By Yaser Anwar, CSC of Equity Investment Ideas
On October 2 06, HET received a proposal from Apollo and Texas Pacific Group to acquire all of HET’s outstanding common stock for $81 per share in cash, which the BOD quickly rejected & then were offered $83 per share.
Penn National Gaming is considering a bid for HET. The details indicate that Harrah’s has been taking its time reviewing the Apollo/TPG bid in order to encourage competing bids. The report also mentions that D.E. Shaw would join PENN and Lehman Brothers and Wachovia will provide financing.
HET has been growing through acquisitions for almost 6 years now. From the acquisition of Showboat ’98, Rio Hotel and Casino in ’99, Players Int. ’00, Harveys Casinos ’01, Horseshoe Gaming ’04 & Cesar’s Entertainment in ’05. Frankly I’m a little surprised PENN making a bid for HET, since PENN is a smaller company.
Let’s analyze the important licensing troubles that need to be paid attention to:
a) Transaction & Interest Structure: The way D.E. Shaw’s equity interest is structured for the transaction could affect licensing issues, similar to those faced by Apollo/TPG.
b) The License Overlaps: There are two license ownership restrictions in Indiana, which would mean that the combined entity would need to sell one of its three licenses. PENN & HET will own five of the nine licenses in Illinois, with three in Chicago market and four of the seven if including the Northwest Indiana riverboats.
** Investors need to remember that Illinois does not have economic concentration statutes.
In Pennsylvania, a company is limited to only one license, which means that one property would be sold. Lastly, PENN & HET, if merged, would own 4 of the 10 casinos in the Tunica/Lula market in Mississippi.
Even though HET was up today, HET is trading 5 points below the $83 per share acquisition price proposed by the aforementioned companies.
The other reasons for this discrepancy are:
1) Whether HET directors will favor the proposed transaction
2) The prospect of a lengthy regulatory review process and also
3) HET’s BOD looking for a higher bid.
If either of the deal goes through, expect it to close around third quarter of 07.
How can you make money? Similar to what I recommended for Freeport Mcmoran & PD, there are three ways to play this: 1) Buy call options in HET & PEN (call in PENN if you believe it won’t go through, as this acquisition will be accretive to its earnings), won’t be surprised if they are trading at a premium, or derivatives if you’re an institutional trader such as CDS for PENN’s senior subordinated notes (which according to word on the street will be kept outstanding)
2) Short PENN and Long HET’s stock as a paired hedge trade, if you believe PENN will be successful 3) Just buy HET’s stock because they will be trading high, closer to acquisition price if merger goes through.
Remember there is quite a significant risk, hence the arbitrage opportunity.
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