Whom to Bet On Amidst Ugly Casino Battle

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Japanese billionaire Kazuo Okada is engaged in a legal battle and power struggle with casino mogul Steve Wynn. Since this rift could negatively impact shareholders, investors should demand a discount for this dirty laundry. Unfortunately, this drama is not priced into Wynn Resorts (NASDAQ: WYNN) shares. Investors should wait for a price decline before considering this stock.

Friends Turned Enemies

Mr. Okada has recently filed a four page open letter to shareholders with the U.S. Securities and Exchange Commission. This letter blames the Wynn Resorts falling market prices on shareholders losing confidence in Mr. Wynn’s management. Aruze USA, a company owned by Okada, has also nominated two people to the board of directors of Wynn Resort. The Okada camp has campaigned to support these nominees in a letter sent to Wynn Resort’s shareholders.

The dispute between Mr. Wynn and Mr. Okada is very public and very personal. Mr. Okada was once Mr. Wynn’s business partner and friend. He was once the largest owner of WYNN stock, and is now fighting how the company forced him to sell his shares at a low price. Wynn Resorts utilized a clause which allows the firm to cut ties with business partners which behave unscrupulously. Wynn Resorts used Mr. Okada’s allegedly improper payments to gambling regulators overseas as dirty behavior which triggered the liquidation clause.

Okada, who lives in Hong Kong and has so far resisted coming to the U.S., has been court ordered to attend a deposition on September 18th in Las Vegas, Nevada. This is a tactical victory for Wynn because depositions can define a case. Wynn faces other challenges to his absolute control of the company: his ex-wife wants to sell her 10% stake in the company, and the U.S. Securities and Exchange Commission are investigating a recent $129 million donation to the University of Macau. Wynn Resorts’ board of directors has stated that Okada was unstable as a controlling shareholder and claimed that he made various payments and gifts to officials in the Philippines where he is currently building a casino resort. The deposition is a result of Okada trying to gain access to corporate files that are related to the company's attempts to obtain a casino license in Macau.

Okada is attempting to place two board members on Wynn Resorts’ board of directors, claiming that the existing board did nothing to stop Mr. Wynn from “questionable actions.” Okada filed suit in March of 2012 to challenge his forced sale of his share in the company. Okada, a Japanese businessman stated that he would nominate Jonathan Macey, a Yale law processor and Fredric Reynolds, former CBS (CBS) chief financial officer for Wynn Resorts board. The board's annual meeting is scheduled to be held on November 2nd. Okada has used his company Universal Entertainment to file suit, claiming $140 million in damages, claiming that Wynn's actions caused Universal’s stock to fall, a loss of new business opportunities, and damages to his reputation. Okada and Wynn publicly split in January when Okada filed a lawsuit against Wynn claiming he blocked access to financial documents regarding a company donation to the University of Macau.

The latest lawsuit, filed on August 28th regarding Wynn's attempts to damage Okada's company Universal Entertainments (UETMF), and Okada's credibility and reputation has its roots in the divorce Steve and Elaine Wynn in 2010. The divorce resulted in Wynn loosing ownership of nearly half of his stock in the company, and left Okada's company Aruze USA as the largest shareholder. When Okada asked about a $135 million donation from Wynn Resorts to the University of Macau's development foundation, Wynn retaliated by eliminating the risk of a confrontation from the board of directors. The pledge was made at the same time that Wynn Resorts was attempting to gain a gaming license for a casino in Macau, and the SEC are now reviewing the donation for a possible violation of the Foreign Corrupt Practices Act. The Nevada Gaming Commission is also looking into the donation because of six shareholder lawsuits against Wynn Resorts.

A website that is sponsored by Universal Entertainment and Aruze USA has been created in order to keep the public informed about the legal disputes between these two Okada-owned companies and Wynn Resorts. It states that Azure USA was a founding investor in Wynn Resorts and currently owns approximately 20% of stock in Wynn Resorts, which makes them the largest shareholder. Kazuo Okada is the director, and chairman of Universal, and also the current director of Wynn Resorts. The legal disputes are the attempt to force Aruze to sell its shares back to the company and to remove Okada from his position as director of the company. The website also states that Wynn resorts forced Azure to redeem 24 million shares in the company at a 30% discount to the market prices. The myriad lawsuits between Wynn and Okada are now going before the Nevada State Court.

There could be ripples from this courtroom drama. If you were a lender, a landowner, or a construction company, would you worry about your reputation if you worked with businesspeople who make headlines in a bad way? This reputation risk may make competing casino companies more attractive for counterparties to work with.

Valuation Considerations

Would you sell insurance on a burning building? Since the control and legal issues facing Wynn Resorts are substantial, investors should demand a discount (as compared to the firm’s peers) before investing.

<table> <tbody> <tr> <td> <p><strong>Ticker</strong></p> </td> <td> <p><strong>Company</strong></p> </td> <td> <p><strong>P/E</strong></p> </td> <td> <p><strong>P/S</strong></p> </td> <td> <p><strong>P/B</strong></p> </td> <td> <p><strong>P/FCF</strong></p> </td> <td> <p><strong>EPS growth next 5 years</strong></p> </td> </tr> <tr> <td> <p>(CZR)</p> </td> <td> <p>Caesars Entertainment</p> </td> <td> <p>N/A</p> </td> <td> <p>0.1</p> </td> <td> <p>1.71</p> </td> <td> <p>N/A</p> </td> <td> <p>N/A</p> </td> </tr> <tr> <td> <p>(LVS)</p> </td> <td> <p>Las Vegas Sands</p> </td> <td> <p>26.49</p> </td> <td> <p>3.66</p> </td> <td> <p>4.28</p> </td> <td> <p>56.09</p> </td> <td> <p>24.3%</p> </td> </tr> <tr> <td> <p><strong>(MGM)</strong></p> </td> <td> <p><strong>MGM Resorts</strong></p> </td> <td> <p><strong>N/A</strong></p> </td> <td> <p><strong>0.59</strong></p> </td> <td> <p><strong>0.94</strong></p> </td> <td> <p><strong>11.79</strong></p> </td> <td> <p><strong>13.5%</strong></p> </td> </tr> <tr> <td> <p>(PENN)</p> </td> <td> <p>Penn National Gaming</p> </td> <td> <p>16.84</p> </td> <td> <p>1.11</p> </td> <td> <p>1.47</p> </td> <td> <p>46.97</p> </td> <td> <p>9.0%</p> </td> </tr> <tr> <td> <p><strong>(WYNN)</strong></p> </td> <td> <p><strong>Wynn Resorts</strong></p> </td> <td> <p><strong>21.97</strong></p> </td> <td> <p><strong>2.18</strong></p> </td> <td> <p><strong>33.25</strong></p> </td> <td> <p><strong>437.01</strong></p> </td> <td> <p><strong>16.9%</strong></p> </td> </tr> </tbody> </table>

MGM (NYSE: MGM) represents a deeper value than Wynn Resorts based on price-to-book, price-to-sales, and price-to-free cash flow valuations. Las Vegas Sands (NYSE: LVS) trades at higher price-to-earnings and price-to-sales ratios, but is expected to have higher earnings growth. When compared to peers Wynn Resorts is not trading at a substantial discount.

MGM is a Better Bet

MGM is also trying to initiate expansion plans in the Eastern United States. MGM could  turn lemons into lemonade in Springfield, Massachusetts where the company hopes to buy 10 acres of land suffered tornado damage in 2011 and build upon it. MGM’s intended $800 million project includes a casino, hotel, movie theaters, shopping, and restaurants.

In a sense, Massachusetts is an emerging market for gaming. Last year Massachusetts legalized gambling and allowed three casinos in three areas of the state.  MGM has turned to Springfield after looking at other locations in MA and has put up a $400,000 fee to put them in the official consideration for a license in western Massachusetts. Potential competitors for the license in this region include Ameristar Casinos (ASCA), Penn National Gaming (PENN), Mohegan Tribal Gaming Authority, and Seminole Hard Rock Entertainment. 

Despite these interesting expansion plans, MGM stock has risen only about 1% this year.

Investors interested in casino stocks should avoid Wynn Resorts until the Okada/Wynn battle subsides or until valuations drop. In the interim, shares of MGM and Las Vegas Sands are more defensible investments.

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