No doubt the news from NJ is positive but the value will likely accrue to the bondholders. Interactive Spin-off? The answer is the same as last time.
It feels like a broken record, a movie sequel, a television rerun, Las Vegas companies claiming the Strip is in recovery…well you get the idea. Investors are hoping for a spin-off of CZR’s Interactive assets that would unlock equity value for shareholders. As we began discussing almost a year ago, any unlocked value would have to accrue to the bondholders, not the equity holders. Caesar’s stock is up 64% since February 6th on the high likelihood of NJ passing I-gaming legislation and speculation by investors that they will be able to spin off Caesar’s Interactive division to the benefit of stockholders. The New Jersey news is, indeed a positive, not worth a 64% move, but positive. However, the idea of an Interactive spin-off boosting equity shares is an unlikely one. A misleading article titled “Caesars Rises on Plan to Sell Stake in Online, New Casinos” printed on February 4thand redistributed by AGA Smartbrief the following afternoon added to the hype.
As we wrote about on February 28, 2012, “SPIN-OFF OF CAESARS INTERACTIVE? NOT SO FAST…” and again on March 16, 2012, “CZR INTERACTIVE SPIN MAY BE JUST “SPIN”, we do not believe that CZR can spin/split off the Interactive assets to benefit equity holders. Issues include tax consequences and upstream guarantees to Caesar’s Entertainment Corporation (CEC) from the Interactive subsidiary. That’s not to say that CZR’s cannot monetize their asset, just that the benefit will not go to shareholders.
In fact, that’s exactly what CZR is doing in their most recently proposed $1.5BN note issuance. In order to raise new debt, CZR’s is contributing some unencumbered and “under” encumbered assets as collateral. HIE Holding’s stock (a CEC subsidiary) in Caesar’s Interactive, the Baltimore option, Planet Hollywood (which is only 4.5x leveraged), and the bonds they bought back at a huge discount and currently clip a healthy coupon are being contributed as collateral to back the $1.5BN note offering. This is probably not exactly what stockholders had in mind when reading the title: “Caesars Rises on Plan to Sell Stake in Online, New Casinos”. In fact, this diminishes the probability of any spin-off as Caesar’s Interactive will no longer be an unencumbered asset. What shareholders viewed as a big option is getting “liened” up.
On a separate note, we think that the market is over-valuing the size and profitability of a legal NJ online gaming market. Nevada legalized online gaming back in June 2011 and we have yet to see any impact. Same goes with Delaware. New Jersey has a larger population but it would still need to pool with other States to accumulate enough liquidity. Legal hurdles will prevent that from happening any time soon. More states will have to legalize gaming before any pooling becomes meaningful.
This huge rally looks like it needs to be faded.