The Long Case for Archon Corporation

The following is excerpted from a recent edition of Value Investor Insight:

As a long-time follower of the resort and gaming industry, Esplanade Capital's Shawn Kravetz is well versed on the important trends and players in the business. Two of his favorite ideas in our past interviews with him (VII, December 30, 2005) – Kerzner International and Harrah's (HET) – were industry leaders that have since agreed to be taken private at substantial premiums.

So Kravetz was surprised last year when an industry contact said he should look into Archon Corp. (ARHN.OB) as an intriguing, publicly traded play on Las Vegas gaming. "They try fairly hard to be invisible, and largely succeed," he says. "The fact I'd never heard of them, though, made it all the more interesting."

The investment thesis Kravetz uncovered for Archon is straightforward: It owns real estate assets that his research shows are worth far more than the company's current $44.50 share value. Its prime jewel is 27 acres of vacant land – "the derelict, graffiti-festooned remnants of the Wet 'n Wild amusement park," said a local newspaper – on the north end of the Las Vegas Strip. Development activity on the northern Strip is particularly fevered, following the opening of Steve Wynn's extravagant Wynn Las Vegas in 2005. Among other projects, Boyd Gaming (BYD) and an MGM Mirage/Kerzner (MGM) joint venture are each building multi-billion-dollar resorts in the immediate vicinity of Archon's land.

What's Archon's "derelict" lot worth? The company has a signed option contract to sell it to Texas real estate developer Christopher Milam for $475 million. The deal has been extended several times, but Kravetz believes the odds it will close have increased since the summer, when Milam made a $40 million non-refundable downpayment and also enlisted as a partner publicly traded Macau gaming company Melco PBL Entertainment. But even if the deal falls through, the deal value of $17.6 million per acre appears safe, says Kravetz, because it's at the low end of several comparable deals done recently nearby.

While Las Vegas hotel and casino capacity is growing rapidly, Kravetz sees demand more than keeping pace."There will always be cycles," he says, "but we’re confident the long-term trend in the market is up. The new development will only generate more excitement and demand."

If the value of the Las Vegas land holds, Kravetz estimates that eventual sale proceeds will net Archon – after accounting for taxes – around $59 per share. He pegs the net value of office buildings in Dorchester, MA and Gaithersburg, MD at another $20 per share. Deducting $4 per share in value for corporate overhead and a casino operating contract, he believes Archon is worth at least $75 per share, a 70% premium to today's price.