Sunday, December 14, 2014

Tropicana Entertainment is Still Cheap

It's been a little over a year since I've discussed Tropicana Entertainment on the blog and a lot has happened during that time, but you wouldn't know it if you look at TPCA's stock chart which has done almost nothing for two years now.  The illiquidity of the shares is a good mental exercise, it's the equivalent of investing in a private company and you need to look through the stock price feedback loop and analyze the results to determine how the company is really doing.  I've discussed Tropicana in the past (here and here), but to briefly recap it's the Carl Icahn controlled gaming company that emerged from bankruptcy in 2010.  The company owns 7 casinos mostly in drive up markets across the United States and a small temporary casino located in Aruba.  At this point the company is substantially undervalued as moves they've made are starting to pay off and troubles in the industry could yield future acquisition opportunities.

Atlantic City
Atlantic City has been a mess for years now, the root of the problems stems from increased competition along the east coast, particularly starting in 2006 when the first casino opened in Pennsylvania.  Previously Pennsylvania residents would travel across the border and spend money in Atlantic City casinos, now Pennsylvania has passed New Jersey to be the second largest gambling revenue state behind Nevada.  Maryland has a bunch of new casinos opening up too and Massachusetts just granted a couple casinos licenses, competition is not going to let up anytime soon, and thus the Atlantic City market has been forced to shrink dramatically.  We started 2014 with 12 casinos in Atlantic City, 4 casinos have closed so far (Trump Plaza, Revel, Showboat, and Atlantic Club) and the Trump Taj is likely to make it 5 when it finally shuts its doors in the next month or two (Icahn is Trump Entertainment's largest creditor).

The decreased competition has increased foot traffic at Tropicana's flagship Atlantic City casino and resort.  The company made a savvy purchase of Atlantic Club's patron database and gaming equipment that has led to increased slot customer volumes (the most predictable kind of gaming revenue).  While overall Atlantic City gaming revenue declined 9.3% across the city, Tropicana's casino revenues were up $21 million in Q3 2014 or 33% compared to Q3 2013.  New Jersey has also approved the use of $18.8 million in CRDA deposits (otherwise basically restricted cash) and $4.8MM in grant money through the New Jersey Economic Development Authority to invest in the Atlantic City casino, all in, Tropicana is going to spend nearly $40MM upgrading the property while weaker players have been putting off capex and exiting the market.  Previously seen a source of risk, the Tropicana Atlantic City has the potential to provide continued upside surprises as the AC market rebalances itself.

Another piece of good news happened this past January when the company received $32MM in cash as part of their property tax dispute with the city, previously it was going to be in the form of annual tax credits going out to 2017.  A lot of this money will go to upgrading the Atlantic City property, but it also skews the first quarter results so keep that in mind when running your own numbers. 

Real Estate Value
Most gaming companies have extensive real estate holdings, and in today's market that means activist pressure to re-evaluate capital structures and spinoff the real estate into a REIT.
A REIT conversion is not an option for Tropicana (but maybe a sale leaseback?) as Icahn's controlling position would violate REIT ownership rules (no one can own more than 10%), but none the less exposes the value in their real estate and signals M&A activity in the sector.  Tropicana has a flexible balance sheet, with net debt of only 1x EBITDA, Tropicana has the ability to leverage up and potentially buy up weaker competitors or end up buying the operating casinos after they've split off the real estate.  As part of these REIT conversions, each company will be evaluating their casino portfolios and looking to sell assets that don't meet their new strategy for one reason or another.  I could see Tropicana as part of it's rollup strategy and strong balance sheet being a natural acquirer in 2015.

In addition to owning most of their casinos, Tropicana also owns some other real estate assets including the two luxury hotels in St. Louis that were part of their Lumiere purchase, the HoteLumiere and the Four Seasons, the replacement cost is likely in the $150-200MM range for the combination of the two.  They also own "The Quarter" adjacent to their Atlantic City casino, a 200,000 square foot Havana-themed mixed retail development featuring shopping, restaurants, nightclubs and an IMAX theatre, the development cost $285MM to build in 2004, even if its worth just a fraction of that, its still significant when compared to Tropicana's $520MM enterprise value.

The best comparable private market value transaction is still the December 2012 purchase of Ameristar by Pinnacle Entertainment for $2.8 billion including the assumption of debt for a 8.4x EBITDA multiple.  But Icahn Enterprises (IEP) makes it a little easier coming up with a value by publishing a quarterly NAV estimate which gives a valuation for Tropicana at 7.5x EBITDA, about a turn lower than it's larger more liquid peers which seems appropriate.
At 7.5x EBITDA, Tropicana would be worth $27 per share, or about 80% higher than the $15 its trading for today.

Of course, we're tied to the hip with Icahn (plus its only a small fraction of IEP) as minority investors and might not see that valuation unless there's a liquidity event.  But I also think there's plenty of potential for additional upside, we might start to see improved wage growth in 2015, and in combination with lower gas/energy prices should increase discretionary incomes in Tropicana's middle class demographic market.  It might be a stretch, but just maybe with the economic recovery picking up steam, states and municipalities budget's could improve enough to not turn to casinos revenue to plug holes and restore some sanity to the competitive landscape.  Even if you have a more cynical view of the industry landscape, Tropicana's valuation provides a nice margin of safety with the benefit of having Carl Icahn, an experienced gaming investor, making the capital allocation decisions and hopefully unloading it at a cyclical top.

Disclosure: I own shares of TPCA


  1. One last additional item that a reader pointed out to me, the latest 10-Q (page 20) had some commentary below on the $211.1MM deferred tax asset potentially coming onto the balance sheet:

    "In accordance with FASB ASC Topic 740, Income Taxes, based upon the level of historical book and tax operating losses, the Company continues to maintain a deferred tax valuation allowance against its deferred tax assets through September 30, 2014. The Company, however, has experienced improved earnings trends and has had cumulative net book income for 2012 and 2013. The nine-month period ended September 30, 2014 has continued with positive earnings. Additionally, current market conditions in Atlantic City, New Jersey, a location in which the Company derives a significant portion of its revenues, have been volatile, but the Company has currently been able to meet its income projections. If such earnings trends in this volatile market continue, and current expectations for future taxable income are met, the Company is likely to release the valuation allowance on all or a significant portion of its net deferred tax assets in the near term, perhaps as early as the fourth quarter of 2014."

  2. Interesting idea and good writeup thanks for sharing. A couple concerns I have are 1. Icahn as majority certainly could put himself in position to benefit at the expense of the minority. I don't know whether this has happened in the past but it wouldn't surprise me 2. I don't think the secular decline is over in AC. There's plenty of competition already and the options are growing. Internet gaming could speed the decline and casinos in neighboring states will slow tourism. There's a significant risk that revenues melt away the perceived margin of safety.

    On the other hand, Trop AC does seem relatively strong compared to other casinos in the city. Maybe the washout continues and bankruptcies + consolidation strengthen the Trop's position locally. Also wanted to point out this interesting battle over Trump Taj in AC:

    Icahn is ruthless and cares only about winning (and $), so maybe he takes minority shareholders along for the ride to profits.

    1. 1) Certainly a possibility and I'm sure there's a time or two that it's happened in the past or there's been a perception that minority shareholders didn't get a fair shake with Icahn, but I think the current price more than reflects that possibility. Tropicana is only about 3-4% of IEP, yet Icahn and his team spend a fair amount of time discussing it on calls, presentations, annual letters. I think the gaming industry is a personal favorite of his and he enjoys playing the boom and bust cycles. Given his history with gaming I feel pretty comfortable going along for the ride.

      2) I do think there's fine balance between competitors dropping out and then just complete blight and misery on the Broadwalk. While closing the Trump Taj Mahal would probably redirect some customers to Tropicana's casino, it might be harmful in the long run, more unemployment, more empty white elephants, etc. I also think it's important to keep in mind that Tropicana is a lot more than just Atlantic City, their Evansville casino is a great cash cow and the Lumiere purchase helped balance the revenue mix too.

      Thanks for reading and commenting.

    2. Thx for the article - On a diff note, was wondering if you looked at AINC? Looks very interesting in terms of option value.

      Happy Holidays!

    3. Thanks and I'll take a look at AINC soon, never quite got around to looking at that spinoff. What's the basic thesis?

    4. Mgmt Co with long term contracts with two reits, AHP and AHT. Management fee based upon total EV and performance fees based upon outperforming peer group's tot shareholder return; plus ownership of a hedge fund (in process of being launched); So lots of ways to get earnings stream; structured in a way to limit shares O/S and management been buying shares all the way to $130; similar to AAMC except that AAMC crashed and burned as it was tied with Ocwen, a regulatory nightmare; AINC tied with hotel REITs that are in an unregulated biz. Hope this helps.

  3. Anyone know what to make of the following from the 10K?

    "During 2014, we recognized one-time gains of $52.7 million related to the settlement of certain predecessor related claims."

    1. I had the same question and have asked investor relations without luck so far. Other than that and the DTA coming on balance sheet, what stuck out to me was the performance of Lumiere, it was basically breakeven in 2014, would be curious to know what's the operational issue? Hopefully it just requires a bit of patience in stabilizing ownership and management, re-engaging customers, etc.

    2. My take is that the overall St. Louis casino market was weak last year. With lower gas prices and unemployment levels I hope it will do better in 2015 (after the unusally cold weather passes).

      Ichan could use a win since IEP lost money last year. Selling TPCA's real estate to a REIT like Gaming and Leisure Properties might do the trick.

      Also, it looks like Icahn is going to take control of the Trump Taj Mahal in Atlantic City. My guess is that, one way or the other, this will become part of TPCA.

      After doing more research: I still have no idea what the heck is going on with the predecessor related claims.

    3. I don't see a sale of the real estate as much of a possibility, but potentially all the REIT conversions and CZR restructuring might lead to other gaming players putting assets up for sale? TPCA still has plenty of acquisition capacity and needs to use up their NOL before Icahn would sell the entire company. Still a multi-year story that requires plenty of patience.