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Gambling Beyond Nevada: A Big Deal With Little Fanfare4 April 2005
By Howard Stutz
The multibillion dollar corporate buyouts that will reduce Nevada's four gaming industry giants to two has sparked a multitude of analysis from investment houses and pages of copy from the financial media.
But a third such merger, taking place far away from the lights of the Strip featuring two companies most casual investors would be hard-pressed to name, has also piqued the interest of those who follow the gaming industry.
When Penn National Gaming completes its $2.2 billion buyout of rival Argosy Gaming sometime this summer, the combined company will have estimated annual revenues of $2.18 billion and rank as gambling's third-largest casino operator, trailing only the merged Harrah's Entertainment-Caesars Enter-tainment and the combined MGM Mirage-Mandalay Resort Group.
By Las Vegas standards, Penn National, which has headquarters about 60 miles northwest of Philadelphia in Wyomissing, Pa., and began life as small racetrack operator in 1972, wouldn't seem to belong at the table with the industry titans.
Once combined with Illinois-based Argosy, Penn National will control 20,831 slot machines and 2,477 hotel rooms in nine states through 14 casinos, three racetracks and seven off-track betting parlors. MGM Mirage, for example, operates 16,200 slot machines in Nevada.
That number doesn't include slot operations at the company's casinos in Mississippi and Michigan and the nearly equal number it will pick up once it completes its $7.9 billion buyout of the Mandalay Resort Group.
Two other like competitors, Boyd Gaming Corp., with 27,640 slot machines companywide, and Station Casinos, which operates 18,524 slot machines in Nevada, may seem larger. But the companies still trail Penn National's projected revenues.
As for lodging comparisons, the MGM Grand alone has more than 5,000 rooms. Wynn Las Vegas will open this month with more rooms, 2,714, than the combined Penn National will have as a company.
Still, gaming analysts are paying attention to Penn National and believe the company is ready to step up with the industry's most recognizable names.
"Penn National maintains some of the most significant growth opportunities of any company we follow," Merrill Lynch gaming analyst David Anders said. "We continue to believe Penn National represents one of the best growth stories in our gaming universe."
Deutsche Bank gaming analyst Marc Falcone believes the merger with Argosy creates a powerful company in a regionalized market, focusing on enhanced slot-machine offerings and repeat customer visitation.
"Penn National remains one of the most attractive stories in gaming," Falcone said. "The pending Argosy merger is an outstanding transaction for both companies. We believe Penn will be able to extract a significant amount of synergies and new growth opportunities as a result of this combined entity.
"These companies utilize similar operating strategies and their core focus on slots coupled with the diversification benefits should result in a highly visible cash flow stream."
Penn National executives say they don't mind working in relative obscurity.
"We are a completely different entity (than the Las Vegas companies)," Penn National President and Chief Operating Officer Kevin DeSanctis said. "When you look at the markets in which we operate, we're heavily dependent upon the local customer.
"Our customers have a high repeat visitation rate. They come in weekly and sometimes daily. Most of our customers are within an hour drive time of our properties and they don't want a room."
Penn National, DeSanctis said, has never sought national exposure, instead concentrating on a volume-based business while expanding on a smaller scale.
The majority of the company's operations are similar to the locals casino market found in Las Vegas, where slot machine play and food matter most.
When the buyout was announced last November, shares in Penn National jumped 26 percent in one day. They gained as much as 40 percent in value by January and were trading in the $60 price range on the Nasdaq.
The company completed a 2-for-1 stock split early last month and most analysts expect the price run-up to continue. This past week, shares in Penn closed at $30.87.
In 2004, without Argosy, Penn National reported net revenue of $1.1 billion and pretax earnings of $283 million. The company's current market capitalization, available shares multiplied by the price per share, is $2.51 billion.
Penn National is not considered a megaresort operator. The company's largest property is the Hollywood Casino in Tunica, Miss., which has 494 hotel rooms, 1,620 slot machines, 31 table games and reported pretax earnings of $26 million in 2004.
Its largest operation, however, is the Charles Town Races and Slots, a racetrack-casino in Charles Town, W.Va.
The complex draws customers from heavily populated Maryland and Northern Virginia and offers wagering on year-round thoroughbred racing, off-track betting from simulcast races around the country and casino play on almost 3,800 slot machines.
Charles Town had pretax earnings of $114.4 million in 2004 and Penn National is spending $35 million to add more slots, a hotel and other amenities by year's end.
Penn National has been in an acquisition mode since 2000, when the company spent $195 million to purchase two Mississippi properties: Boomtown in Biloxi and Casino Magic in Bay St. Louis.
A year later, Penn National bought Casino Rouge in Baton Rouge, La., and Casino Rama in Ontario, Canada, for $191 million.
After buying Bullwhackers Casino in Black Hawk, Colo., in 2002 for $6.5 million, Penn National spent $599.9 million to buy three Hollywood casinos in Aurora, Ill., Tunica and Shreveport, La. The company later sold the Shreveport property.
"We look at a transaction to provide two critical things to our company: economic growth and geographical growth," DeSanctis said. "A company or casino we're purchasing has to be something that compliments our current operations."
In a recent investors presentation, Penn National officials displayed a pie chart showing the company deriving 35 percent of its total revenues in 2004 from its West Virginia operations.
A second pie chart that added in the six Argosy properties, shows 20.8 percent of all company revenues coming from Illinois casinos, 20.2 percent coming from casinos in Indiana and 18.3 percent deriving from the West Virginia operations.
"We don't want to rely on one casino or one property to drive our revenues," DeSanctis said. "We're clearly a company that is diversified enough that we're not going to be impacted if changes happen in one of our markets.
"Local economic conditions can easily affect one of our properties, as can regulatory action in various states. So that's one reason we strive to have a good geographic mix that fits into our operating structure."
Argosy shareholders, who approved the transaction in January, will receive $47 per share upon the deal's completion. The buyout is still awaits approval from the Federal Trade Commission, which filed a request for additional information in February, and regulators in the three states Penn National will be entering: Indiana, Missouri and Iowa.
Argosy's flagship property is the Argosy Casino in Lawrenceburg, Ind., which caters to the Cincinnati market. The casino, which has 2,248 slot machines, 95 table games and 300 hotel rooms, had pretax earnings of $145.7 million in 2004.
While completing the Argosy transaction, Penn National is also planning for two other growth opportunities expected to take place in 2006.
The company bought the Bangor Downs racetrack in Maine last year for $51 million and awaits licensing approval. The track, which is within 90 minutes driving distance of 295,000 adults, is the only place in the state eligible to operate slot machines. Penn National said it will spend another $74 million to add 1,500 gaming devices.
Meanwhile, Pennsylania's gaming regulators are drafting standards to allow 65,000 slot machines throughout the state.
Preparing for this possibility, Penn National will spend $240 million to develop its Penn National Race Course into an integrated racing and gaming complex with 2,000 slot machines.
Ultimately, the company would like to operate 5,000 machines at the racetrack.
Penn National believes the track, which is within an hour's driving distance of 841,000 adults, will generate $310 million in annual gaming revenue.
Jefferies & Co. gaming analyst Larry Klatzkin said Penn National's expansion plans make the company an attractive investment.
"We like the Argosy acquisition tremendously and believe it is a strong positive," Klatzkin said.
"The expansions combined with the company's significant generation of free cash flow and continuing the leveraging of its balance sheet should leave Penn National in a strong position going forward and ready to take on the Argosy properties."
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