At This Price, Full House Resorts Won't Turn Into Your Royal Flush

| About: Full House (FLL)
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Investors, take note. Lee Iacocca has placed a large bet on a micro-cap casino stock you've probably never heard of: Full House Resorts (NYSEMKT:FLL). With over 700,000 shares, Iacocca is the largest direct holder of Full House stock. He also serves on the company's board.

Full House is a far cry from the automakers where he earned his fame. A gaming company that targets locals, it makes its money from buffets and blackjack rather than muscle cars and minivans.

Full House management has a strong track record, achieving exponential growth throughout the 2000s. The company entered the 21st century as a casino manager for Native American tribes, initially operating with high profit margins and little skin in the game. It has since evolved into an owner-operator, using profits from management contracts to help purchase casinos of its own and later to pay down debt incurred from those purchases. Today, only a small minority of its revenue comes from a management contract for the Buffalo Thunder casino in Santa Fe, NM. The rest is from casinos it owns and operates.

Despite having its headquarters in Las Vegas, Full House doesn't have a casino presence there. Instead, its Nevada operations are the Stockman's Casino in Fallon and the Grand Lodge Casino attached to the Hyatt Regency Lake Tahoe in Incline Village.

Moving into Mississippi

Full House's latest acquisition, southwestern Mississippi's Silver Slipper Casino, was purchased in October 2012 for $70 million. Situated near the border with Louisiana, it targets residents of New Orleans, the closest major city just one hour away. It stands out as the only land-based casino in Mississippi.

Unfortunately, the Silver Slipper's location can best be described as quirky. This casino sans hotel sits at the end of a winding country road, ten miles from the closest interstate and isolated from other amusements. At least it's along the Gulf of Mexico and next to a beach.

The Silver Slipper faces fierce competition, and does not enjoy a leadership position in the greater New Orleans gaming market. Farther east, the high-rise casinos of Biloxi, Miss., including Leucadia National Corporation (NYSE:LUK)'s Hard Rock Casino Biloxi, are only another 30-50 minutes away and offer hotel rooms and resort amenities. Back in the Big Easy and its home state of Louisiana, gamblers are not starved for options either. For one, there's the Harrah's New Orleans near the Central Business District and the French Quarter. Then, about 90 minutes north of the city, there's Pinnacle Entertainment (NYSE:PNK)'s L'Auberge Baton Rouge. Finally, a three-and-a-half hour drive west leads to Lake Charles, home to Pinnacle's L'Auberge du Lac as well as an Isle of Capri Casino run by Isle of Capri Casinos (NASDAQ:ISLE).

All's not quiet on the (mid)western front

A casino acquired earlier in Rising Sun, Ind. was rebranded as the Rising Star Casino Resort in August 2011. It comes complete with a Scottish links-style golf course. The closest major city is Cincinnati, but Louisville, Columbus, and Indianapolis are within driving distance as well.

Pardon the bad pun, but the house - as in the on-site hotel - literally is full most of the time here. In light of this, Full House was able to sell three acres in the resort to the City of Rising Sun and the Rising Sun Regional Foundation, which started building a 104-room hotel on the premises in December.

Filed in November, the 10-Q for the third quarter of 2012 indicates that gambling revenues at the Rising Star Casino Resort decreased $1.8 million year-on-year to $22.3 million. The culprit is thought to be the Scioto Downs Racino in Columbus, Ohio.

The Horseshoe Casino in Cincinnati, which opened on March 4, promises to capture even more of the Rising Star's revenues. A $400 million gambling parlor operated by industry bigwig Caesars Entertainment (NASDAQ:CZR), it is not to be underestimated. It enjoys a convenient location and a strong national brand, along with proximity to multiple national-brand hotels at different star levels.

In this competitive environment, the Rising Star and Indiana's other casinos have few advantages. Unlike Ohio's casinos, they are not smoke-free, although they benefit from having hotels on the premise. The Rising Star has a golf course too, but that's about it. Otherwise, they are all dated riverboats (Ohio's casinos are land-based) that don't benefit from proximity to downtown attractions or to job centers. Because the games are the same across state lines, their best competitive weapons may be lower table minimums and looser slots.

Does the house always win?

Casinos in second-tier locations have long been exceedingly profitable, and they would continue to be if competition were kept to a minimum. The trouble is that new venues continue to set up closer to the gamblers, cannibalizing the market. Casinos in non-resort areas lacking tourist attractions, such as Full House's Rising Star and Silver Slipper, are particularly vulnerable.

To its credit, Full House has been wise enough to purchase its casinos at fire-sale prices after construction. None of the properties acquired was built by Full House.

Nevertheless, at 23 times trailing earnings and 17 times forward earnings, Full House is priced too richly to turn into a royal flush. In fact, in poker terms, this stock is no full house. At a more appropriate P/E, however, it could become a compelling value play. Full House's situation is not ideal, but it certainly isn't as dire as that of fellow micro-cap operator Dover Downs.

Disclosure: I am long LUK. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.