For several months, gaming investment analysts have quietly expressed concern over the $690 million renovation of the Palms Casino in Las Vegas by Red Rock Resorts, questioning if the gaming operator would find a decent return on their hefty investment into the off-Strip property.
On Tuesday, their worst fears were answered.
Red Rock Resorts management said it lost $26.8 million in the third quarter than ended Sept. 30, due in large part to the closure of the high-priced Kaos dayclub/nightclub at the Palms, a flashy 73,000-square-foot indoor-outdoor venue that took up the pool area and paid millions of dollars for big name acts such as DJ “Marshmello” and singer Cardi B.
On an earnings call with analysts, Red Rock CFO Stephen Cootey said the company paid $28.2 million in the quarter to end the long-term agreements with several artists, as well ending employment agreements with the Kaos management.
Palms General Manager Jon Gray was let go by Red Rock last month and the company said it expects to pay similar one-time charges of between $16 million and $22 million over the next two quarters.
The Palms makeover included new high-end restaurants and venues, a casino remodel and the addition of high-priced artwork, including pieces from artist Damien Hirst, such as the 60-foot-tall bronze sculpture called, “Demon with Bowl.”
Red Rock also spent $192 million over the last two years on a renovation of the company’s flagship Palace Station casino. But analysts weren’t as critical with that investment as they were with the Palms make-over.
The company originally paid $313 million for the Palms in 2016. The property was opened in 2001 by the Maloof family and quickly became a hotspot for both visitors seeing a nightlife experience and the locals market, which was attracted to a healthy slot machine business.
A few hours following the earnings announcement, several analysts downgraded their view of Red Rock Resorts and reduced target prices for the company’s stock. Red Rock is the parent company of Las Vegas locals casino giant Station Casinos and is controlled by brothers Frank Fertitta III and Lorenzo Fertitta.
Time to heal
“(Red Rock’s) core business (excluding the Palms) continues to grow nicely in Las Vegas, which should continue for the foreseeable future,” Union Gaming Group analyst John DeCree told investors in a research note.
“However, the many moving parts at the Palms right now make it difficult to forecast when that property will begin contributing meaningfully to the bottom line relative to its capital investment,” DeCree said. “In the long run, we believe Palms will ramp (up) but it will likely take more than a few quarters to recalibrate.”
Stifel Financial gaming analyst Steve Wieczynski noted that Red Rock management wanted investors to view the Palms “through a wider focused lens.” He noted it could take up to 18 months until the property’s operations are fully adjusted.
“While revenues continue to ramp at the Palms, we believe margins could remain a little uneven over the next several quarters as the company works to fine tune costs while figuring out the proper product offerings,” Wieczynski said.
As expected, Red Rock Resorts shares were down almost 10% Wednesday morning on the Nasdaq. The company’s stock price closed at $21.46, down $1.88 or 8.05%.
“Looking ahead, there will be less investment focus on Palms, given that the company still generates $500 million plus of property (cash flow) and this business continues to fair well,” Macquarie Securities gaming analyst Chad Beynon. “Therefore, while painful, we expect the stock to find a floor in the low $20s given healthy underlying fundamentals.”
Third quarter results
In the quarter, Red Rock said its net revenues grew 13% to $465.9 million and cash flow was up 1.5% to $119.5 million. The company said cash flow from its management contract with the Graton Resort in northern California increased 12.6%.
The net loss was a decline of $51.9 million, as opposed to the net income of $25.1 million in the 2018 third quarter.
In a statement, Red Rock Resorts spokesman Michael Britt said the company will “take some time to reassess the programming and use of those venues going forward.”
He said the pool operations will remain open at the Palms and the Kaos venue will be used for private meeting space and special events.
“While Palms has experienced exceptional growth across both the gaming and non-gaming segments of the business, the expense side of the business has been challenging to date, due in large part to the entertainment and fixed cost structure associated with Kaos,” Britt said.
#exclusive – Investors worst fears met: Palms’ costs hurt Red Rock earnings and damage stock price. –@howardstutz, CDC Gaming. https://t.co/pPiWWKt73v @Palms #CDCgaming
— CDC Gaming (@CDCNewswire) November 6, 2019
On the conference call, Frank Fertitta III, Red Rock Resorts’ CEO, said the nightclub market in Las Vegas may be over-saturated.
“The cost of entertainment is excessively high, and we just made the decision to focus where the fish are,” Fertitta said. “It doesn’t appear that the market has grown enough for the amount of supply.”
Howard Stutz is the executive editor of CDC Gaming. He can be reached at hstutz@cdcgamingreports.com. Follow @howardstutz on Twitter.
