Of Course It Was a Depression

written by I. Nelson Rose

© Copyright 2010, all rights reserved worldwide. Gambling and the Law® is a registered trademark of Professor I Nelson Rose, www.GamblingAndTheLaw.com

“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 an economic 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 did, indeed, face 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. In the Mini-Depression, the banks panicked, and gave Penn Gaming $1.475 billion to not buy the company. Half of that was cash to get out of the deal: literally $700 million for nothing.

But the impact of the Mini-Depression on Penn Gaming was not over. The stock market reacted to the banks’ backing out of the buyout 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: an unreal valuation for a company making money, with little debt and a treasure chest of more than $1.4 billion in cash.

Unlike a recession, a depression is worldwide. In the depths of the Mini-Depression, January 2009, 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 wanted to know about loans secured by property in Asia.

A depression is marked by deflation. Sellers become desperate; prices drop below cost. According to the Las Vegas Advisor, its “annual July 2009 survey of room rates in Las Vegas turned up an incredible 65 casinos with rates below $50, including 16 with rates below $20/night.” Some Las Vegas casino/hotels were actually giving away rooms for free, for local residents.

In a depression, virtually all business dries up. Atlantic City casino gross operating profit fell 45.8% in the fourth quarter of 2008.

In fact, by every measure, the Mini-Depression was the worst downturn since gaming was made legal in Nevada in 1931: average room rates, visitor volume, convention attendance and total revenue have plummeted. The Las Vegas Convention and Visitors Authority released a report in March 2010 that average visitor spending on food and drink per trip in 2009 was $250.32, down from $273.39 in 2008; shopping was $101.97, down from $121.90; $39.87 for shows, from $51.64; and the average gambling budget dropped from its peak of $651.94 in 2006 to $531.98 in 2008 to only $481.57 last year.

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.

Internet gambling is a much better test of the old adage, because it is pure gaming. And it appears sign-ups did continue to increase, as players decided to bet from home rather than spend money on travel. The industry is young, so downturns are reflected in slower growth, rather than actual drops in revenue. Plus, it was hit by such major traumas as the UIGEA, which make year-over-year comparisons difficult.

Still, it would be interesting to know where i-gaming would have been if the housing bubble had not burst, or even if this had been a normal recession.

Things were different with land-based gaming, a mature industry. 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 Great Depression, stock markets crashing made things far worse during the Mini-Depression. Every gaming company was hit. The common stock of MGM Mirage dropped 94% over the last year, and the Las Vegas Sands almost disappeared: its common stock fell 97%.

Many companies did go under. Trump Entertainment forced out the Donald immediately before declaring bankruptcy. Herbst Gaming; Greektown Holdings; Greek Isles, formerly the Debbie Reynolds Hotel; Legends Gaming; Magna Entertainment; Progressive Gaming; Fontainebleau; Tropicana Entertainment; Black Gaming, Mesquite, Nevada’s biggest operator; Station Casinos, and later its subsidiary, GV Ranch Station Inc., which managed and owned 50 percent of Green Valley Ranch Resort; and, Centaur (Hoosier Park in Indiana and Fortune Valley in Colorado) have also filed. Riviera Holdings lasted until July 2010, while 155 East Tropicana (Hooters), Empire Resorts, UTGR Inc., Majestic HoldCo., and even MGM are still tottering (pushed by its partner, Dubai World) and Harrah’s Entertainment had to swap up to $2.8 billion in new notes due in 2018 for debt coming due that it did not have the money to pay.

The Imperial Hotel and Casino in Cripple Creek, Colorado survived the Great Depression, but the Mini-Depression, plus competition and a ban on smoking, killed the 100+ year old enterprise.

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 hurt not only the manufacturers and suppliers, but the truck drivers who deliver the goods.

Gaming companies cut back on service, even to high-rollers, and laid off employees. The few with cash or available credit, like Penn Gaming, bought back their stock and picked up multi-million-dollar casinos at bargain prices. The rest were, and are, just trying to survive.

All segments of the industry looked for ways to save money. One of the most interesting, legally, were 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 (electronic bingo machines). The primary reason, besides business being slow and money for expansion being hard to get, was 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 things appear to have bottomed out, and that even during the mini-depression some credit was still available, at least for deals that were 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 still 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 was hired by government officials in two states that used the mini-were for major expansions of legal gambling.

The Delaware State Lottery retained me to recommend the tax rate for the new sports books it was opening. I told them that the lower the tax rate, the more companies would be willing to invest in buildings and jobs; but it was vital that the tax be significantly below the psychologically devastating barrier of 50%, if private industry is going to invest anything in the expansion.)

The Florida State Senate hired me to analyze and give my recommendations on legal issues surrounding the tribal-state compact the Governor had signed with the Seminole Tribe, to allow the legal introduction of slot machines and other casino games.

The latest developments have been movements toward legalizing intra-state Internet poker. The bill passed the New Jersey State Senate; and it appears it will also come to California. Both states are desperate for tax revenue.

Once the states have allowed residents of their states to play poker online, they will ask Congress to amend the UIGEA to allow cross-state bets among those states that opt-in. Although the Republicans have gained control of the House of Representatives, it is unlikely that even the party of “No” will be willing to prevent state governments from getting the additional tax revenue and jobs they so desperately need.

After all, it was a Mini-Depression, not just a recession.


© Copyright 2010. Professor I Nelson Rose is recognized as one of the world’s leading authorities on gambling law and is a consultant and expert witness for governments and industry. His latest books, Internet Gaming Law (1st & 2nd editions) and Gaming Law: Cases and Materials, are available through his website, www.GamblingAndTheLaw.com.

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