Although a prominent feature of the casino industry, the days of U.S. gaming companies spinning off their properties into real-estate investment trusts (REITs) may now have passed, according to one leading gaming analyst.

At least one senior analyst with Fitch Ratings Service believes REITs are now looking to be a more risky business structure for the casino industry.

Alex Bumazhny, director of gaming, lodging and leisure research at Fitch Ratings, said a rising interest rate environment is the “principal deterrent to further gaming REIT transactions.”

In a 23-page report, Bumazhny wrote that gaming revenues “are not ideal for supporting the long-term, largely fixed, triple-net leases found in gaming REITs.”

“Additional REIT transactions are less likely due to rising interest rates, high costs, lengthy spinoff process times with uncertain outcomes, cooling activist interest and questionable business rationales,” Bumazhny wrote.

REITs have become a prominent operating structure in the regional gaming industry in recent years.

Since 2013, the assets of 54 regional casinos are now owned by REITs and the trend “likely contributed to higher trading multiples for all regional gaming assets,” Bumazhny said.

The first casino REIT was formed by Penn National Gaming, which spun off 21 of its 29 casinos and racinos and leased them back to the original company through triple-net lease agreements.

Since its creation almost four years ago, Gaming and Leisure Properties (GLPI) — the Penn National REIT spin-off — has since completed more than $5bn in transactions.

The most recent acquisition was announced on March 28, when the company spent $44m to acquire the holding companies for Bally’s Casino Tunica and Resorts Casino Tunica from rival Caesars Entertainment.

When the deal closes by June, Penn National will operate both casinos and lease the underlying property from GLPI for a total annual rent of $9m.

GLPI announced in July 2015 that it had acquired the real estate owned by regional gaming operator Pinnacle Entertainment for $4.75bn in an all-stock deal and would lease the casinos back to Pinnacle.

REITs have existed for more than 50 years in the U.S. after Congress granted legal authority to form the trusts in 1960 as an amendment to the Cigar Excise Tax Extension.

REITs do not pay federal income taxes, but are required to distribute 90 percent of their taxable earnings to shareholders.

In addition to Penn National and Pinnacle, MGM Resorts International announced in October 2015 the creation of REIT to be called MGM Growth Properties in a tax structure that does not include a tax-free spin-off.

Meanwhile, Caesars is asking permission from a federal bankruptcy judge to convert its largest operating division into a REIT as part of a pre-packaged Chapter 11 restructuring.

Boyd Gaming and Las Vegas Sands have also been approached by shareholders about spinning off their properties into a REIT. But both companies have stayed away from changing their corporate structure.

Bumazhny believes it is now unlikely additional gaming REITs will be created or larger gaming companies will sell their assets wholesale to REITs.

“Rising interest rates, which are pressuring triple-net lease REIT valuations, have diluted previously generous multiple arbitrages available to gaming companies looking to spin off their gaming assets to a REIT,” Alex Bumazhny of Fitch Ratings wrote. “Additionally, higher valuations ascribed to gaming assets, possibly in part due to the available option of selling to a REIT, have also diluted the multiple-arbitrage opportunity.”

Other factors that make additional casino REITs less likely include tighter laws governing tax-efficient REIT transactions, and tepid interest from the existing pool of gaming companies in monetizing their assets through a REIT transaction.

Bumazhny also attributed the decline in activity to “waning activist investor interest in realizing value through gaming REIT spins.”

In December 2015, Congress passed tax legislation — the Protecting Americans from Tax Hikes Act (PATH) — to eliminate tax-free structures, such as the Penn National and GLPI deal.

However, Caesars could still create a tax-free REIT because the company submitted a request to the IRS in March 2015, eight months before the deadline.

“We are uncertain whether Boyd Gaming or other larger gaming companies that could be viable REIT candidates have made the deadline,” Bumazhny wrote. “However, we suspect that they have done so in order to preserve optionality.”

The remaining key players in the regional casino sector have been quiet on REITs over the past couple of years.

Instead, Eldorado Resorts recently purchased Isle of Capri, Station Casinos owner Red Rock Resorts has issued an IPO and Boyd has refinanced most of its debt and purchased several assets in Nevada.

“None of these transactions preclude a REIT transaction, but they do show that REITs are not top of mind,” Bumazhny said.


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