Californians Can Get a Better Casino Deal

January 30, 2008 • Commentary
By Jeff Hooke and Thomas A. Firey
This article appeared in the San Diego Union‐​Tribune on January 30, 2008.

When Californians go to the polls next week, they won’t only be voting for presidential nominees. They’ll also decide whether to expand tribal slot machine gaming in the Golden State in exchange for increased tax revenues. The vote comes as California’s budget deficit is projected to soar to $14 billion.

Gaming supporters are running ads saying the expansion would mean more money for education and government services. But the ads don’t mention that the state could have struck a better deal with the casinos – a deal that would be worth billions over the next decade, and that could lower other taxes while funding government services for Californians.

Slot machines are highly lucrative because gaming is illegal in most places. This allows the relatively few licensed casinos to offer lower odds and smaller payouts to gamers, resulting in windfall profits for the casinos. Some of that windfall goes to state governments in the form of gaming taxes, which casinos gladly pay in exchange for government protection from would‐​be competitors.

Indeed, the casinos would be willing to pay government even more in exchange for that protection. We estimate that California could receive an additional $7 billion over the next 10 years if it raised tax rates on the casinos.

Indian gaming is a sizable business in California, with revenues amounting to $7.7 billion in 2006. Based on the tribal casinos’ market power and their exemption from most federal, state and local taxes, they are extremely profitable. The tribes are not obliged to report their financial results publicly, but a reasonable estimate of operating income before third‐​party management fees, interest payments and rental expenses is $4 billion annually, which could rise to $5 billion if voters approved the proposed expansion. Indeed, if the tribal casinos were listed on the New York Stock Exchange, the resulting shares would have a value in the tens of billions of dollars.

How much would the tribes be willing to pay to operate more slot machines in a constrained market? In April 2007, Indiana decided to use tough negotiating tactics with two local racetracks that wanted to operate 3,000 new slot machines. The tracks ultimately agreed to pay an upfront fee of $167,000 per machine, plus ongoing taxes and purse allocations equaling 47 percent of slots’ revenue.

Other states have not been so hard‐​nosed, resulting in enormous windfalls for gaming operators. In Florida, Illinois, Michigan and Pennsylvania, operators received sweetheart deals from their state governments. Some of those operators then turned around and sold their gaming licenses to others, revealing just how valuable those sweetheart deals could be.

Using those numbers and particulars of the California market, we can estimate the value of the proposal to expand California gaming by 17,000 slot machines, and consequently, to estimate how much money the casinos would be willing to give the state in exchange for the boost. We believe California could receive a whopping $3 billion in upfront money for the expansion plus annual tax revenue of $800 million. Compare that with the current proposal of no upfront money and only $400 million in annual payments.

Asking the Pechanga, Morongo, Sycuan and Aqua Caliente tribes that would benefit from the proposed expansion to offer a fair price is hardly exploitation. The taxes on their existing slot machines are minimal and will remain so. The affected tribes represent a tiny fraction of the California American Indian community, and only a small amount of their gambling revenue aids other tribes. In essence, these tribes already have a license to print money and are asking for permission to print even more.

The proposed slots expansion awards excessive riches at a greatly discounted price to a chosen few. When casting their ballots, Californians should ask themselves if that’s acceptable, or if they should demand a better deal.

About the Authors
Jeff Hooke is a private investment consultant and the author of four books on finance. Thomas Firey is managing editor of Regulation magazine and a policy analyst at the Cato Institute.