A worker saws mounts off the letter 'M' from the signage of Trump Plaza Casino in Atlantic City, New Jersey on October 6, 2014.
Mark Makela — Reuters
By Shawn Tully
March 31, 2016

Donald Trump claims that as president he’d use his business prowess to tackle one of America’s most urgent problems: the towering national debt. “We’re getting to be like a large-scale version of Greece,” Trump warned in a Fox News interview last month. “Look at the country as a profit-making or losing corporation. Right now, we’re losing.”

The key to solving this debt dilemma? Trump-style management, asserts Trump. The frontrunner for the Republican presidential nomination promises that he’d remake the U.S. economy into a growth machine and erase the country’s national credit problem.

As evidence, he trumpets his success managing his own enterprises, boasting that the businesses in his portfolio have “very low debt and tremendous cash flow.” That example, Trump has declared, demonstrates the “kind of thinking this country needs with $19 trillion in debt, believe me.”

There’s just one problem with this narrative: Trump’s actual track record as an executive who has overindulged on credit time and again.

Indeed, a close examination of how Trump ran the largest business he ever headed demonstrates an entirely different kind of thinking from the belt-tightening rhetoric he spouts on the campaign trail. Over more than a dozen years heading at the time one of America’s biggest casino operators, Trump showed a penchant for aggressively loading up on debt—way, way more than the business could support.

Much of the debt was accumulated through a series of self-dealing transactions, in which his public company bought out Trump’s personal stakes in various casinos. Trump made those sales to rescue himself from potentially ruinous personal guarantees, and moved huge portfolios of junk bonds that he couldn’t repay personally onto the newly-formed public company. In one major deal, he also appears to have, in effect, paid himself a highly inflated price.

In the end, Trump’s myopia for the risk created by all the crushing credit obligations at his businesses punished employees, banks, investors, and bondholders alike—almost everyone but Trump himself. It also tanked Trump’s investment in Atlantic City, a place where Trump says he is “very, very proud” of how he did.

Let’s take a closer look at Trump’s corporate credit record through the prism of Trump Hotels.

Borrow early, borrow often

Trump’s operating model for his casino operations can best be summarized thusly: high debt and insufficient cash flow. As chairman, chief shareholder, and sometime CEO of Trump Hotels & Casino Resorts (later named Trump Entertainment Resorts) from 1995 to until early 2009, Trump leveraged his Atlantic City gaming properties to such an extent that even if they’d fared well—which they didn’t—they still wouldn’t have turned a significant profit.

Donald Trump is seen above the floor of the New York Stock Exchange after taking his flagship Trump Plaza Casino public in New York City on June 7, 1995.

Donald Trump is seen above the floor of the New York Stock Exchange after taking his flagship Trump Plaza Casino public in New York City on June 7, 1995.Kathy Willens — AP

The Trump Hotels saga is a twisted sort of growth story—one that’s about the growth of debt, not revenues or profits. When Trump Hotels went public in 1995, it carried just $494 million in long-term debt. By the end of the next year, under Trump’s direction, its borrowings had ballooned more than three times to a staggering $1.7 billion, or 4.4 times its equity. Conservatively leveraged companies, by comparison, hold half as much debt as equity. By 2002, Trump Hotels’ debt had risen to $2.1 billion and its leverage ratio had expanded to 27, approaching the levels that later sank Lehman Bros. during the Financial Crisis.

The result was a bottom line that stayed stuck in the red. In 1997, Trump Hotels lost $42 million, as its $205 million in interest expense far exceeded the operating earnings of $143 million. And it only got worse. By 2003, operating earnings had declined 7% to $135 million, and interest costs grew 10% to $227 million—deepening the deficit to $87 million.

From the IPO in 1995 through two separate bankruptcies in 2004 and 2009, the main Trump casino operator never made money. Year after year, its operating profits were decimated by gigantic interest costs. Over the almost 15 years Trump served as chairman, Trump Hotels posted net losses, excluding extraordinary items, totaling nearly $1.7 billion.

For most businesspeople, losing $1.7 billion over 14 years wouldn’t be a result to brag about, much less to offer up as a model of fiscal management.

Livin’ la vida LBO

Trump Hotels’ gigantic interest burden almost certainly doomed the company from the start. It never generated sufficient cash flow to pay down any of the principal on its debt—thus violating the first principle of a leveraged buyout, or LBO.

The LBO, in which a company is acquired with a huge pile of borrowed money, was en vogue in the 1980s when Trump first rose to prominence. After a series of disastrous transactions, the strategy went out of style on Wall Street for a time. But Trump apparently didn’t get the memo. Though he didn’t employ a classic LBO strategy at Trump Hotels, Trump managed his company throughout the 1990s and beyond with the same debt-fueled approach that doomed some of the LBO targets of the ’80s. He even financed Trump Hotels—and its acquisitions—almost entirely with a key component of the typical LBO: junk bonds.

The flamboyant promoter also worked right from the LBO playbook in explaining to Wall Street why his strategy would succeed. Collecting the casinos under one umbrella would bring critical mass, he argued, lowering overhead and raising prices. Strong growth would enable Trump Hotels to lift its credit rating and refinance its expensive debt at far lower rates.

For LBOs as varied as Rupert Murdoch’s News Corp (nws) and Nelson Peltz’s and Peter May’s American National Can, the formula of piling on debt and paying it down worked. At Trump Hotels, it decidedly didn’t.

Dealing himself a better hand

A major reason Trump failed with Trump Hotels is that he engaged in what appear to have been self-dealing moves that ended up crippling his company.

The problem took two forms. First, Trump sold casino businesses he fully or mainly owned to the new, publicly-traded Trump Hotels that were already so over-leveraged, with such expensive debt, that they could never make enough money to repay bondholders. It was a great way for Trump to escape debt burdens, but it created a huge burden for his shareholders. Second, he made one important sale at a price that appears to have been a lot higher than what a neutral bidder would have paid.

It was the chronic inability to cover interest expense, and the big dilution caused by self-dealing, that sank Trump Hotels. An interesting sidelight is that because of its heavy leverage, and the big losses it caused, Trump Hotels paid a paltry $12 million in corporate income taxes over Trump’s long tenure as chairman.

LBOs have drawn widespread criticism as a vehicle for skirting taxes, using big interest expense to eliminate all, or most, taxable income, so that cash that would normally go to the government gets paid to bondholders instead. If Trump had borrowed modestly, mirroring the average company’s capital structure, he would have sent tens of millions of dollars to the U.S. Treasury, and might still own those casinos. But nothing is modest about Donald Trump—including his buccaneering use of leverage.

 

 

Betting on himself, and not winning

When Trump Hotels went public in mid-1995, it consisted of one major property in Atlantic City: the Trump Plaza. The following year, it purchased two casinos in the New Jersey gaming capital. Both were either owned or controlled by Trump.

The first was the Trump Taj Mahal, then arguably the world’s largest casino, billed as “The Eighth Wonder of the World.” Its debt, piled high by Trump, was a wonder as well. The Taj tumbled into a pre-packaged bankruptcy in 1991, less than a year after it opened. In the restructuring, Trump handed half of his equity in the Taj to creditors in exchange for lower rates and longer maturities.

In April of 1996, Trump Hotels bought the Taj for $898 million. That price came in two parts. Trump Hotels took on the Taj’s $817 million in debt—including debt that carried a personal guarantee from Trump himself—carrying a rate of 11.25%. It also agreed to pay an additional $81 million for the equity, split equally between Trump and the creditors-turned-shareholders.

The Taj might actually have proven a solid money-maker if it hadn’t been so over-leveraged, with such costly debt. In 1995, it lost $26 million, as its $120 million in interest expense swamped its operating earnings.

Donald Trump raises his fist in a salute as he presides over opening ceremonies of the formal opening of his Taj Mahal, which he calls the 8th wonder of the World in Atlantic City in 1990.

Donald Trump raises his fist in a salute as he presides over opening ceremonies of the formal opening of his Taj Mahal, which he calls the 8th wonder of the World in Atlantic City in 1990.Bettmann Archive/Getty Images

Despite straddling both sides of the Taj acquisition, Trump still ended up negotiating what turned out to be a pretty lousy deal for himself. The Taj creditors had a choice of taking their $40.5 million buyout compensation—for the 50% of equity not owned by Trump—in cash or stock, or a combination of both. The savvier ones chose cash.

Trump, however, eschewed cash altogether for his compensation. He agreed instead to accept stock in Trump Hotels in exchange for his 50% share in the Taj. He was also granted warrants to buy still more shares of Trump Hotels in the future at higher prices.

It was not a well-timed bet on his company’s future prospects.

The Taj deal closed on April 11, 1996, with shares of Trump Hotels trading at around $31. The company issued its chairman warrants giving him the right to buy 1.8 million shares of stock at prices escalating from $30 to $35 to $40 a share, in three equal tranches, with deadlines falling in April of three successive years—1999, 2000, and 2001.

In theory, the warrants could have been more valuable than a simple stock or cash grant, if Trump Hotels had been a rising stock. But in June of 1996, shares of Trump Hotels peaked at around $34 and then began a long, precipitous fall—never rising above the strike price again. In the year after the Taj acquisition was completed, Trump Hotels’ stock price plummeted 73%.

Trump, in fact, with every successive deal his casino company made, seemed to be wagering more and more of his own money that the casino company’s shares would soar, and he never appeared to give up hope. Trump held onto almost all of the shares of the casino company he acquired to the bitter end. That may be proof that Trump was buying his own extravagant—some would say delusional—claims about Trump Hotels’ glorious future, which never came to pass.

The art of the disastrous deal

It was his next deal that, more than any other, crippled Trump Hotels, and sent its stock into a downward spiral. This time Trump got Trump Hotels to pay an excessively rich price for another of his troubled companies, adding not only another load of expensive debt but also heavy equity dilution besides.

In October of 1996, shortly after selling the Taj to Trump Hotels, Trump folded his wholly-owned casino Trump’s Castle (which was renamed the Trump Marina about a year later) into the public company. The total price, based on Trump Hotels’ stock price the day of the announcement, was just over $500 million. The purchase saddled Trump Hotels with $353 million in new debt, at average rates of around 12%.

As part of the deal, Trump received 5.8 million additional shares of Trump Hotels’ stock for his stake in the casino. The shares, initially valued at $150 million, handed Trump another 20% ownership of Trump Hotels, which at that time owned both the Castle and Taj, as well as the Trump Plaza and a riverboat casino in Indiana.

Trump Marina casino exterior in 2011.

Trump Marina casino exterior in 2011.John Greim — LightRocket via Getty Images

It’s not even clear that Trump’s Castle was worth its $353 million in debt, let alone the $500 million that Trump’s public company paid for it. Trump had bought the then nearly-completed casino in 1985 for just over $300 million from Hilton, which built almost all of the property but was unable to get a New Jersey state gaming license to run it. The deal didn’t require Trump to put in any cash. Instead, Trump financed 100% of the purchase price with junk bonds.

It was far from the fabulous steal that Trump has always claimed. Six years later, Hilton, after finally winning a gaming license, offered Trump a paltry $165 million to repurchase the Castle, which had fared poorly under Trump’s management. Trump refused the offer.

From 1993 to 1995, the Trump’s Castle property was generating an average of $31 million in operating income—and was losing $18 million, on average, after interest expenses. What’s more, even if Trump Hotels had paid down and refinanced its junk bond debt, building equity to equal its debt, the Castle, based on how much it was earning at the time, would have only generated a meager return on equity of just 4%.

The market seemed to think the price was inflated as well. In early June of 1996, Trump Hotels had hit its all-time peak of $34. Shortly after Trump Hotels announced it was buying Trump’s Castle on June 26, the shares started dropping and never recovered.

Choosing publicity over profit

Amazingly, despite the rich price, Trump nearly turned the Castle purchase into a huge win for his shareholders. But he bungled that deal as well.

In October 1996, just days after Trump Hotels closed on its acquisition of the Castle, the Rank Group, which was then the owner of the Hard Rock Cafe chain, proposed purchasing up to 50% of the casino in a series of steps, that, according to Trump, would have valued the Castle at an even higher $750 million, potentially providing a return of 50% in less than a year for Trump.

The problem? Trump refused to take his name off the building.

Rank proposed installing a Hard Rock in the Castle, and rebranding the property as the Hard Rock Cafe and Casino. Sources familiar with the negotiations say that with an agreement ready to be signed, Trump reneged on the deal because he refused to remove his name from the Castle, as Rank demanded. A few months later, he nixed a similar but more limited Rank proposal, which this time proposed to invest $50 million in the Trump property. Once again it was the name issue that quashed the deal.

Now it’s up to voters to decide if “that’s the kind of thinking this country needs with $19 billion in debt.”

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