityCenter, as the $220MM funding payment due today looks unlikely to be made. This news comes on the heels of Dubai World filing a lawsuit against MGM this Monday alleging that MGM's admissions in its 10-K constitute a breach of the CityCenter Joint Venture Agreement and puts the CityCenter development project at risk.

Our take on the lawsuit is that Dubai was simply taking precautions given the cross-default provision in the CityCenter financing which would be triggered by a default on MGM’s credit facility. We also believe that this may have been the first step in a series of moves for Dubai World to try to take a larger stake in CityCenter and possibly remove the cross-default risk. And as we wrote about in previous posts, while we do not believe it is likely that MGM will file for bankruptcy protection this year, we have little doubt that, barring a transaction, they can avoid a technical default.

The preparation for a filing of CityCenter looks like it’s the next step in this dance. We believe that perversely, a filing of CityCenter is a positive for MGM credit and equity. The filing will at least delay $500MM of funding that MGM needs to contribute to CityCenter in 2009, and roughly $200-300MM of incremental funding in 2010. If CityCenter does not open it would also relieve competitive pressure on MGM’s other casino assets in Vegas. However, given the scope of the project and the 10,000 employees that would be out of work should it not open, we believe that the local and possible federal (Mr. Reid?) government may not let this project fail.

The other issue is the completion guarantee provided by both parties ($600MM in addition to the required equity contribution). For MGM this guarantee is a large contingent liability in CityCenter bankruptcy. Additionally, as we learned from LVS, halting construction isn’t cheap either. Finally, it is possible that Dubai World may have funding issues; the financial state of the company is unclear.


The Street projects Q1 EBITDA of $151 million for WYNN. We think the number will be closer to $120 million with the shortfall originating in Las Vegas. Our Las Vegas property level EBITDA for the two Wynn properties combined (Wynn Las Vegas and Encore) is only $33 million versus the Street around $60 million.

As we’ve been writing about since June of 2008, the Street continues to underestimate the margin degradation from falling room rates. In our June 6/22/08 note, “MEAN MARGIN MEAN REVERSION”, we determined that the most of the huge margin expansion over the last 15 years in Las Vegas was driven by room rates as depicted in the first chart. Well, we are on the downside of that cycle now, in a big way. WYNN’s Las Vegas EBITDA margin could fall by almost 13 percentage points on a year-over-year basis in Q1. With bad luck on the tables, that number could be even lower.

We think RevPAR could fall by over 30% in Q1-Q3, and 10% in Q4 as the comparisons ease. Part of the decline is due to the additional rooms from Encore. However, most of it is due to soft demand. Wynn’s focus on maintaining occupancy will continue to drive margins down as rates fall. See the second chart below.

All is not lost for WYNN. We continue to be positive on Macau. We’ve worked through our model pretty extensively and we don’t believe the company faces any covenant or liquidity issues. I know some in the investment community are predicting a covenant breach but we are not in that camp. However, we are in the camp that Street estimates need to come down, particularly for Q1.

Rooms and F&B pricing drove industry EBITDA higher in Las Vegas
Precipitous ADR declines are driving margins significantly lower

Eye on Commercial Real Estate

Per today’s WSJ article, there are $700bn in securitized loans backed by office buildings, hotels, stores and other investment property, and the delinquency rate has more than doubled over six months to near 2%. The implications for retail-retailed REITs is obvious (check out the charts for Simon, General Growth and Taubman). As the stability of ownership becomes a greater focus, we whipped up a little analysis showing the percent of stores leased versus owned for a select group of retailers. Note that even the owned properties are not completely out of the woods (i.e. Sears) as there’s no reason why an owned property cannot default – similarly a lease is not broken just because the deed changes hands. But there certainly is a greater margin of error for those that lease the majority of their stores.

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What's A Great Recession?

As we all know, some people in our business have no shame in poaching other people’s work. Today, I actually heard one of the manic media networks refer to the inverse correlation of US Dollar down/US Stocks up as “Breaking The Buck” – I wonder where they came up with that! They don’t like to cite me because I YouTube them – you know, hold them accountable and stuff, I guess…

Today I am getting a lot of questions as to why we coined this the “Great Recession”, and sometimes its just easier to capture a simple answer with a picture rather than prose. Today saw the release of the latest US GDP data, and Andrew Barber has incorporated that data in the chart below. That’s what The Great Recession looks like.

Most economists call a recession 2 consecutive quarters of falling GDP. So we have that - but what we really have here is the Greatest peak-to-trough belly flop versus consensus Wall Street expectations (think the ooh and the ahh of Private Equity and “Chindia” of 2007) in US history. No, this is NOT a Great Depression. Pre the Great One in the 1930’s, depressions happened all the time:

1. 1893-94 = GDP down -9%
2. 1907-08 = GDP down -10%
3. 1919 = GDP down -13%

My Partner, Todd Jordan, asked in an early note today, “what is a depression anyway?” Well Todd, I think it’s when people are depressed – and a lot of the shameless rats in this business should be… but it is definitely not what we are seeing here, from a US economic perspective, in 2009.

Keith R. McCullough
CEO / Chief Investment Officer

FINL: Key Pre-Qtr Metrics

Here’s our EPS walk by line item, including SIGMA chart heading into the quarter. I like the comp trajectory relative to management’s guidance, as well as the gross margin in light of where last quarter’s inventory levels ended. What I don’t like is that after this quarter, FINL faces its toughest Gross Margin compares of the year, and does not have much in SG&A to act as a cushion. Also, after seven quarters of declining capex, this trend is starting to flatten out. Combined with working capital reductions FINL is going to need to see an acceleration in operating results in order to bolster cash flow. Yes, this name is cheap, and one of the higher quality names in the space, but there are other companies out there that are higher quality, cheaper, and are facing an expanding free cash flow trajectory.


Earlier this week, I commented on the sequential improvement in February same-store sales and traffic trends at casual dining restaurants. Although Malcolm Knapp reported that “the bottom” could be in for casual dining, I continue to be concerned about restaurant margins as companies are offering significant discounts in order to drive customer counts. These discounts will put increased pressure on average check and will partially or wholly offset the positive impact on traffic, which is one reason why I don’t think we will see a material improvement in casual dining sales trends from the -3% to -5% levels in 2Q09.

Yesterday, I even read an article that said a bistro in Sydney is hoping to combat the recession by allowing its customers to decide what they want to pay for each menu item. Diners fill in the price they want, and the bill is calculated accordingly. Although this type of discounting seems a bit irrational, the prices being advertised at major casual dining chains in the U.S. continue to surprise me as they move increasingly lower. On a positive note, these lower prices have to help casual dining restaurants’ value perception relative to the QSR players. It is these low price casual dining offerings that cause me to believe that now is a difficult time for QSR players to push their more premium menu items.

CKR is one of those QSR players that has continued even in this tough environment to maintain its focus on more premium, quality products, which it states will allow the company “to attract those consumers looking for premium quality products as they trade down from more expensive dining options.” Management has criticized its competitors for aggressively discounting and selling “margin-impairing products.” Despite its claim, however, that CKR’s menu offers a strong alternative to casual dining, CKR has experienced a slowdown in same-store sales, particularly at its Carl’s Jr. concept. Fiscal 4Q09 comparable sales turned negative at Carl’s Jr. and remained negative in period 1 of FY10, down 3.6%. Today, CKR stated on its 4Q09 earnings call that period 2 same-store sales will likely be down mid single digits. Although the company is facing its most difficult comparison from FY09 in period 2, management attributed the continued weakness to industry discounting and the fact that its competitors are literally giving away food.

CKR is right to be concerned about margins, but a QSR menu strategy that relies primarily on premium priced products is going to suffer, particularly in light of the significant discounts also being offered by casual dining restaurants. Earlier this month, I said with regard to CKR that holding the line on value becomes harder to do as the decline in traffic trends begin to accelerate. To that end, with Carl’s Jr. same-store sales having turned negative during the fourth quarter and 2-year average same-store transaction growth trends negative for some time now, management said just this morning that it will be testing some value menu items on its Carl’s Jr. menu, such as 1/8 lb. burgers and some other mid-tier priced items that have been successful at the company’s Hardee’s concept. Management is not calling this “discounting” because these items will not be supported by media campaigns or promoted at specific price points. Instead, these new items are expected to offer a value option to its customers. Management can call these new lower priced items whatever it wants, but the fact that the company had to change its tune somewhat by offering more value items highlights just how difficult it is to push premium priced menu items in this environment. The casual dining operators have known this for some time now and have, therefore, adapted their menus and price promotions. Some QSR players, however, continue to maintain that this premium strategy will work as an alternative to casual dining. I am not yet convinced.

Here's who's doing what within Casual Dining:

• Chili's. On April 6, the chain will offer a "10 meals for under $7" deal. Officials declined to discuss details until closer to rollout.

• T.G.I. Friday's. This month, Friday's began a promotion featuring eight entrees priced at $9.99 — in some cases a 29% price cut. "We need to offer deep value to drive traffic," says Andrew Jordan, marketing chief.

• Applebee's. Since mid-November, the chain has offered a "2 for $20" special of two entrees and one appetizer. "While we can't fix the economic challenges, we are offering … value," says Shannon Scott, marketing chief.

• Outback Steakhouse. For months, the chain has marketed 15 meals for under $15. "We decided to get back to the DNA of the brand," says Dan Dillon, marketing chief.

• Texas Roadhouse. The chain recently launched an "Early Dine for $7.99" promo on weekdays. "We're trying to drive early-week traffic," says marketing chief Chris Jacobsen.

• Cheesecake Factory. A "Small Plates and Snacks" menu includes a $4.95 Pizzette, a flat, football-shaped pizza some folks are ordering as a meal. "We're making Cheesecake Factory more accessible," says Mark Mears, marketing chief.

• Morton's. Even Morton's has got a $99.99 steak and seafood dinner for two and $6 mini-burgers at the bar (Average check at Morton's is $97 per person). The goal, says CEO Tom Baldwin, is to drive sales. "These are unprecedented times."

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