Fitch Ratings - New York - 07 Aug 2023: Fitch Ratings has affirmed Hard Rock Northern Indiana Holdings, LLC's (HRNI) Issuer Default Rating at 'B' and its secured term loan B at 'B+'/'RR3'. The Rating Outlook is Stable.
HRNI's IDR reflects its 'B-' Standalone Credit Profile (SCP) with a one-notch uplift related to its relationship with Seminole Hard Rock Entertainment, Inc. (BBB/Stable) and Seminole Hard Rock International, LLC (BBB/Stable), collectively SHRE. HRNI's SCP reflects its single-site nature and conservative gross leverage. Fitch expects gross EBITDA leverage to increase to about 4.3x in the outer years of our forecast period due to multiple competitive openings in the Chicagoland market.
The one-notch uplift to the IDR from HRNI's SCP is pursuant to Fitch's Parent and Subsidiary Linkage Rating Criteria and reflects the entity's linkage to SHRE, which Fitch considers to be a stronger parent. SHRE indirectly owns 76% of HRNI.
KEY RATING DRIVERS
Moderate Leverage to Increase: Gross EBITDA leverage was 4.2x as of Dec. 31, 2022 and Fitch expects HRNI to deleverage to 3.5x in the near term given solid current performance at the property and term loan amortization. This is strong in the context of the SCP, but will increase in the medium term due to cannibalization from nearby competitive openings. Fitch expects HRNI to generate strong FCF in the near term due to good EBITDA generation, manageable interest expense and minimal required maintenance capex. This should also help near-term delevering.
Competitive Pressure: HRNI will be subject to multiple new competitive properties, including a casino in Chicago's south suburban area estimated by 2025 and in downtown Chicago estimated by 2026. Both proposals are being completed by well-capitalized and established operators - PCI Gaming Authority (BBB-/Stable) and Bally's Corp. (B+/Negative). The additional supply will affect existing properties in Chicagoland, including HRNI, given the close proximity to Gary, IN.
Fitch expects the south suburban and downtown licenses to negatively impact HRNI's cash flow and leverage, although this should be manageable, and our base case does not contemplate meaningful growth to the overall addressable market thereby assuming significant cannibalization from all Chicagoland casinos.
Fitch forecasts a high-teen percentage revenue decline in 2025 and 2026 following the opening of the south suburban and downtown casinos. Fitch's base case does not forecast this casino to meaningfully expand the total addressable gaming market due to Chicagoland's existing casinos and video lottery terminals. Projected leverage is likely to approach 4.3x, assuming a flow-through to EBITDA, which is more consistent with a 'B-' SCP for the standalone property.
Lack of Diversification: HRNI operates a single property in a competitive market that is subject to new supply risk, limiting rating upside as future cash flow generation will be challenged. Most single-site operators are rated in the single 'B' category unless there are unique end-market dynamics. These include monopolistic positions, being a clear market leader, or having a conservative balance sheet. HRNI's geographic concentration offsets decent leverage and credit metrics.
Strong Market Position: The property opened in May 2021 and has taken incremental market share away from nearby competitors in addition to the legacy Majestic Star share. HRNI had a roughly 21.5% market share YTD 2023 compared with 5% relative share the prior Majestic Star licenses commanded in 2019. Hard Rock is the newest property opening in nearly a decade and has benefited from its proximity to the highway, brand recognition, and favorable regional gaming trends. Current win-per-day metrics are trending above area averages, at over $500 and $4,000 for slots and tables, respectively.
Tepid Regional Gaming Outlook: Fitch anticipates a potential for a pullback in broader regional gaming demand in 2024, due both to tough yoy comparisons from an exceptionally strong 2022 and 2023 and concerns on the current macroeconomic backdrop. The impressive gaming performance in domestic markets seen in 2021 and 2022 should subside, especially as levels of discretionary spend become more pressured amid the current inflationary environment.
While Indiana's total state-wide casino wins in 2022 were up by about $400 million yoy to $2.5 billion, fueled largely by the HRNI opening in the northern market, the state's gambling industry, which comprises of 11 commercial casinos, one tribal casino and two racinos, has witnessed a 4% yoy decline YTD June 2023 according to Indiana Gaming Commission, likely due to competition from neighboring Ohio and Kentucky, which legalized sports betting earlier this year. However, considering YTD June 2023 HRNI revenues still continue to outpace its competitors and have in fact grown by about 4% yoy, any further declines will generally be manageable. The strong and sustained level of profitability post-pandemic is expected to help offset top-line declines for regional gaming operators across the board.
SHRE Relationship Positive: Fitch believes HRNI's association with SHRE warrants a one-notch uplift from HRNI's SCP due to management and brand overlap. Fitch considers SHRE as a stronger parent based on its underlying SCP, which is consistent with 'B+' pro forma for SHRE's purchase of the Mirage from MGM Resorts. SHRE's 'BBB' IDR is attributed to the guarantee of its debt by Seminole Tribe of Florida (STOF; BBB/Stable). Fitch believes SHRE has weak legal and strategic incentives to support HRNI, as there is no downstream guarantee and HRNI make a low financial contribution relative to SHRE's broader complex.
Fitch's assessment of moderate operational incentives recognizes that HRNI shares common executive management with SHRE, is part of SHRE's broader 'Unity' player rewards program, and that its property is part of SHRE's regional gaming expansion strategy. SHRE owns 76% of HRNI and controls a majority of its board of directors. SHRE has also supported the entity through equity injections in 2021 when it took majority control following the prior majority owner's (Spectacle Entertainment Group) licensing issues with state regulators.
DERIVATION SUMMARY
HRNI's SCP is consistent with most other single-site gaming operators, including Empire Resorts Inc. (B/Stable; SCP: CCC+). HRNI has similar end-market dynamics as Empire, including competitive operating environments with new supply risk, single-site properties, and similar cash flow generation. HRNI is exposed to new competition through the pending casino openings in Chicagoland through 2026.
HRNI is considered weaker than its larger, more geographically diversified regional gaming peers, including Bally's Corporation (B+/Negative) and Great Canadian Gaming Corporation (B+/Stable). These peers have similar-to-slightly higher leverage profiles, but much stronger FCF generation and are well diversified.
KEY ASSUMPTIONS
--Fitch assumes an ~3% increase in total revenues in 2023 (based on YTD results slightly offset by the impact of the temporary Chicago casino), a modest 4% decline in 2024 as there is a potential for a pullback in broader regional gaming demand, followed by a 12%-13% decline in each of 2025 (due to the Wind Creek casino in South urban Chicago coming online on January 1) and 2026 (from cannibalization by Bally's permanent downtown Chicago casino starting early 2026);
--EBITDA margin is expected to slightly expand by ~100bps from 2022 to ~24.5% in 2023 and decline over the forecast period as revenue contractions from the aforementioned factors flow-through;
--Annual capex is estimated to be $12 million in 2023, followed by 2.5% of revenues thereafter;
--Deleveraging ahead of the competitive openings to be driven through amortization (10% this year, then 5% thereafter) and some degree of voluntary debt paydown (potentially through an excess cash flow sweep);
--No shareholder distributions or acquisitions assumed.
RATING SENSITIVITIES
Factors that could, individually or collectively, lead to positive rating action/upgrade:
--Greater degree of confidence that EBITDA leverage will remain below 5.0x and the FCF margin will exceed 10% amid the competitive pressures in the greater Chicago area;
--An increase in rating linkage with SHRE;
--Geographical diversification away from the Chicagoland market.
Factors that could, individually or collectively, lead to negative rating action/downgrade:
--FCF approaching breakeven;
--Decrease in rating linkage with SHRE or weakening of SHRE's SCP;
--EBITDA leverage sustaining above 7.0x.
BEST/WORST CASE RATING SCENARIO
International scale credit ratings of Non-Financial Corporate issuers have a best-case rating upgrade scenario (defined as the 99th percentile of rating transitions, measured in a positive direction) of three notches over a three-year rating horizon; and a worst-case rating downgrade scenario (defined as the 99th percentile of rating transitions, measured in a negative direction) of four notches over three years. The complete span of best- and worst-case scenario credit ratings for all rating categories ranges from 'AAA' to 'D'. Best- and worst-case scenario credit ratings are based on historical performance. For more information about the methodology used to determine sector-specific best- and worst-case scenario credit ratings, visit https://www.fitchratings.com/site/re/10111579.
LIQUIDITY AND DEBT STRUCTURE
Liquidity is adequate between operational cash and $25 million in availability on its $35 million revolver. Cash flow generation is sufficient to cover debt service and a small amount of maintenance capex annually. Fitch expects FCF margins to be in the mid-teen range in 2023 and 2024, prior to the competitive openings, and to fall to a single-digit percent longer term.
ISSUER PROFILE
HRNI Holdings, LLC (fka, Spectacle Gary Holdings, LLC) is the owner and operator of the Hard Rock Casino Northern Indiana (HRNI), a casino development located in Gary, Indiana and catering to the greater Chicagoland & northern Indiana gaming markets.
REFERENCES FOR SUBSTANTIALLY MATERIAL SOURCE CITED AS KEY DRIVER OF RATING
The principal sources of information used in the analysis are described in the Applicable Criteria.
ESG CONSIDERATIONS
The highest level of ESG credit relevance is a score of '3', unless otherwise disclosed in this section. A score of '3' means ESG issues are credit-neutral or have only a minimal credit impact on the entity, either due to their nature or the way in which they are being managed by the entity. Fitch's ESG Relevance Scores are not inputs in the rating process; they are an observation on the relevance and materiality of ESG factors in the rating decision. For more information on Fitch's ESG Relevance Scores, visit https://www.fitchratings.com/topics/esg/products#esg-relevance-scores.
