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A real gamble
Higher taxes on casinos often means less growth
By RON BARTIZEK
rbartizek@leader.net
“We always knew it would never be a home run in terms of making substantial profits.”
Robert Soper Mohegan Sun at Pocono Downs president
The Mohegan Tribal Gaming Authority says a state and local tax burden above 60 percent might cause it to pull the plug on the $505 million project to build a slot machine casino at Pocono Downs.
A gaming industry lobbying group says that, paying an effective rate – the sum of taxes and mandatory fees – of 71 percent, casinos in New York are underperformers doomed to mediocrity.
Are those contentions supported by evidence?
There’s no question that low tax rates leave more cash on operators’ balance sheets, money that can be used to build bigger, shinier, more attractive casinos.
According to the gaming association, casino companies have invested nearly $27 billion on new or improved venues since 1989 in Nevada, where the effective tax rate is 8.4 percent.
In contrast, “racinos” in Delaware, where the rate is 36 percent, have spent only $288 million on capital improvements.
But figures can lie, or at least fib. Nevada has dozens of full-service casinos that generate more than $10 billion per year in winnings, providing a ready source of capital to add gaming space, hotel rooms and exotic restaurants.
Tiny Delaware has three racetracks that offer video lottery machines, producing just over $550 million in revenue in 2004. And they began operation only in 1995.
Being able to keep more of their winnings has helped spark the explosion of building by casinos in Nevada and elsewhere, said Andrew Smith, research director of the American Gaming Association. “When the state leaves some money on the table, these companies build hotel rooms or parking garages or other amenities.”
Smith said his claim is supported by comparing gaming operations in two of Pennsylvania’s neighboring states.
West Virginia and New York allow video lottery machines at racetrack casinos, using a system in which the state collects all of the wagers and then distributes a portion of it back to the operators.
The difference is that West Virginia casinos get back about 43 percent of the total while New York returns only about 20 percent.
As a result, resorts such as Mountaineer Race Track and Gaming Resort, located 38 miles northwest of Pittsburgh, offer far more amenities than New York operations. “They have the ability to reinvest and they do,” Smith said.
For the developers of the Plains Township gaming venue, the return calculation could decide if they’ll build anything at all.
Mohegan officials say their plan for Pocono Downs was based on paying no more than 55 percent of slots winnings in state and local taxes.
But under a state Revenue Department interpretation of gaming regulations they say they’ll actually pay up to 63 percent, a rate that could make the project financially untenable.
The July 1 ruling said that gaming operators must pay a flat $10 million in local tax share, even if that exceeds the 2 percent of gross slots revenue also contained in the law. Downs President Robert Soper said that will mean about $8 million higher annual expenses.
The 63 percent rate is based on the temporary 1,000-machine casino under construction, Soper said. Mohegan’s plan has called for breaking ground on a larger permanent casino with 2,000 slot machines once a gaming license is issued.
Assuming more slots bring in more money, the percentage would go down, although the Downs still would pay more than it expected.
The Mohegan Tribal Gaming Authority already has a lot invested in the former Pocono Downs property, starting with a $280 million purchase price.
That figure “raised a lot of eyebrows,” said Charles Degliomini, vice president of Empire Resorts Inc., which operates Mighty M Gaming at the Monticello Raceway in the Catskill Mountains of New York.
Since the purchase in January 2005, the Mohegan has reconfigured the track’s clubhouse and grandstand in a $47 million project to create a temporary casino designed for 1,000 slot machines.
It has said construction of a $175 million, 400,000 square-foot permanent casino will begin immediately after a license is issued, which could happen in September. The layout includes three restaurants, a 300-seat buffet, a 15,000-square foot court, multiple bars and lounges, an 18,000-square foot nightclub and 20,000 square feet of retail space. Counting the purchase price, that will make the total investment more than double what MTR Gaming is spending to develop Presque Isle Downs near Erie, and even above the $430 million that casino giant Harrah’s is spending on Chester Downs, west of Philadelphia.
“I think at this point there may be a little buyer’s remorse,” Degliomini said. “They have to fight for all the revenue they can.”
“We always knew it would never be a home run in terms of making substantial profits,” the Downs’ Soper said. “We liked the size of the market and thought we could generate a fair return on the investment with the assumptions we had when we purchased the property.”
But when the assumptions change, everything must be recalculated, he said.
Neighbors to the north
New York “racinos” operate on a much more modest scale. Saratoga Springs Gaming & Raceway has offered gaming since January 2004. It now has 1,324 video lottery terminals and limited dining options. But since opening, there has been enough profit to fund a $750,000 renovation of its Fortune restaurant.
“We didn’t have any anticipation of doing an expansion right away,” said public relations manager Elizabeth Wendel. But the venture has gone well enough that a proposed addition will add 400 machines, a 300-seat buffet restaurant and a two-floor nightclub.
Gaming has funded improvements in the Gaming & Raceway harness racing product. The track shouldn’t be confused with the Saratoga Springs thoroughbred track.
“People are wanting to come here and race again because the purse sizes have grown,” Wendel said. The purses have increased from $3 million in 2003 to $9 million in 2004.
Closer to northeastern Pennsylvania, Monticello Raceway in the Catskill Mountains added gaming in June 2004.
“We kind of just opened as a machine-only facility,” Empire’s Degliomini said. On its Web site, the company says it spent nearly $30 million creating a 60,000-square-foot gaming floor and constructing a $2 million paddock area.
But since then “we’ve done a lot to improve our property,” adding an entertainment room that hosts concerts, boxing and other events. But their growth options are limited.
Monticello has 1,500 machines, which Degliomini says is the right size for the Monticello market. “We’re not thinking about adding.”
If the tax rate was lower Monticello might build a hotel or spend more on promotions and marketing, which could fuel demand for expansion. “At a 70 percent tax structure you just don’t have the revenue to build that in,” Degliomini said.
What Empire is trying to do, though, is much more ambitious. Working with the St. Regis Mohawk and Cayuga Nation Indian tribes, Empire is seeking approval for a full-service casino on the Monticello property. The $500 million complex would include 3,500 slot machines, table games, restaurants, shops, year-round entertainment events and a 600-person show lounge. It is expected to draw more than six million visitors in its first year.
That size of project is possible because American Indian casinos are not required to pay any taxes. Instead, the St. Regis would likely turn over 25 percent of slots-only revenue to the state, the same arrangement the Mohegans have at their Connecticut casino. Table game, retail and entertainment sales would not be taxed at all.
More than taxes
The bearable tax rate can vary depending on the characteristics of the market. With Indian casinos and “racinos” in nearby New York and casino resorts likely in the Poconos and Lehigh Valley, Mohegan Sun at Pocono Downs will have to fight hard to attract customers.
“We do know there’s going to be significant competition,” the Downs’ Soper said.
West Virginia might have a comparable tax burden, but there are only four “racinos” in the state and no standalone casinos. Pennsylvania’s legislation calls for seven of each, with a maximum of 61,000 slot machines. Industry observers expect West Virginia to expand its gaming operations soon to meet the new competition.
“I’m sure that West Virginia will have table games immediately,” said Denis Rudd, a professor of hospitality and tourism at Robert Morris University near Pittsburgh.
Paying a high tax rate is less of a hurdle in areas with lower competition, said Smith, of the American Gaming Association. In March 2004 the Isle of Capri paid $518 million for the last riverboat gaming license issued by the state of Illinois, where the maximum tax rate is 50 percent.
“It’s such an underserved market that your win per day, per device in the Chicagoland market is very high,” he said.
Little hope for relief
It’s not unusual for gaming operators to play hardball on tax rates. When it appeared a new Harrah’s casino in New Orleans would be strapped with a minimum $100 million annual tax payment, the company declared bankruptcy. A year later, having negotiated a tax rate that was cut in half, the casino reopened.
That is not what’s going on here, Soper insists. “It’s all about economic reality,” he said. “How much investment makes sense ... does it even make sense?”
Monticello’s Degliomini agrees. “A lot of people think they’re playing chicken, but I don’t think they are. They’re smart business people who are trying to gauge the market.
“There are plenty of good places to invest money in jurisdictions where you can get a great rate of return,” he said, and not just in the United States.
Mohegan’s threat to pull up stakes is unlikely to make state officials blink.
“We felt that it was clear and it was the intent,” said Department of Revenue spokesperson Stephanie Weyant of the $10 million local tax. “Obviously the legislature can change the law if that’s the will.”
That’s not going to happen, said state Rep. Kevin Blaum. “The law is clear. And I think it was clear from day one. I’ve not heard of anybody who wants to change that.”
He said bringing gaming to the state is intended to assist communities and lower property taxes, not to help casinos make more money. When the legislation was drafted in 2004, Blaum and Sen. Ralph Musto negotiated a provision that called for excess local tax money from Pocono Downs to go into a state fund that supports health, safety and economic development projects throughout Luzerne County.
That would seem to leave the ball in Mohegan’s court. To exercise a giveback provision in its purchase agreement with Penn National Gaming, the Downs’ former owner, Mohegan must make a decision before a license is issued.
Or it could press on with its original plan or one that costs less, partly in the hope that as the interstate gaming wars escalate Pennsylvania will add table games to its arsenal.
“Everyone’s fervent desire is to operate a successful Mohegan Sun at Pocono Downs,” said Mitchell Etess, CEO of the Mohegan Tribal Gaming Authority. “The fact is it’s got to be possible.”
HOW MUCH BUSINESS?
Applying a little math to the figures in this article, it appears that the Mohegan Tribal Gaming Authority expects Mohegan Sun at Pocono Downs to earn about $100 million in a year from slots at its temporary casino. That number comes from dividing the $7.8 million added local tax by .08, the difference between a 55 percent tax rate and 63 percent. The result is $97.5 million.
Alternatively, dividing the $2.2 million payment the Mohegans say they anticipated making to Plains Township by .02 yields $110 million.
Keep in mind that slot operators will return 90 percent or more of money dropped in slots as winnings to players. That means something in the range of $1 billion will be wagered in a year. And that is with 1,000 slot machines; the permanent casino could have 2,000 or more.
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