By W.D. Crotty
The Motley Fool
July 14, 2004

It has been less than two months since MGM Mirage (NYSE: MGG) and Mandalay Resorts (NYSE: MBG) decided to tie the knot. Now The Wall Street Journal is reporting the rumor that Harrah's (NYSE: HET) has fallen in love with Caesars (NYSE: CZR). While the press is hailing the behemoths being created, investors should note the monstrous debts.

The MGM-Mandalay marriage will create a company with an estimated $7 billion in sales and $13 billion in debt. Said another way, debt will be almost twice sales. Even The Donald's Trump Hotels (NYSE: DJT), which is seeking debt relief, only lumbers under a debt load of 1.5 times revenue.

Comparison with The Donald is weak, though, because Trump has operating margins of 10%. MGM, at 22%, is strong. Mandalay, with 27% margins, is the best among the major casinos. So, in the MGM-Mandalay case, two strong competitors are merging.

The merger of Harrah's and Caesars would create a company with an estimated $9 billion in revenue. But how much debt would be created? Add Harrah's total debt of $3.6 billion to Caesars' $4.5 billion, plus Caesars' market capitalization of $5 billion (if it is a cash deal), and there would be $13.1 billion in debt -- 1.5 times revenue. That looks better than MGM-Mandalay. Right?

Ah, but consider that Harrah's operating margin is 17% and Caesars is 16%. Their lower debt-to-revenue level is no advantage because of their lower operating margins.

Those familiar with gaming will note that newbie Wynn Resorts (Nasdaq: WYNN) and operators like Boyd Gaming (NYSE: BYD) are financed with copious amounts of debt -- and they are right. It is the level of debt at the giants that investors need to weigh.

Everyone having debt does not make it good. Remember that 9-11 emptied Las Vegas hotel rooms (and hotel rooms elsewhere) as vacationers and conventioneers stayed home. If the previous high debt levels caused the stocks to swoon on 9-11, imagine what today's debt orgy will do.

So far, it is just rumored that Harrah's desires Caesars. Maybe after doing the math, the two will conclude that staying single, or doing an all-stock deal, is their best competitive advantage.

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