Ameristar Analyst Day and St. Louis Market Tour Recap. Investment Highlights: Companies Featured Hold. Sell. Industry Update.

Transcription

1 GAMING Justin T. Sebastiano (212) Industry Update June 20, 2008 Companies Featured Hold Pinnacle Entertainment, Inc. (PNK - $ NYSE) 2007A 2008E 2009E EPS ($) P/E 21.5x NM 45.2x Sell Ameristar Casinos Inc. (ASCA - $ NASDAQ) 2007A 2008E 2009E EPS ($) P/E 13.8x 14.9x 13.1x Ameristar Analyst Day and St. Louis Market Tour Recap Investment Highlights: On Thursday, Ameristar Casinos hosted an analyst day to introduce the new hotel tower at its St. Charles casino. In order to maximize our time spent in St. Louis, we re-visited the legacy casinos in the market and toured Pinnacle's new downtown casino, Lumiere Place, with management. We did not learn anything new during the analyst day but it was nice to see the finished St. Charles hotel product. Management introduced us to the general manager from each of their properties except East Chicago. Moreover, the company glossed over the property in its prepared remarks except to say that its $30 million rebranding effort should be completed on June 24. We were impressed with the St. Charles property. That being said, our thesis has not changed on the stock. We believe Ameristar may breach its senior debt covenants soon after the newly-renovated Horseshoe casino opens. We still believe there is takeover premium in the stock, which is unwarranted in our view. ASCA currently trades at 7.4x our FY08 EBITDA estimate of $333 million. We believe it should trade at 7.0x or $16 a share. As such, we reiterate out Sell rating on shares of Ameristar Casinos. We were impressed with Ameristar St. Charles and Pinnacle's Lumiere Place but less so with Harrah's Maryland Heights. The rooms at Ameristar and the Four Seasons at Lumiere Place rival those found on the Las Vegas Strip but they seemed a bit out of place in the St. Louis market. Most of the casino players that we spoke with at Harrah's and Ameristar do not care about the nongaming amenities and really do not see much of a difference between the two properties. While we disagree with the latter view, it begs the question, did Ameristar build a Ferrari in a Mustang market? Pinnacle's River City casino (scheduled to open mid-2009) will likely take share from all the casinos in the market, in our view. Pinnacle and Harrah's have curbed their marketing budgets somewhat while Ameristar continues to give away 90% of its new hotel tower. The Disclosure section may be found on pages 5-7 of this report. The Valuation section may be found on page 6 of this report.

2 On Thursday, Ameristar Casinos hosted an analyst day to introduce the new hotel tower at its St. Charles casino. In order to maximize our time spent in St. Louis, we re-visited the legacy casinos in the market and toured Pinnacle's new downtown casino, Lumiere Place, with management. Ameristar Analyst Day We did not learn anything new during the analyst day but it was nice to see the finished St. Charles hotel product. We will say, though, that the mood was considerably more upbeat since the management changes that occurred nearly three weeks ago. Management continues to look for acquisitions that would geographically diversify the company but the high cost of capital remains prohibitive. Management introduced us to the general manager from each of their properties except East Chicago. Moreover, the company glossed over the property in its prepared remarks except to say that its $30 million rebranding effort should be completed on June 24. The total amount invested in East Chicago is $705 million ($675M acquisition price + rebranding). We believe the likelihood of Ameristar achieving its stated 15% required return on this investment is slim to none. The property would have to generate nearly $106 million in EBITDA to achieve this goal; we estimate it will do a little more than half that, which may even be aggressive given the August/September opening of the newly-renovated Horseshoe Hammond casino. The Horseshoe expansion was left out of the discussion. We were impressed with the St. Charles property (we go into detail later in this note). That being said, our thesis has not changed on the stock. The strong gaming gains that we saw in May, likely due to a favorable calendar this year, have not carried into June. We believe that the ever-increasing price of gas (national average of $4.13 for the week ended 6/16) has also taken a toll on gaming revenue. Increased competition, namely the newly-renovated Horseshoe Hammond, will likely add to Ameristar's troubles. Indeed, currently Ameristar is very close to breaching its senior debt covenants. The company is required to maintain a senior debt to EBITDA ratio of no more than 5.25x; it now stands at 5.10x. If Horseshoe does to Ameristar what the Four Winds tribal casino has done to Boyd Gaming's (BYD - $ NYSE; Hold) Blue Chip Casino (gaming win has fallen over 29% since the Four Winds opened), then we cannot see how Ameristar won't breach the senior debt covenant. We still believe there is takeover premium in the stock, which is unwarranted, in our view. We believe Ameristar is up for sale, we've never thought otherwise. However, this is not 18 months ago when private equity firms and public companies were throwing huge multiples on second-rate casino assets. The credit window, for all intents and purposes, remains closed. We believe the cost of capital is just too expensive to make a return on an acquisition desirable. Consequently, many casino operators have curbed their appetite for large acquisitions. This also rings true for the possibility of private equity firms to make an offer, in our view. We have also seen casino owners tone down and/or postpone development projects because the cost of capital now exceeds the potential return of said projects. ASCA currently trades at 7.4x our FY08 EBITDA estimate of $333 million. We believe it should trade at 7.0x or $16 a share. As such, we reiterate our Sell rating on shares of Ameristar Casinos. Property Reviews We were impressed with Ameristar's St. Charles and Pinnacle's Lumiere Place but less so with Harrah's Maryland Heights. The rooms at Ameristar and the Four Seasons at Lumiere Place rival those found on the Las Vegas Strip but they seemed a bit out of place in the St. Louis market. Rooms at HoteLumiere are nice but 2 MORGAN JOSEPH & CO. INC.

3 a notch or two below those offered at Ameristar and the Four Seasons. To be fair, we did not see the rooms at Harrah's, but many of our contacts said they pale in comparison to other room product in the market. Looking at the casino floors, we believe Lumiere Place and Ameristar are the clear market leaders. Lumiere plans to add approximately 100 slots (mostly Aristocrat machines) and 5 table games to meet the increasing demand. Bookings for meeting and banquet space have increased thanks to strong reviews of recent events and the food and beverage offerings have picked up since the May opening of the tunnel that connects the casino to the entrance to the Edward Jones Dome. Ameristar's casino product is head and shoulders above what Harrah's has to offer, in our view. We mention the two together because they are located roughly five miles apart. Although we believe Ameristar bests Harrah's in every facet of its game, it appears that customers do not make such a distinction. We found that almost all of the players that we spoke with at both Harrah's and Ameristar play at both casinos. We asked what made them decide to play at one or the other and the most common response was "better comps" or "playing lucky." Most of the customers stated that they do not care about the nongaming amenities and really do not see much of a difference between Harrah's and Ameristar. While we disagree with the latter view, it begs the question, did Ameristar build a Ferrari in a Mustang market? The Alton Belle, owned by Penn National (PENN - $ NASDAQ), is located just over the Missouri state border in Illinois. This is an old-school, three-tiered riverboat that benefits from its location and the absence of a loss limit. The Casino Queen located in East St. Louis, Illinois, is for pure gamblers. One gentleman we spoke to said that he goes to Harrah's to get comped food but he goes to "the Queen" to gamble. The President, owned by Pinnacle, is located one block from Lumiere Place. Prior to our visit, the Mississippi River had risen to a level that made entering the President impossible. The facility remains closed today. We actually think this benefits Pinnacle because we believe the President was breaking even at best. It appears that many of the President's customers are taking their gaming business to Lumiere. New Competition - River City Pinnacle's River City Casino, located in Lemay County south of Downtown St. Louis, is scheduled to open in mid It plans to feature a 90,000 square foot casino floor with 3,000 slot machines and 60 table games. During our tour of Lumiere, Pinnacle management stated that 24-28% of the players in the Lumiere database reside in zip codes close to the River City site. As such, we believe there may be significant cannibalization when River City opens. We do not believe Harrah's and Ameristar will be spared either. River City is roughly 30 miles from Harrah's and Ameristar, which is certainly close enough for gamers to make the trip. We believe River City may negatively impact both properties' top lines by 10-15%. Promotional Environment Pinnacle made it no secret that when Lumiere opened on December 19, 2007, that it would heavily promote the property and likely continue to do so well into 2Q08. Since the opening of both hotel products and the tunnel (Lumiere Link), Pinnacle has since curtailed its hefty advertising budget, though it is still likely above what its normal run rate will be. Since the beginning of 2007, Ameristar has focused more on EBITDA than on market share, a move we applaud. However, since the opening of its hotel in St. Charles, the company has increased its promotions and advertising budgets. Indeed, management has stated that it comps roughly 90% of the new hotel tower. 3 MORGAN JOSEPH & CO. INC.

4 It is well known across the gaming industry that Harrah's aggressively promotes their properties, frequently to the point of sacrificing EBITDA for market share. However, since the company went private in the beginning of the year, Harrah's has curbed its enthusiasm somewhat. Missouri Loss Limit At every casino we visited, we asked about the possibility for the removal of the $500 loss limit. The answer we consistently received was that they were "cautiously optimistic." Both Ameristar and Pinnacle are lobbying for the repeal of the loss limit. The referendum to remove the loss limit should be placed on the ballot for the November general election. We have been hearing about the repeal for the past 10 years, so forgive us for not handicapping the outcome. We will say though that this time around appears more favorable to the casinos because voter turn-out historically is higher during a presidential election. Anti-gamers rarely miss a vote that would benefit casinos in anyway while those that are pro-gaming or indifferent tend to be less passionate and thus more prone to skip a vote. The presidential election will likely bring these voters to the polls. June Gaming Revenue The positive momentum that occurred in the month of May has not carried into June, according to the casino personnel who we spoke with over the past three days. The month of May benefited from an extra Friday and Saturday compared to May 2007 while the month of June has one less Friday and Saturday than in June The unfavorable calendar combined with the increasing price of gas and food will likely keep a lid on growth in gaming revenue this month. Additionally, before the first economic stimulus checks were disbursed in late April, many casino operators boasted that they expected a large boost in gaming revenues this summer from the government handout. On our trip, not one operator mentioned the checks or the likely positive impact they may have on gaming revenue. 4 MORGAN JOSEPH & CO. INC.

5 Required Disclosures Rating and Price Target History for: Ameristar Casinos Inc. (ASCA) as of /09/06 I:Buy:$28 01/26/06 02/24/06 Buy:$28 04/21/06 07/24/06 Buy:$23 10/06/06 Buy:$29 12/14/06 Buy:$37 01/15/08 Buy:$27 03/25/08 Sell:$ Research Coverage Assumed by Justin Sebastiano on March 25, Rating and Price Target History for: Pinnacle Entertainment, Inc. (PNK) as of /09/06 I:Buy:$33 02/22/06 Buy:$34 03/15/06 Buy:$38 04/17/06 Buy:$37 04/24/06 05/19/06 Buy:$38 01/05/07 Buy:$35 02/15/07 Buy:$39 05/09/07 Buy:$36 11/07/07 Buy:$40 03/12/ Research Coverage Assumed by Justin Sebastiano on March 12, MORGAN JOSEPH & CO. INC.

6 Rating and Price Target History for: Boyd Gaming Corp. (BYD) as of /09/06 I:Buy:$57 04/26/06 Buy:$62 07/26/06 Buy:$48 08/16/06 Buy:$50 10/27/06 Buy:$47 01/19/07 03/06/07 Buy:$56 03/12/ Research Coverage Assumed by Justin Sebastiano on March 12, Rating and Price Target History for: Penn National Gaming, Inc. (PENN) as of /12/06 I: 12/18/06 Buy:$44 02/07/07 Buy:$52 06/11/07 08/13/07 Buy:$67 02/26/08 D:Buy:$ Price Target Our 12-month price target on ASCA shares is $16. Valuation Methodology In arriving at our fair value estimate for our casino operator universe, we utilize our standard sum-of-the-parts Enterprise Value/EBITDA methodology. We apply to each property an appropriate multiple based on growth prospects, competition, and general return characteristics. Risk Factors Risks to the achievement of our price target and fundamental strength of the company's operations include, but are not limited to, a number of factors: 1) The cost of capital falls, making returns on an acquisition of Ameristar more favorable; 2) Missouri repeals the $500 loss-limit, which would add roughly $2 a share to our price target; and 3) the general economy improves, thus increasing consumer confidence and in turn, discretionary spending, which would likely translate into increased gaming revenue in many of 6 MORGAN JOSEPH & CO. INC.

7 Ameristar's markets. I, Justin Sebastiano, the author of this research report, certify that the views expressed in this report accurately reflect my personal views about the subject securities and issuers, and no part of my compensation was, is, or will be directly or indirectly tied to the specific recommendations or views contained in this research report. Research analyst compensation is dependent, in part, upon investment banking revenues received by Morgan Joseph & Co. Inc. Morgan Joseph & Co. Inc. intends to seek or expects to receive compensation for investment banking services from subject companies within the next three months. Investment Banking Services/Past 12 Mos. Rating Percent Percent BUY [B] HOLD [H] SELL [S] Meaning of Ratings A) Buy means reasonable outperformance relative to the market over months. B) Hold means market-type risk adjusted performance; potential source of funds. C) Sell means expected to underperform the market. Other Disclosures The information contained herein is based upon sources believed to be reliable but is not guaranteed by us and is not considered to be all inclusive. It is not to be construed as an offer or the solicitation of an offer to sell or buy the securities mentioned herein. Morgan Joseph & Co. Inc., its affiliates, shareholders, officers, staff, and/or members of their families, may have a position in the securities mentioned herein, and, before or after your receipt of this report, may make or recommend purchases and/or sales for their own accounts or for the accounts of other customers of the Firm from time to time in the open market or otherwise. Opinions expressed are our present opinions only and are subject to change without notice. Morgan Joseph & Co. Inc. is under no obligation to provide updates to the opinions or information provided herein. Additional information is available upon request. Copyright 2008 by Morgan Joseph & Co. Inc. Morgan Joseph & Co. Inc. 600 Fifth Avenue, 19th Fl New York, NY Tel Fax Sales and Trading New York Tel Fax Pittsford Tel Fax MORGAN JOSEPH & CO. INC.