Fitch: Caesars' $610MM Harrah's St. Louis Sale a Credit Positive

Caesars Entertainment Corp.'s (Caesars) announced $610 million sale of Harrah's St. Louis to Penn National Gaming (Penn) will improve Caesars' liquidity profile, a development that Fitch Ratings views as a credit positive to Caesars' ratings. The sale is expected to close during second-half 2012.

The proceeds can help fund the sizable free cash flow (FCF) drain at Caesars Entertainment Operating Company, Inc (CEOC; OpCo) in 2012 and 2013. Additionally, it will allow Caesars to more aggressively reinvest capital into its existing properties or pursue higher return investments. Alternatively, Caesars can repurchase debt.

The liquidity benefit outweighs the following concerns:

--the loss of Harrah's St. Louis's EBITDA (just under $80 million per Penn's disclosed sale multiple of 7.75x), which will immediately have a negative impact on OpCo's FCF;

--the increase in OpCo's overall gross leverage by about 0.3x to 13.1x if proceeds are used to paydown debt and by 0.7x to 13.5x if proceeds are retained. However, net leverage through the senior secured debt will be reduced slightly as long as cash remains on the balance sheet or Caesars uses proceeds to retire first lien debt. The latter point is important since Caesars' main maintenance covenant is based on net senior secured leverage.

Covenant Restrictions with Respect to the Proceeds:

CEOC's credit agreement and first-lien indentures permit Caesars to spend asset sale proceeds on capital expenditures within 15 months of receipt. Caesars is also permitted to pay down the term loans maturing 2015 or repurchase/call first lien notes (11.25% notes are callable at 105.625 starting June 2013). A covenant in the June 2009 credit agreement amendment limits first lien note repurchases to roughly $210 million.

Fitch believes reinvestment of proceeds in Caesars' business is the more likely scenario. In terms of FCF, the sale would be somewhat analogous to a debt issuance at roughly 12%, given the $80 million of EBITDA less roughly $5-$7 million of annual maintenance capex at the property, relative to the $610 million sales proceeds. The 2015 term loans can be addressed much more cost effectively through first lien note issuance (current yield on the first line notes is around 8.5%). Additionally, the 11.25% notes do not mature until 2017.

FCF Impact:

Proforma for the transaction, Fitch expects OpCo's FCF to be roughly negative $500 million in 2012 and negative $400 million in 2013. This assumes the sale proceeds are not used to repurchase or retire debt and does not count Project Linq spending, which was largely pre-funded with an earlier financing. Fitch's base case incorporates negative FCF for several years, although it is reduced to more manageable levels (deficits of $50 million -$100 million) by 2015-2016.

Fitch has cited asset quality deterioration as a concern for Caesars' ratings. While the transaction reduces FCF by as much as $75 million (less if proceeds are used to retire debt), Fitch has greater confidence in Caesars' ability to reinvest in its properties and remain competitive in key markets in the near term. More importantly, the liquidity injection provides the OpCo with additional time to get to FCF positive. Fitch believes this is attainable within a four-to-six year timeframe (most likely after the 2015 maturity wall). The OpCo swap agreements mature in January 2015 and have an estimated $150 million - $165 million drag on the FCF in the interim.

Rating Guidance:

Fitch does not have '+/-' indicators at the CCC rating level (Caesars' and OpCo's IDRs are at 'CCC') so the next move up would be to 'B-'. While Fitch is more positive about Caesars' probability of default following this transaction, credit quality remains too weak for Fitch to consider an upgrade to 'B-' or Outlook revision to Positive at this time.

Factors that may precipitate an Outlook revision to Positive may include:

--Fitch gaining greater confidence in OpCo's path to being FCF positive;

--OpCo's ability to access capital markets beyond the first-lien;

--a refinancing or amendment of the CMBS debt at favorable terms;

--continued strength in the Las Vegas market and better than expected performance in weaker markets, such as Atlantic City;

--legalization of online gaming;

--a sizable equity issuance(s).

A Positive Outlook would indicate that there is a strong possibility of an upgrade within a one-to-two year timeframe.

Since Caesars' is now public, there is a chance that the company may attempt to execute debt-for-equity exchanges. This scenario could be considered an event of default, depending on the terms and circumstances, per Fitch's distressed debt exchange criteria.

Caesars' long-term ratings are as follows:

Caesars Entertainment Corp.

--Long-term IDR 'CCC'.

Caesars Entertainment Operating Co.

--Long-term IDR 'CCC';

--Senior secured first-lien revolving credit facility and term loans 'B/RR2';

--Senior secured first-lien notes 'B/RR2';

--Senior secured second-lien notes 'C/RR6';

--Senior unsecured notes with subsidiary guarantees 'C/RR6';

--Senior unsecured notes without subsidiary guarantees 'C/RR6'.

Chester Downs and Marina LLC (and Chester Downs Finance Corp as co-issuer)

--Long-term IDR 'B-';

--Senior secured notes 'BB-/RR1'.

Caesars Linq, LLC & Caesars Octavius, LLC

--Long-term IDR 'CCC';

--Senior secured credit facility 'B-/RR3'.

Additional information is available at 'www.fitchratings.com'.

Applicable Criteria and Related Research:

--'Corporate Rating Methodology' (Aug. 12, 2011);

--'Parent and Subsidiary Rating Linkage' (Aug. 12, 2011);

--'Recovery Ratings and Notching Criteria for Nonfinancial Corporate Issuers' (May 12, 2011);

--'Distressed Debt Exchange' (Aug. 12, 2011);

--'Caesars Entertainment Corp. Full Rating Report' (March 23, 2011);

--'U.S. Gaming Operators' Recovery Models' (March 23, 2011);

--'2012 Outlook: Gaming -- Market Exposure the Differentiating Factor' (Dec. 13, 2011);

--'Fitch Rates Chester Downs' Sr. Secured Notes 'BB-/RR1'; Affirms IDR at 'B-' (Jan. 25, 2012);

-- Fitch Rates Caesars' Proposed Sr. Secured Notes 'B/RR2'; Affirms IDR at 'CCC' (Feb. 7, 2012).

Applicable Criteria and Related Research:

Distressed Debt Exchange -- Global Cross-Sector Criteria - Amended

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=649249

Caesars Entertainment Corp.

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=612585

U.S. Gaming Operators' Recovery Models

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=613365

2012 Outlook: Gaming -- Market Exposure the Differentiating Factor

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=658770

Corporate Rating Methodology

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=647229

Parent and Subsidiary Rating Linkage

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=647210

Recovery Ratings and Notching Criteria for Non-Financial Corporate Issuers

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=677740

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