As Charles Dickens so eloquently penned in A Tale of Two Cities, “It was the best of times, it was the worst of times, it was the age of wisdom, it was the age of foolishness,” and so the phrase goes on. The same could potentially happen as two of America’s largest cities add casinos within the urban core.
Chicago is just wrapping up its selection of an operator in Downtown Chicago. New York state is set to begin this process for three potential licenses likely in or around New York City. With very few good opportunities left in the United States, New York could potentially be one of the more sought-after licenses, as Chicago was once viewed. While the jury is still out on both, these cities can learn from each other as it relates to tax rate, licensure, and community commitments to make the projects work and offer the maximum benefit to their respective jurisdictions.
The challenge for a strong gaming development comes down typically to a handful of things. This includes tax rate, license fee and structure, ability to conduct business with the local and state governments as well as the regulatory body issuing the license, the ability to develop within a rational environment that understands how gaming works, and the ability to attract a workforce.
While some environments are better than others, there is a health balance for which all of these can work in tandem to create a strong development. However, a push and pull of some of these factors in one direction or another can create the opposite effect, making it at best a challenge to operate. In some cases, it can make the project unachievable and leave good companies, investment, jobs and tax revenue on the sideline.
The Chicago Proposition
Chicago is one of the great American cities, and opportunites to do business within the confines of the city are rare. Chicago presents one of the few opportunities for an urban casino to exist in a major metropolitan area. It presents a unique opportunity to be able to cater not only to a locals market but to business customers, and to a lesser extent, the international guest.
However, to take advantage of these additional market segments, the casino must have close proximity to business and tourism-related facilities.
In 2019, the Illinois legislature put forward a comprehensive gaming bill that allowed for the expansion of brick-and-mortar facilities throughout the state as well as legalized sports betting. Of the six brick-and-mortar sites outlined in the bill, Chicago was viewed to be the most attractive, but also had its own set of special requirements to assist the city in some of its financial commitments with the pension fund, and also in hopes of attracting significant investment into the city.
After being signed into law by Governor J.B. Pritzker, the city of Chicago conducted a market feasibility study to determine the potential for a Chicago casino. Union Gaming concluded the report from August 2019, and it can be best summarized with the sub headline of “Not feasible due to the onerous tax and fee structure.”
The report went on further to state the following:
“The gaming expansion legislation that allows for a casino in the city of Chicago is very onerous from a tax and fee perspective. Our understanding is that on top of the existing tax structure on adjusted gross receipts (AGR) paid by all Illinois casinos, the city of Chicago casino would also pay an additional 33-1/3 percent privilege tax on AGR.
“The developmental impact of high taxes and fees notwithstanding, we forecast that a casino in the city of Chicago has the potential to become the highest-grossing casino in Illinois, significantly higher than the current market-leading Rivers Casino in Des Plaines, which generated $441.8 million in AGR in calendar 2018.”
Based on the initial analysis provided by Union Gaming, it estimated that a Chicago casino would have an effective tax rate of approximately 72 percent—an approximate tax of 39 percent based on the sliding-scale AGR and the 33.3 percent privilege tax on AGR that was specific to the city of Chicago. Based on this finding, the city had to go back to the drawing board to see how they might proceed forward with a potential development.
The city went back in 2020 to the Illinois legislature to try and correct the measure and see if they could reach a more manageable tax rate while the other brick-and-mortar facilities proceeded forward in the state. The legislature passed an amended tax structure in May 2020 that while more favorable, still was not at a desired rate. Chicago then commenced with an updated study by Union Gaming to see how the opportunity changed with the amended legislation.
In the revised report from August 2020, Union Gaming noted several challenges that remained to the future development within Chicago. Most of these surrounded the tax rate, which would still have to compete against its nearby peers in the state.
Based on the revised law, Union Gaming approximated the tax rate on AGR at roughly 40 percent, significantly better than the previous 72 percent tax rate but still at challenging levels considering the cost of operations and the desire to make a profit.
The challenges with that tax rate were multiplied because of its two new neighbors to the north and south as well as the existing casinos that have been in market for decades. Union highlighted it by saying:
“The Chicago casino will face a higher effective AGR tax than both its in-state and out-of-state peers… The IL/Chicagoland peer group paid an average effective tax rate of 35 percent in 2019, and the three northwest Indiana peers paid an average of 29 percent. Noted above, the Illinois peers will pay lower taxes on table games going forward, which will make them notably more competitive with the Indiana casinos.”
Union Gaming went further to highlight the challenge in the sliding scale adjusted gross revenue formula by saying:
“Public Act 101-0648 has restructured the AGR tax to be significantly more palatable for potential developers, although it does remain higher than the statutory tax rate schedule for all of the state’s other casinos. Ultimately, and based on an AGR mix that, while still slot-centric, has a greater proportion of table games revenue than the peers, the effective tax rate on AGR should be around 40 percent, or lower, as detailed herein.”
The Selection Process
Chicago faced another challenge. As is typical in other large-market opportunities, it decided to conduct a two-step process when it initiated its search for an operator and developer. The first was to conduct a request for information (RFI). Due to economic challenges from the Great Shutdown and the recovering of the gaming industry from the pandemic, it launched this initial stage to understand what parties may be able to commit to in the current Chicago climate.
Of the four gaming companies that submitted to the RFI process, only two ended up submitting in the subsequent request for proposal (RFP). MGM Resorts and Wynn Resorts chose not to participate in the RFP, leaving two of the premiere gaming companies out of the mix for one of the largest land-based opportunities in the United States.
The RFP selection process for Chicago was also mired in controversy. With three of the applicants in Rush Street, Hard Rock and Bally’s submitting bids for five sites, it became a case of the “Not In My Back Yard” (NIMBY) effect. This included even the winning bid in Bally’s facing community pressure and the neighbors not desiring the chosen casino location in the hearings subsequently before the approval by City Council.
Other accusations of consultants working for both the city and operators, as well as other local demands by various stakeholder groups including the city, caused a rough ending to a process that was stalled due to the tax rate problems at the start and the delayed operation selection in the end.
New York’s Sports Betting Failures
While some in the industry publications have labeled the tax revenue generated within the state of New York as a winning formula echoing the ghosts of former Governor Andrew Cuomo’s statements to approve sports betting, the operators in the market are feeling the effects of a high tax rate with little margin for error to operators.
In May, BetMGM Chief Financial Officer Gary Deutsch had the following to say about the New York sports betting market:
“The specific problem in New York is that it has a high tax rate of 51 percent of gaming revenue, and it applies that rate to both real revenue and phantom revenue associated with non-cash promotional wagering. So even at lower than typical promotions levels for a new market, operators in New York stand to experience effective tax rates—that’s taxes divided by real revenue—of well over 100 percent.”
Deutsch further goes on to say the following:
“We have hoped that the New York tax environment will be updated and we can then again more aggressively pursue New York players. However, (with) all rational allocation of capital with sophisticated investors in Entain and MGM, we simply can’t apply our capital against an irrational investment thesis. Players would never continue to play if the house always won, and house cannot continue to play if it’s always going to lose.”
Simply put, if you have too high of a tax, you will not see the investment and you will not see quality operators go into the market.
New York Development Challenges
When the New York state legislature passed this year’s budget, it upped the timeline for the three remaining downstate casino licenses by one year. The legislation that was signed by Governor Kathy Hochul created a floor for bidders in terms of tax rate and license fee. This includes a minimum tax of 25 percent on slots, a minimum tax of 10 percent on tables, and a minimum $500 million license fee for the privilege to do business in New York state. As we saw with sports betting, this is a guideline of what may turn into a bidding war that makes the license opportunity irrational and unachievable for a project that could if done right attract billions of dollars in development of an integrated resort.
While the request for application (RFA) has yet to be released, there is a cautionary tale to be told if you use the sports betting RFA as an example. The previous RFA incentivized bidders to get more points based upon the higher tax rate. Considering the spectrum of high tax rates that were highlighted in the study of downstate casinos that was completed by the New York Gaming Commission, one can only assume that this artificial floor for tax rates will likely increase to gain more points in the RFA, leaving investment and jobs on the cutting room floor.
In a recent earnings call, Caesars Entertainment CEO Tom Reeg discussed the challenges with the New York City environment. He stated:
“In New York—how do I answer this politely?—New York is a difficult regulatory state. I think it’s going to be extremely expensive to build there. I think it’s going to be an extremely expensive license fee. And I think there’s a likelihood that you’re going to have to solve some other problem of the city in addition to creating the jobs that you do in building a casino. So it’s not going to be enough to pick a site, build a casino, create the jobs, and generate a return. There’s going to have to be other investment there as well.”
Reeg went on to say that it is unlikely because of those market constraints that the company would make a material investment in New York.
The Opportunity Still Exists
New York City presents an interesting opportunity to capitalize on a tourist population as one of the highest-visited cities from international and domestic guests. It also has a significant supply of business customers, whether they are there for a convention or just to do business in the heart of the city.
However, this means that a facility must be within close proximity to where these two customer bases sit. Customers will typically only patronize a casino that is of high quality or in close proximity to other attractions. Business travelers and tourists will not see the benefit of leaving the city, leaving these market segments short of their potential.
New York City will likely be one of the most sought-after casino licenses in the world. In a city that never sleeps, it must take into account the lessons of the past in determining the best course of action going forward. There is a special opportunity to take these three licenses and generate significant investment in the New York City market.
But with a license fee of at least $500 million just for the privilege to do business, those are dollars that do not generate additional jobs or investment in the local communities directly through the development. Reasonable tax rates and license fees have proven to be a winner in other jurisdictions. Time will tell if those lessons can be implemented in New York as the process unfolds.