History Lessons

We know what happens in good times and bad, but what about disasters?

History Lessons
As investors rummage through the wreckage that is gaming stocks, the environment looks much different than past collapses, such as the 1990s bursting of the riverboat bubble.
Then, the damage resulted from sky-high optimism crashing down on the realities of building too much too soon, combined with the burden of expensive junk-bond debt.
What occurred was classically Darwinian. Newer, bigger boats transformed the pioneer money machines into starving relics. Big fish like Harrah’s ate up little fish like Players. And some little fish, like Penn National, also devoured small fish like Hollywood, becoming big fish themselves.
Back then, Ameristar and Argosy could be bought for $3, Isle of Capri for a buck, Hollywood for under a dollar.
But commercial casinos were still a growth industry. Casinos generated big cash, if one could look beyond the debt. Indian casinos were not yet significant competitors. The economy was strengthening following recession, and Las Vegas and Atlantic City revenues grew year after year.
The opportunity then was to buy a big company that was swallowing up the little guys, and then refinancing debt to lower cost. Or to buy a little guy like Showboat knowing that, sooner or later, a Harrah’s would come calling. Or to buy an MGM Grand or Mirage and grow with it.
Today offers more somber prospects.
It is true that gaming stocks have been way oversold and opportunity exists for 50 percent or 100 percent gains coming off very low prices. But the prospects for further gains after an initial rebound require more patience, and the understanding that investors will not get the 10, 20 and even 30 times returns they once got with Isle of Capri, Ameristar, Argosy and others.
Look at the differences:
Growth. Though there may be some industry expansion as states seek new revenue, few jurisdictions are opening, and they are opening grudgingly.
Take Kansas, for example. It legalized slots at racetracks, but at such a high tax rate that not a single track has installed slots.
Maryland, likewise, may legalize slots, but at another 60-plus percent take. At that rate, the slot parlors will just take convenience gamblers from regional competitors, not truly grow the industry.
Acquisitions. There cannot be as many buyouts in the future simply because there are fewer companies left to buy. And this time, buyers will be bargain-hunting, not paying up.
Economy. In the 1990s, the United States was coming out of recession. Today, it’s heading into one.
Related to this is the new casino resort business model.
Back then, gambling was the name of the game, providing the majority of revenues and virtually all of the profits.
Then, Las Vegas casinos evolved into upscale entertainment complexes with $300-a-couple dinners, $100-plus show tickets and trendy shopping malls.
Hotel rooms, once given away to win gamblers’ losses, now were seen as valuable cash generators bringing in tourists at $300 a night. The reasoning was simple. Hotel rooms are fixed costs. Every dollar added to the room price fell to the bottom line.
But in the consumer recession we are experiencing, scrimping customers are putting the effect on profit in reverse.
Debt, Capacity and Capital Costs. It wasn’t all that long ago that a few hundred million dollars built a really nice and profitable casino.
Then along came Bellagio. The era of the $1 billion megaresort had begun, leading to an arms race pursuing the upscale market with resorts costing $2 billion, $3 billion and more.
There are two problems here.
1. Each of these properties requires Bellagio-size revenues to be profitable, and to be profitable enough to attract investor dollars to finance more growth. And the market can handle only so many Bellagios.
2. They are all chasing the same free-spending, upscale customer.
So, in Las Vegas, revenues are falling double digits, yet thousands more hotel rooms are in the works. And the model is being exported to Macau, where it is unproven, to Atlantic City, which actually might benefit from must-see resorts, and on a more modest scale to regional casinos.
How this will play out is uncertain. Will multibillion-dollar resorts become wealth destroyers rather than creators? Will there be a survival of the fittest where the niche players such as Wynn, and the national companies such as Harrah’s and Boyd survive, while the single-property Fontainebleaus struggle? Will once-proud resorts such as Mirage and the Rio get pushed down the food chain, as has happened to others over the years?
Or will Las Vegas and the casino industry emerge stronger, and perhaps with a more realistic understanding of how much can be spent to get a return, and of the central role of gambling in the resort profit and revenue mix?
We prefer the last prospect, but understand that this is a long process to work out. The days of throwing darts and picking winners in the casino industry have ended.

Frank Fantini is the editor and publisher of Fantini’s Gaming Report. A free 30-day trial subscription is available by calling toll free:
1-866-683-4357 or online at
www.gaminginvestments.com.

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