Based on the company’s presentation at the Nevada gaming regulators’ meeting on Jan. 21, Red Rock Resorts’ acquisition of Fertitta Entertainment is to be understood as the internalization of an external manager. How does the $460-million Fertitta Entertainment “internalization fee” compare to those commonly found in REIT internalization transactions?
|REIT internalization fee from 1997 to 2013||Fertitta Entertainment internalization fee|
|As % of acquirer equity||2.7% – 10%||43.0%|
|As % of acquirer’s invested capital||0.9% – 6.0%||14.4%|
|As multiple of manager’s TTM EBITDA||2.9x – 14.0x||NA|
The historical REIT internalization fee figures in the table above are from a September 2014, study of REIT internalization fees by Sherry Cefali and Nick Tarditti of Duff & Phelps, which shows the range of REIT external manager valuations from 1997 to 2013.
The $460-million Fertitta Entertainment internalization fee is much higher compared to these figures:
- $460 million = 43.0% of Station Casinos’ estimated equity of $1.06 billion (as of 11/30/15).
- $460 million = 14.4% of Station Casinos’ estimated invested capital of $3.25 billion.
Three more observations:
- The internalization fee will be paid entirely in cash instead of equity or a combination of cash and equity. Red Rock will pay the $460 million “internalization fee” entirely in cash instead of equity or a combination of equity and cash as has been done in the REIT sector. For example, common shares were used in January 2016 to finalize the internalization of management of Starwood Waypoint Residential Trust, merging them with Colony American Homes inside the larger company known Colony Starwood Homes.
- Some REITs have internalized external managers with no fee. The Duff & Phelps study excludes transactions with no internalization fees. While some REITs have been criticized for large internalization fees, some “have stopped paying their management companies any money to bring them in-house.” In 2008, Healthcare Trust of America was one of the first to “transition into a self-managed company without an internalization fee” and many have followed suit. Philips Edison – ARC Shopping Center REIT waived the internalization fee of its external managers in 2010, and Chamber Street Properties “internalized its management structure, with no separate fee paid” in 2012 before announcing its IPO in 2013.
- The non-insider cost for acquiring Fertitta Entertainment should be closer to $50 million, not $460 million, based on termination provisions in the casino management agreements. The $460 price tag is 8.9x the $51.7 million trailing-twelve-month management fee Fertitta Entertainment received from Station Casinos as of September 30, 2015. According to the Fertitta Entertainment management agreement covering 13 of the 19 Station Casinos properties, termination of the agreement upon sale of the managed properties to a third party would only cost Station Casinos a fee equal to the trailing-twelve-month management fee. See Exhibit “D” Financial Terms of this management agreement, which can be found as Exhibit 10.21 of Station Casinos LLC’s 10-K, filed 3/10/15.
See more of our analysis of the Red Rock Resorts/Station Casinos IPO:
- Download our unauthorized roadshow presentation, “Red Rock Resorts: A Second-Class IPO” here.
- The insiders are cashing out at a high price compared to the company’s estimated equity.
- Growth concerns in the company’s primary Las Vegas locals market and the lack of new development agreements in the tribal gaming market.
- The tax receivable agreement could drain substantial amount of cash out of the company and affect free cash flow.
- The dual-class structure will make public investors second-class shareholders.
- The lack of disclosure regarding the regulatory problems of Deutsche Bank, a 25% current owner.