While professing to be unsurprised by a Boyd Gaming bid for Penn Entertainment, Deutsche Bank analyst Carlo Santarelli said he would be surprised if Boyd made a premium offer. Boyd’s approach to Penn was first reported in the Nevada Independent and subsequently picked up by Reuters.

Santarelli seemed unconvinced that Boyd would be the ultimate buyer of Penn’s assets. He wrote, “With gaming operators historically remiss to be perceived as hostile, it comes as no surprise that BYD has been cast as somewhat of a stalking horse in the PENN process, to the extent a true process plays out.”

Noting that he had Hold ratings on both Boyd and Penn’s stock, Santarelli opined, “The high short interest in PENN is a tough position to be in, while also challenging to be an incremental buyer of BYD at present, while this overhang of uncertainty lingers.”

Citing the Reuters story, the analyst said, “We do not know this to be true, but we believe there is likely merit to the discussions between the parties.” He disputed the article’s attribution of a $9 billion valuation to the potential deal. Santarelli finds it more likely that Boyd has approached Penn with an offer in the $25- to $30-per-share range, a tender he believes Penn would refuse. Penn presently trades for $20 a share and Boyd for $52.

“That said,” he continued, “we believe the negotiations, if they are in fact occurring, imply a level of interest beyond what we think most investors deemed possible in recent weeks.”

Wall Street’s reaction, Santarelli thought, was knee-jerk, to the effect that Boyd would find the lift “challenging. That said, at a reasonable valuation, which we believe a hypothetical $25-30 range represents (pre dispositions), could actually result in a very favorable transaction for BYD.”

For one thing, Santarelli doesn’t believe the transaction would include controversial ESPN Bet. (Boyd owns a five percent stake in FanDuel.) He laid out four scenarios whereby Boyd would make a $30-per-share bid palatable.

First, a third party buys ESPN Bet, thereby substantially lowering the price of an acquisition. Secondly, Boyd maintains the value of Penn’s non-operating losses.

Third, at least as much as $150 million (and a minimum of $75 million) in Penn redundancies are eliminated. Finally, the disposition of Penn’s remaining brick-and-mortar assets is “backstopped by an additional third party” at a price congruent with what Boyd is paying for them.

Santarelli struggled to accept a scenario whereby Boyd pays a valuation for Penn that exceeds its own, particularly in view of the fact that Penn is essentially an asset-light operating company at this point. Boyd “has shown resistance to being” exactly that, he wrote, hanging onto its real estate.

Employing Deutsche Bank’s 2024 cash-flow forecast for Penn, exclusive of interactive-gaming losses, Santarelli finds Penn trading at 5.1 times value. That number improves to 5.8 times when free cash flow is substituted for enterprise value.

“We believe these multiples imply the market is likely pricing in little to no equity value related to the [business-to-consumer] Interactive business,” Santarelli reported. For its part, Boyd trades at 6.5 times enterprise value and at an 8.1 multiple to free cash flow. Those numbers, however, slip to 6.1 and 7.3 if the FanDuel stake is valued at $500 million and taken into account.

“We struggle to see BYD paying a meaningful premium, relative to its own multiple, for PENN, from a free-cash- flow perspective, as the BYD free-cash-flow profile is considerably less volatile than that of PENN, given PENN’s fixed-rent expenses,” the analyst wrote. He believes the high end of Boyd’s bidding range is $25 per share, digital operations excluded, as that represents a 7.5-times-cash-flow multiple, plus the achievement of corporate synergies.

If a third party offers $500 million or higher for ESPN Bet, Santarelli added, that pushes the effective value of an offer as high as $30 a share, at least as a starting point.

Santarelli concluded his report with several considerations. One was that at least 10 state-level approvals would be required for the theoretical transaction to be considered safe. Another was not to underestimate the complexity of such a deal, as it would require the approval not only of Boyd and Penn, but also Gaming & Leisure Properties, ESPN, interactive and terrestrial disposition partners, capital markets, and the Federal Trade Commission.

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