Alternative Gaming

ALTERNATIVE GAMING AT RACETRACKS: GOLD OR FOOL’S GOLD?

At the close of 2008, in the United States there were 44 racetrack casinos operating in 12 states. According to the American Gaming Association, these racinos were a bright spot in an otherwise dismal year for gaming. While casino revenues in 2008 decreased for the first time in this decade, racino revenues bucked the downturn. In 2008, racino revenues tripled 2002 revenues, to $6.19 billion, and soared by 17.2% over 2007 revenues.

Racino gaming has fueled racing purses. As a result, horse owners and trainers are increasingly leaving racetracks without gaming in search of a better payout at racinos. In Kentucky, the center of Thoroughbred breeding in the United States, the lack of slot machines (video lottery terminals) at the racetracks has had a deleterious effect on purses, so much so that Churchill Downs has found it difficult to fill some of its races. Many owners and trainers have taken their horses to the greener pastures, pun intended, in nearby states with racinos.

The long-term issue, or the overriding question, is how long lawmakers in racino states will continue, or should continue, to subsidize racing purses. Imagine addressing an audience of taxpayers or legislators, who want to hear your reasoning as to why horse racing should be subsidized by gaming. What is the rationale, or the justification? What would you say?

Suppose, for example, you had to craft a rebuttal to a questioning editorial about slots revenues subsidizing racing that appeared on the Philadelphia Inquirer’s Philly.com on June 19, 2009. In part it read: “If you’re one of the 3,000 owners/operators of a race horse in the state, or holder of one of 10,000 related jobs, saving the state’s horse-racing industry is important. If you’re someone who likes to bet on horse races in your home state, growing the industry is convenient. But if you’re a child whose Head Start funding is about to be cut . . . or a parent who has kids in public schools . . . or a senior citizen facing cuts in health-care coverage, all of which the Senate-proposed budget would affect, maybe it’s time to be a little less generous to the horse-racing industry.” [click here to read the full editorial]

Arguments for Subsidizing Racing with Gaming Profits

The reasoning for subsidizing racing purses with gaming revenues is “tip of the iceberg” logic. The economic impact observed at a state’s racetracks–the jobs and tax revenues– is what is readily visible. Because of the multiplier effect, racetracks create demand for secondary and tertiary suppliers.

Note that this logic is identical to the justification that the federal government used to bail out Chrysler and General Motors. Not only would an untold number of auto workers lose their jobs in a severe downsizing or liquidation of these companies but so would hundreds of thousands more people who were employed by their vendors.

Similarly, cities often help to build stadiums and arenas to entice or keep professional sports franchises largely because of the money the community receives from fans attending games and patronizing area businesses such as restaurants and parking lots. The subsidies are justified accordingly.

Ohio has seven racetracks that are struggling mightily to remain in business because the Buckeye state is surrounded by states with casinos and/or racinos, except for Kentucky. According to a study by Deloitte that was done for the American Horse Council Foundation, the total estimated annual economic impact of horse racing in Ohio is $731 million and $81 million in state and local taxes. Thoroughbred and Standardbred racing account for 8,200 direct jobs and 16,000 total jobs. If the racetracks disappear, so do the bulk of these benefits. In spite of this impact, the only reason that Ohio’s governor, a longtime adamant foe of slots in the Buckeye state, is now a reluctant convert to racinos is that he is facing a $3.2 billion budget deficit and slots at racetracks can offer some relief. The alternative–raising taxes and drastically cutting services–is not the ideal way for the governor to prepare for a 2010 re-election campaign.

Proponents of gaming at Kentucky racetracks, like the Kentucky Equine Education Project, accurately use the same genre of evidence, citing, for example, “2.3 million estimated attendance at Kentucky Thoroughbred and Standardbred tracks, $217 million economic impact of the Kentucky Derby, and $8.8 billion economic impact of the state’s tourism industry, which features the horse industry as its signature promotional attraction.” Notwithstanding the indisputable importance of the bloodstock industry to the Bluegrass state, 45 representatives in the Kentucky House recently voted in a special session of the legislature against allowing the state’s racetracks to install slots (52 voted yes) and the Senate Budget Committee apparently killed the initiative altogether–by a 2-to-1 margin.

Another justification for gaming subsidies to racing is that they provide the wherewithal to fix up the dilapidated structures at many racetracks, or to build new facilities, improve food offerings, and cater to customers. With the legalization of slot machines in Pennsylvania, The Meadows Racetrack & Casino south of Pittsburgh was transformed from a deteriorating Standardbred track into a modern complex encompassing a casino, entertainment, a bowling alley, and improved harness racing. This new and inviting ambience might encourage more racing fans to attend in person.

Arguments Against Subsidizing Racing with Gaming Profits

The standard operating procedure in corporate strategy is for top management to redirect cash flow from product lines that are either mature or declining to product lines with the growth potential to become the cash cows of tomorrow. A cash cow is a mature business that earns more than it needs to maintain its market share position. For instance, at General Electric, some of the profits from slow-growing mature product lines like major appliances are put to work in GE’s most promising nascent businesses.

The main argument against using gaming cash flow to enhance racing purses is that pari-mutuel wagering is a mature product and should be able to stand on its own. Taking cash flows from a growing product line like gaming and diverting it to a mature product line like pari-mutuel wagering is normally contrary to conventional corporate strategy.

Consider MTR Gaming Group. For the year ended December 31, 2008, the Company increased revenues over 2007 by 13.2%–from $415.8 million to $470.8 million. Gaming comprised 88.8% of revenues and pari-mutuel commissions accounted for 3%, with the remainder coming from food, beverage, lodging, and other. Pari-mutuel wagering is such a mature product and such a small part of the corporate portfolio that the rationale for subsidizing purses is difficult to fathom…unless one can convincingly make the “tip of the iceberg” argument. A West Virginia legislator has suggested that MTR Gaming Group’s Mountaineer Casino Racetrack & Resort abandon live racing and become a simulcast facility only.

The situation is much different at Canterbury Park Holding Corporation in Minnesota. In 2008, revenues from racing constituted 29% of total revenues. Card club revenues were 52% and most of the remainder of total revenues came from concessions, admissions, and parking. In this instance, advocates of horse racing would have a much sounder argument than they would at MTR Gaming Group.

Analysis

The strength of racing’s position, in a given state, for receiving purse subsidies from gaming will depend on its ability to show factually that it is responsible for many jobs, significant tax revenues, and the well-being of a large number of ancillary businesses. Horse racing interests in Kentucky, Maryland, and New York, for instance, would have a strong argument in this regard, whereas the case would be harder to defend in states where horse racing is not a consequential agribusiness. However, as the situtation in Kentucky demonstrates, irrefutable hard facts about horse-racing’s importance as an economic contributor do not always persuade government officials.

If management of a racetrack can get alternative gaming, by all means it should do so. In the near term, enhanced purses, larger breeder funds, and other benefits will be forthcoming. But racehorse owners and breeders are chasing fool’s gold if they expect alternative-gaming subsidies to last forever. History is clear as can be that governors and legislators covet additional revenues, especially when times are difficult, and gaming revenues are an easy target. With the explosion in Medicaid and other social services, the future looks to be one in which a budget crunch is a perpetual problem, as in California, New York, and most other states.

The pari-mutuel industry needs to use whatever monetary largess it receives to modernize its facilities, improve customer amenities, figure out how to attract more fans, and come up with innovative bets that do not take an expert handicapper to understand. Otherwise, subsidies will further weaken a patient already reeling by rendering them even more dependent. At some point, the patient will have to stand on its own.

In addition, there is the very real risk that slots and table games will decline in popularity, as they proceed through their product life cycles. In particular, slots may not be of much interest to today’s Internet-oriented younger generations as they age.

Also look for some of the states to rathchet up the competition by expanding gaming even more. States with slots will seek table games (e.g., Pennsylvania) and states with casinos will try to install sports betting (e.g., Delaware). Then there is always the possibility that Internet gaming will be legalized. The end result is that, in this competitive milieu, slots will be pretty tame fare and certainly not a long-term solution to racing’s problems.

However, as renowned economist John Maynard Keynes famously observed, the “long term is a misleading guide to current affairs. In the long run we are all dead.” Racing’s dire straits in many venues indicates that the only realistic course of action is for racing interests to seek slots revenues to survive in the here and now and live on to fight for customers in the unknowable future.

The July 11, 2009 edition of Horse Racing Business examines the subject “Can Slots Players Be Attracted to Pari-Mutuel Wagering?”

WHILE KENTUCKY SLEPT

January 17, 2009 by Bill Shanklin

“Yesterday’s Winner is a Loser Today”

Ernest Tubb

Whether or not you agree with the Federal-government bailout of Chrysler and General Motors is a personal preference, mostly depending on your ideology. But anyone would concur that the elected officials in Michigan, Democrat and Republican alike, and the business community fiercely rallied behind the Wolverine State’s signature industry and spoke with a unified voice. This “golden goose” was not about to go bankrupt if they could prevent it.

In Kentucky, the industry comparable to automobile manufacturing in Michigan is, of course, the breeding, selling, and racing of horses, which directly and indirectly employs thousands of citizens, attracts significant out-of-state and foreign investment, promotes tourism, and undeniably contributes plenty of state and local tax revenues.

Yet all is not well, not by any means. The racing industry does not need a bailout, but it does require a chance to compete on a more level playing field with casinos.

Churchill Downs, Ellis Park, and Turfway Park are fighting for their economic lives–with one hand figuratively tied behind their backs–against nearby Indiana casinos. Even were Kentucky to legalize video lottery terminals, the tracks would still be disadvantaged because the Hoosier-state casinos offer both slot machines and table games.

Currently, Thoroughbred trainers in Kentucky often send their horses to Mountaineer Casino and Racetrack in Chester, West Virginia and Presque Isle Downs in Erie, Pennsylvania, as well as to other racing venues where purses are supplemented by alternative gaming.

Presumably, as in Michigan, elected officials in Kentucky–from both political parties–and business interests would have put aside their differences and unified to do everything possible to rectify the situation that imperils Kentucky’s version of the golden goose and thereby affects so many people, present and future. As rational as this supposition may be, it is false.

Defying common sense and the economic enhancement of his State, the most recent former governor, Ernie Fletcher, a Republican from Lexington, the heart of the Bluegrass region itself, never tried to take the bold actions that would conserve and strengthen Kentucky’s vital horse-racing enterprise. Enter the present governor, Steve Beshear, a Democrat, who defeated a field of contenders in his party’s primary by focusing essentially on one issue–installation of racetrack casinos. He won and then handily defeated Fletcher in the general election, again with a laser-like focus on racetrack casinos.

Once in office, Beshear promptly proved to be powerless to get the bi-cameral legislature, with one house overwhelmingly controlled by his own party, to pass the enabling legislation to allow the voters of Kentucky to decide whether to amend the constitution to permit racetrack casinos. The new speaker of the Kentucky House of Representatives, elected on January 6, 2009, is much friendlier to racing than the individual he replaced. Inexplicably, however, Beshear has indicated that he does not intend to revisit the racetrack casino issue in 2009 and the president of the Senate remains adamantly opposed to expanded gaming, so prospects don’t look bright in River City and the Commonwealth.

Gambling is usually debated along cultural, religious, and moral lines. The view here is that the alternative gaming question for Kentucky is in fact really one of long-range economic development on which the Commonwealth’s fate heavily depends in the decades ahead. To be specific, alternative gaming is not itself the focal point for economic development, but rather, is a means to an end: generating some of the capital to expand and diversify the Kentucky economy of tomorrow.

Industries, like people and products, have life cycles.

Pittsburgh, for example, was and still is known as the “Steel City.” Its famous football team is appropriately named “the Steelers” and its “Steel City Beer” is another namesake. But the Pittsburgh-area economy is no longer dependent on steel, as it has made a bumpy transition after steelmaking moved offshore and to mini-mills.

Another illustration: Dubai is diversifying at a frenetic pace in response to peak oil, although it has encountered some problems of late stemming from the credit crunch.

Leaders of cities, states, regions, and countries who are farsighted and want to provide for future generations, begin to broaden their economies before they are forced to do so. It is nearly a certainty that today’s most prominent industries will be eclipsed someday.

Kentucky’s key industries traditionally have been bourbon, tobacco, coal, and horse racing/breeding. Bourbon and tobacco are in decline, owing to the lifestyles of contemporary consumers and to unfriendly government policies. Coal is still in strong demand, but is most likely living on borrowed time. President-elect Obama is on record as being hostile to coal and his choice for Secretary of Energy, Nobel Prize-winning physicist Steven Chu, said that new coal-burning power plants are his “worst nightmare.” Lastly, horse racing is in decline in Kentucky and nationally.

Reliance on these industries and the status quo does not bode well for Kentucky. It is already a poor state that ranks low on the most important factor that it takes to compete in an increasingly global high-tech society: quality education. (My family has deep roots in Eastern Kentucky and I have visited there often and have seen up close the poverty and the extremely limited resources that dedicated teachers have to work with. Kentucky’s Fifth Congressional District has the shortest life expectancy in the United States.) Further, national ratings of private and public institutions of higher education do not have any Kentucky university remotely proximate to the top echelon on the criterion of scientific research output.

Where must the money come from to mitigate this unfortunate and ongoing situation, if at all? The answer is evident: mostly from the tax revenues that Kentucky collects from its mature industries of the present, the cash cows, and uses to educate and train its citizens in the skills appropriate to a high-tech, knowledge-based economy.

Thus it is difficult to fathom why elected officials would not do everything in their power to buoy the State’s current signature industry in order to gain more tax revenues for a longer period of time to foster economic development of nascent industries and companies. Oddly, a democratically-elected body of legislators has persisted in denying their own constituents the free choice to decide for themselves, in a plebiscite, the fate of racetrack casinos.

Kentucky’s bloodstock and racing enterprises need to be bolstered by allowing racetrack casinos, if, for no other reason, than for the economic vitality of the Commonwealth long after present-day elected officials are history. Instead, the State’s restrictive laws on racetrack offerings have the unintended effect of promoting economic development in Indiana, West Virginia, and other rival venues, because countless Kentucky residents go there to eat, drink, gamble and stay overnight.

Contemplate a gloomy but plausible scenario for Kentucky, circa 2059:

The Commonwealth of Kentucky is about like it always has been in the economic pecking order among the states, muddling along in the lower ranks and never having found large-scale industries to replace coal, bourbon, tobacco, and horse racing. This failure kept the State from making the investments in education, infrastructure, and business incentives necessary to compete effectively in the mid-21st century.

The Bluegrass of 50 years ago is mostly a memory. Many of the farm owners tried to save their land from development, but the population growth ultimately swamped their efforts and the price of real estate and the faltering bloodstock business made it prohibitive for agricultural use. Calumet Farm is now a residential development, Calumet Farm Estates, complete with white fences and the old red entrance gate. The single remaining barn is a community center for subdivision residents. The Kentucky Horse Park shows visitors a short movie depicting what the Lexington area looked like when it was blanketed by horse farms. Churchill Downs and Keeneland are still in business, as shadows of their former selves, whereas the rest of the State’s racetracks are gone. Most of the secondary and tertiary suppliers to the racehorse industry–veterinary clinics, feed vendors, bloodstock agencies, advertising agencies, and the like–have downsized or vanished.

After years of sleeping while the horse-racing industry plummeted, legislators finally came to and rose above personal agendas and politics. The racetracks got alternative gaming, but it was too little too late. By the time racetracks were permitted to install slots, the machines’ popularity had run its course. Generations raised with far more challenging interactive electronic devices and 3-D Internet found the machines boring.

Indeed, no one knew it at the time, but the slot machines of 2009 would be passé in 10-15 years. Web 3.0 was just beginning to emerge and it would be revolutionary. With 3-D Internet, for example, a husband can try on a suit at a clothing retailer, look in a store mirror, and have his wife at work or home comment on the appearance. Web 3.0 allows a poker player to be in his family room in Des Moines, Iowa, and occupy a virtual seat at a table in the poker room at a casino in Las Vegas, where he plays with electronic cards. There is no distinction between betting at a racetrack and wagering from elsewhere, as everyone uses a mobile device.

Governments long ago gave up the impossible task of trying to stop gaming within their borders and instead decided to regulate and tax it.

Looking back, people of 2059 are amused and perplexed when they learn about how controversial slot machines were to the Kentucky legislature of 2009. Compared to today’s technologies, slot machines were pretty tame stuff. However, a University of Kentucky history professor put the moral argument that took place over alternative gaming into perspective. She told of how the Viennese waltz was scandalous when it was introduced, the product of lower class society and gin mills, because the man and woman held each other ‘sinfully’ close while dancing. She said that about 100 years ago, an entertainment icon named Elvis Presley appeared on the top-rated television program of its day, the Ed Sullivan Show. Presley’s hip-swiveling gyrations while singing were so ‘vulgar,’ many complained, that Sullivan ordered his camera crew not to take pictures of Presley below the waist.

People are heard to lament, even now, how much better shape Kentucky would be in economically if the horse-racing industry would have been sustained earlier and longer by slot machines. At least the machines would have filled tax coffers for awhile and provided some of the wherewithal for investing in the future of Kentucky.

The horse was out of the barn [pun intended] when elected politicians seriously endeavored to save the racing and breeding industry.

The January 31st edition of Horse Racing Business constructs a brighter future for the Commonwealth in When Kentucky Awoke and sketches how the horse-racing industry can be used as an economic lever to achieve it.

Coming Attractions

January 31: When Kentucky Awoke

February 14: Racing’s Misguided Muhammad Ali Philosophy of Publicity

February 28: Churchill – Down or Up?