PENN: “BASSET” SWAPS AND VALUE CREATION

Gaming companies have a problem. Business risk is high, balance sheets are highly leveraged, credit markets are closed, and liquidity begins to dry up in 2010. PENN has a different problem. While PENN maintains the best balance sheet and liquidity to make a value creating acquisition, gaming companies are probably unwilling to sell assets or their companies at the bottom. There may be a solution: a bond for asset (“Basset”) swap. Theoretically, PENN could buy discounted bonds in the open market and trade them back to the Issuer in exchange for an asset, presumably a casino/hotel. PENN effectively buys the property at a discount and the seller deleverages at par. It seems like a win/win situation; maybe not for the bank who holds the credit facility, but certainly for the direct counterparties.

Conceptually, swapping discounted bonds for a coveted asset makes a lot of sense. There are a couple of issues, however. First, the covenants in all indentures and credit facilities senior to the purchased bonds cannot restrict the use of proceeds from asset sales. Second, as with most casino asset sales there are always tax issues. It is unclear whether the seller would be able to make a tax free exchange but that would certainly seal the deal.

In the following table, I’ve outlined a generic analysis of how this transaction would look to the buyer and seller assuming no covenant or tax issues. Clearly, PENN benefits from buying a property worth 10x EBITDA for 7.5x. The seller sees its leverage fall 4x to 3.3x and is now in a better position to obtain new liquidity from the credit markets.

This is by no means an exhaustive study of “Basset” swaps but it does indicate that there may be options for PENN to expedite an attractive acquisition. Alternatively, the company will be patient to get what it wants at fire sale levels. Presumably, potential sellers will get more desperate as we approach the beginning of what could be a gaming liquidity crisis beginning in 2010. PENN seems to be alone in dealing with this high class problem.

Hypothetical "Basset" Sale

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