Why a Penn Pinnacle merger could become the new Caesars

It was back in 2008 that Apollo and TPG combined forces for a leveraged buyout of Caesars, then Harrah’s. The timing was at once horrific and very lucky. It was horrific because the world was already in the midst of its worst recession since 1929. But it was also very lucky because the deal was made on the cusp of the most prolonged period of extremely low interest rates the world has ever seen, enabling Caesars to service its obscene debt load for just long enough to eke out some convoluted deal that kept it going. Without those extremely low rates, no incarnation of Caesars could have possibly survived.

Caesars miraculously made it through by playing a very distorted and frustrating game of money-shuffle. Eventually, after throwing all the dead weight overboard and quite frankly destroying the finances of many of its initial backers in the 2008 deal, Caesars kept going. But consider the following question. What if the next recession is not accompanied with ultra-low interest rates, as was the recession of 2008?

I almost never make unqualified statements. As is the general practice in the financial prognostication world, I pepper my statements with words like “likely” and “probably” and if I’m feeling especially confident I add in a “very” or an “almost certainly”. But here I will make an unqualified absolute statement. The next recession will not by accompanied by falling interest rates. Not a chance.

Penn National Gaming and Pinnacle Entertainment are discussing a merger. The two regional casino firms are already partners in many ways, not the least of which is the fact that Penn’s REIT spinoff Gaming and Leisure Properties (GLPI) owns most of Pinnacle’s real estate assets. It’s not that a merger doesn’t make any sense – it does. This is no AOL-Time Warner nonsense when mergers were taking place for the sake of merging. It’s just that however you crunch the numbers, a merged Penn-Pinnacle will be extremely leveraged at the very time that the world will be on the cusp of the next major recession, this time with rising interest rates instead of falling ones.

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