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Best of I. Nelson Rose
Gambling and the Law: Of Course It's A Depression6 April 2009
"Buy when there is blood in the streets, even if the blood is your own." Baron Nathan Rothschild
There is a generally accepted definition of an economic recession – a decline in gross domestic product for two consecutive quarters. But people don't agree on what is a depression until years after the fact.
There is a difference, like the distinction between neurosis and psychosis. A neurotic may have problems, even severe, distressing ones. But a psychotic has at least temporarily lost touch with reality.
The legal gaming industry is facing a psychotic global economy.
Take, for example, Penn National Gaming. In mid-2008, Penn Gaming was in the final stages of being acquired, when banks decided to cut off all financing for corporate takeovers. But Penn Gaming's lawyers had done a great job writing in protections. The banks panicked, and gave Penn Gaming $1.475 billion to not buy the company.
The stock market reacted by driving the price of Penn Gaming's common shares down from the mid-$40s to $11.82. With about 90 million shares outstanding, this gave the company a market capitalization of $1 billion: a strange valuation for a company making money, with little debt and a treasure chest of more than $1.4 billion in cash.
We don't yet have many Bushvilles, like the homeless's shanty towns named Hoovervilles, after the last American President whose incompetence led to a depression. But we do have literally millions of homes in foreclosures, tens of millions of people without work, and charity food banks running out of basic necessities.
Unlike a recession, a depression is worldwide. In January of this year, the Bank of England cut its interest rate to 1.5%, the lowest rate in its 315 year history. The situation was even worse in the U.S., where the yield on three-month treasury bills actually went negative: In December 2008, investors were willing to pay the federal government to hold their money, rather than risk putting it in banks.
Economic depressions have immediate impacts on gaming law. I have had more than one large U.S. investor hire me to advise them about bankruptcy procedures – in Macau. Gaming companies are so international that bond-holders of American casino companies want to know about loans secured by property in Asia.
A depression is marked by deflation. Sellers become desperate; prices drop below cost. Casino hotel rooms in Las Vegas are now going for $22.00 a day – free, for local residents.
In a depression, virtually all business dries up. Atlantic City casino revenue fell 18.7% in December 2008; Las Vegas Strip dropped 23%. In fact, by every measure, this is the worst downturn since gaming was made legal in Nevada in 1931: average room rates, visitor volume, convention attendance and total revenue have plummeted.
Whether or not gaming ever was recession proof is somewhat irrelevant. In a depression nearly everyone loses. Plus, a company that makes a majority of its revenue from non-gaming sources, such as expensive restaurants, designer shops and overpriced Cirque du Soliel shows, is more susceptible to cutbacks in disposable income.
Many casino companies were hit with dual disasters. They were involved in multi-billion dollar expansions and corporate takeovers right when business dried up and the credit markets froze. Some of those loans require periodic payments, minimum cash flows and high equity to debt ratios.
As with the last depression, stock markets crashing have made things far worse. Every gaming company has been hit. The common stock of MGM Mirage dropped 94% over the last year, and the Las Vegas Sands was worse – it fell 97%.
Trump Entertainment forced out the Donald immediately before declaring bankruptcy. Herbst Gaming, Greektown Holdings, Legends Gaming, Magna Entertainment, Progressive Gaming and Tropicana Entertainment have also filed. Station Casinos, Empire Resorts, UTGR Inc., Majestic HoldCo., and even MGM is tottering (pushed by its partner, Dubai World) and Harrah's Entertainment is trying to swap up to $2.8 billion in new notes due in 2018 for debt coming due next year.
Economic depressions can cause industries to topple like dominoes. Casinos aren't buying as many new slot machines, so manufacturers don't need as many parts from their various suppliers. This hurts not only the manufacturers and suppliers, but the truck drivers who deliver the goods.
Gaming companies are cutting back on service, even to high-rollers, and laying off employees. The few with cash or available credit, like Penn Gaming, are buying back their stock or looking to pick up brand name casinos at bargain prices. The rest are trying to survive.
All segments of the industry are looking for ways to save money. One of the most interesting, legally, are gaming tribes reexamining their compacts. The most dramatic example was the startling announcement from Sycuan, near San Diego, that it would forego both building a second casino and expanding its 2,000 slot machines to 7,500. Instead, the tribe will be putting in Class II machines. The primary reason, besides business being slow and money for expansion being hard to get, is that the tribe had agreed to give the state of California 25% of its slot machine revenue, but nothing on its Class II devices.
The good news is that some credit is still available, at least for deals that are a sure thing. Lakes Entertainment had no trouble getting financing to buy the first 2,000 slot machines, of potentially 7,500, for the Red Hawk Casino it opened near Sacramento, California in December 2008.
For governments, operators and entrepreneurs, the picture is mixed. Every level of government is looking to find ways of balancing their budgets. Gambling is seen as a painless tax. Unfortunately, this means that politicians' first reaction is to raise taxes.
On the other hand, depressions call for desperate measures. New Jersey may be the only jurisdiction in North America to ever roll back a smoking ban – for Atlantic City casinos.
I have been hired by government officials in two states that are looking at major expansions of legal gambling.
In one case, I was retained to recommend the tax rate. I told them it is vital that the tax be significantly below the psychologically devastating barrier of 50%, if private industry is going to invest millions of dollars in the expansion.
In the other state, I analyzed and gave my recommendations on legal issues surrounding the introduction of slot machines and other casino games.
It also appears likely that intra-state Internet poker will come to California. The state is desperate for tax revenue, and a bill, with many co-sponsors, will be introduced in the next few weeks.
Even the U.S. federal government is backing off of its opposition to Internet gaming. Congress, led by Harry Reid, Majority Leader of the U.S. Senate and Senator from Nevada, and Barney Frank, a powerful member of the House who believes the federal government should not be telling people what to do in their own homes, will again push to amend the Unlawful Internet Gambling Enforcement Act.
Just as soon as they get us out of this second Great Depression.
Best of I. Nelson Rose
I. Nelson Rose
I. Nelson Rose