In a classic Las Vegas showdown, Stratosphere Corp.'s poker-playing chairman is shoving all the company's dwindling chips into the pot and daring junk-bond holders to call.
Lyle Berman is warning holders of $203 million of high-interest first-mortgage notes that they must accept lower yields or risk pushing the company into bankruptcy.
It doesn't appear Berman is bluffing. Grand Casinos Inc., Stratosphere's 42 percent owner, has delayed transferring $68.5 million of interim financing to Stratosphere pending the outcome of the debt-restructuring talks.
Directing those talks on Stratosphere's behalf will be the investment banking firm of Donaldson, Lufkin & Jenrette, retained to negotiate with noteholders who bought $203 million of 14.25 percent notes last March.
"Berman may be playing poker," said one Wall Street analyst, "but I don't think he's holding a good hand. Those noteholders" -- mostly institutional investors -- "have a lot of money and they may decide to call his bet."
If they do, the noteholders could end up controlling Stratosphere. The alternative -- liquidation -- is considered a remote possibility by most analysts.
While it may seem an attractive proposition to assume control of a $500 million property by foreclosing on $203 million in defaulted debt, there are pitfalls.
If the noteholders chose to continue to operate the sprawling complex, they'd have to come up with additional financing to overcome the same problems facing Berman and his team.
Those problems, which have been aggressively targeted by a new management team installed just two weeks ago, include disappointing casino revenue and opening of other amenities, including retail shops, in phases.
The revised marketing plan and accelerated construction program instituted to improve results have added to operating costs and made payment of debts as currently structured unlikely.
Stratosphere has laid off 400 of its original 3,200 employes, and said in a Securities and Exchange Commission filing Thursday that "future decreases are expected."
In addition to the high coupon rate, the first-mortgage notes provided for payment of contingent interest equal to 10.8 percent of the company's consolidated cash flow up to $100 million in any 12-month period.
The contingent-interest provision could push the yield at par to 19.57 percent, about triple the borrowing cost of gaming companies such as Circus Circus Enterprises Inc. and Hilton Hotels Corp. and a crushing burden for a casino company struggling to overcome disappointing results since opening in April.
As late as July 18, the notes were trading at $105.5, yielding $17.5 a year. By late Thursday, they'd plunged to about $77 as word spread of Stratosphere's plan to renegotiate the interest rate.
At that price, the notes were valued at $156.3 million.
It's likely Berman and DLJ also will demand an equity restructuring, which would result in some dilution for shareholders already reeling from an 85 percent plunge in the price of Stratosphere common.
Yet recapitalizing the company may be the only option to avoid bankruptcy. The company's second-quarter financial report, filed with the SEC Thursday, painted a grim picture of Stratosphere's short-term future.
The report said that, based on current operating results, Stratosphere may default on $37.5 million in leases covering slot machines and restaurant furnishings by Sept. 30. It said it is discussing options with the bank consortium holding the leases.
It also said Stratosphere needs $38 million to complete already planned phase two additions to the resort, part of the scheduled expansion of room inventory, retail shops and other amenities.
In addition, the report said a consultant has estimated it would cost $49 million more than originally budget for phase two to make recommended revisions to the original plan.
The revisions are considered essential to upgrade rooms, expand and remodel casino areas and provide other marketing enhancements to draw more gamblers to the resort.
The legalese required in SEC filings often contain dire warnings, and the Stratosphere report is no exception. "If the company cannot restructure its existing indebtedness, there will be serious doubt as to whether the company will be able to continue as a going concern," it said.
But the report also noted the company is continuing to reconfigure the casino and reposition Stratosphere as a resort "providing the best gaming value in Las Vegas by offering favorable rules on table games and liberal paybacks on slot machines" -- indicating its intent to continue operating.
Acknowledging the makeover and marketing will be expensive, Stratosphere said it couldn't estimate the impact on earnings. But the program is expected to be completed by Oct. 7, the report said.
Berman serves as chairman of Stratosphere and Grand Casinos, which took control of Stratosphere when founder Bob Stupak needed additional financing to complete its 1,149-foot observation tower.
Berman and Stupak had met during the 1980s in high-stakes poker games. But the friendship that evolved in Las Vegas cardrooms devolved in corporate boardrooms as the two strong-willed executives clashed over control of Stratosphere.
Stupak's position was weakened by Grand's majority stock holding and financial strength, as well as the State Gaming Control Board's insistence that Grand executives -- and not Stupak -- maintain operational control over the resort.
Frustrated by his loss of control, his perception that Grand didn't understand the Las Vegas gaming market and his inability to negotiate a swap of his Stratosphere stock for Grand's, Stupak began selling large blocks of Stratosphere common before resigning as chairman July 22.
Those and other stock sales, coupled with analysts' growing concerns and disappointing operating results, drove the stock from a high of $14 earlier this year to a close of $2 on Thursday.
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