After all, one important symptom of a hardening of the corporate arteries is supposed to be the growth-through-acquisition strategy, indicating that industry leaders can only gain market share by gobbling existing market share. That is hardly the case for casinos. The potential market is huge. Take Asia, for example which has experienced an enormous burst of casino development. Macau, the former Portuguese colony that reverted to China in 1999, is going through an unprecedented casino development boom. Singapore has recently awarded two casino licenses for the development of integrated resorts that are designed to double visitor arrivals and expenditures over the next several years.

Big Gaming, despite the M&A activity, is still not that big in relative terms. Industry leader Harrah’s Entertainment ranks only 309^th on the Fortune 500, and only two gaming companies (MGM Mirage being the other) make that list at all.

Casino companies are still, very much, domestic operations. Even the most aggressive American operators within the industry, such as Las Vegas Sands and Wynn Resorts, have done little more than establish beachheads overseas in existing and emerging markets such as Macau and Singapore. Other international companies such as Genting International, PBL and the PBL/Melco joint venture in Asia have major expansion plans and are becoming significant players in the industry.

At a 2003 gaming conference in London, panelists were discussing the potential role of American casino companies in developing Las Vegas-style resorts in the United Kingdom. Some in attendance were confused when a speaker mentioned Harrah’s. Did he mean Harrod’s, the storied British retailer? The confusion was perhaps understandable. Both companies even employ a similar font in their logos.

At one level, such confusion is surely a blow to the corporate egos of casino companies. But at another, more important level, such anecdotes underscore one of the most compelling attributes of the gaming industry: the upside growth potential is enormous.

Gaming has a long way to go before it reaches maturity. That is certainly true internationally. Over the next five years, US$27 billion dollars are being invested in new properties in Macau and Singapore alone. Japan is rumored to be considering the legalization of casino gaming, and other jurisdictions such as the United Kingdom are modernizing their gaming laws to encourage new investment.  These countries are in various stages of planning or implementing or considering legalized casino gaming.

Notably, Macau’s gaming revenues will surpass those of the Las Vegas Strip this year. With the construction and opening of several mega-resorts planned for the Cotai section of Macau beginning in 2007, the expansion of gaming will continue. The major questions now are:

Can this present demand be maintained?

Will China, the main source of gamblers to Macau, continue relaxing travel restrictions for mainlanders to travel to Macau?

Macau opened its market in 2002 when the government cancelled the 40-year monopoly held by Stanley Ho through his STDM conglomerate.  As a result, other operators, including Las Vegas Sands and Wynn have already opened properties there, and MGM Mirage and PBL-Melco plan to open within the next 12 months.  The opening of the Macau market coincided with China’s decision to waive restrictions on travel by Chinese nationals in many areas to Macau.  This has led to an influx of mainland Chinese visitors.  At the same time, we have witnessed in the last 10 years the greatest sustained economic growth the world has ever seen in China, which means that this surge of visitors to Macau has plenty of disposable income.   
No one really knows if the present demand can be maintained.  At the same time, foreign and existing operators have pledged investments of more than US$20 billion over the next 5 years, which includes building a replica of the Las Vegas strip on reclaimed land off the Macau peninsula.  Clearly, this is Las Vegas Sands’ greatest gamble. It is the largest investor in Macau, with more than US$8 billion already committed.  

At the same time, there are infrastructure and regulatory issues that need to be addressed by the Macau government to ensure that Macau can cope with the anticipated influx of visitors. Emerging markets in Asia and elsewhere represent great opportunities for U.S. and international operators who possess the three key ingredients for global success: Licenses, know-how and brands. Companies from Harrah’s to MGM Mirage to Boyd Gaming, Genting International and others have already endured grueling license applications, investigations and hearings.  They possess the right expertise and assets, including databases of well-heeled gamblers, known as “whales,” from every continent, save Antarctica. Additionally, the casino brands that have been carefully cultivated have finally come to mean something internationally as well. Indeed, when Harrah’s bought Caesars Entertainment in 2005, it captured more than a few storied properties in Las Vegas and Atlantic City. It captured a true global brand, one that is far stronger and more easily recognizable than the Harrah’s brand itself.

The globalization of gaming has created some interesting, and initially unexpected twists for this industry.

Slot machine

Another side effect of gaming’s globalization will clearly be that international companies are growing increasingly comfortable with American-style licensing processes. The rigorous application process, for example, in Singapore (in which our company, Spectrum Gaming Group, performed background investigations on behalf of the government) has shown foreign companies that they can withstand intense scrutiny. This should increase the comfort level -- not to mention the licensability -- of international companies, which could in turn lead to their potential entry into the domestic U.S. market.

Casino operators, however, need not necessarily look overseas for opportunities. Indeed, we believe the United States itself is an underserved market, with some tantalizingly valuable opportunities for growth. Various sources of information -- from those widely available to those known only to industry insiders -- all point toward the inescapable conclusion that adults who do not participate in casino gambling far outnumber those who do.

The annual Harrah’s survey, which paints a portrait of the state of the American gambler, indicates that about 25 percent of American adults visited a casino at least once in the past 12 months. That low percentage, which has remained largely consistent in recent years and among similar surveys, should surprise no one. Commercial casino gambling is still a relative rarity in the United States, with facilities in only 11 states and racetrack casinos -- or racinos, in industry parlance -- in another 10 states.

That does not include states such as Connecticut or California, which have major tribal casinos that equal, in size and quality of amenities, major properties in Las Vegas or Atlantic City.

At the same time, that low percentage demonstrates that most Americans still do not view casino gambling as a favorite way to spend their hard-earned discretionary income.

Through most of their existence, commercial casino companies have focused on their core, gaming-centric customers. Those customers, despite their being a minority of the adult population, are relatively affluent with sizable slices of the two commodities necessary to partake in gambling as a regular activity: time and money. American gamblers tend to be a little older (the median age is 46 vs. 45 for the overall adult population), and a bit more affluent (the median household income is about $57,000 vs. $49,000 for the overall population). This older demographic -- including an outsized portion of retirees -- certainly has the time to spend on the casino floor. And those customers have been very good for the casino industry, which will generate about $60 billion this year in domestic gross gaming revenue. (To avoid any confusion, GGR -- commonly known within the industry as “win,” is not the amount wagered by gamblers. It is the amount left over after all winning bets have been paid. It is the industry’s top line.)

Such numbers become even more eye-popping when you note that they come from a minority of the adult population. Even in markets where adults enjoy close proximity to casinos, such as Nevada, that 25 percent penetration rate rarely exceeds 40 percent.

The industry’s long-term agenda then is to continue evolving into mainstream entertainment, which would allow it to penetrate even deeper into the adult demographics. That does not mean turning non-gamblers into gamblers, a chimerical goal. Rather, it means developing new attractions to attract new customers.

This effectively means creating new cash registers to capture greater levels of discretionary spending from greater numbers of customers. It means following the model established in Las Vegas where a growing number of mega-resorts along the Strip have morphed into destination resorts in which casino revenue is now less than 50 percent of the overall revenue pie. Singapore, with its two planned integrated resorts scheduled to open in 2009 and 2010, and Macau with the opening of the Cotai strip will open up new venues to new markets largely untapped.

Such an evolution is the ultimate goal of most major casino companies. This business model suggests that a casino is just one means of generating revenue, one piece of the entertainment mosaic. Of course, it is the most important piece, and allows major resort operators to price all their other amenities more competitively.

That doesn’t mean a visit to Las Vegas is a “cheap” trip. Rather, a visit to the Strip is perceived as a “value” to customers. They can do more, and do it well, for less than they would likely pay elsewhere.

The greatest threat that could derail the American casino industry’s bright future is not economic, but is rather political. In state after state, the tax rates that politicians impose on casinos seem to inevitably come in at around 50 percent. (These are, of course, the “effective” tax rates. When a casino has to pay 10 percent or more of its revenue to the racing industry to supplement purses, that is technically not a tax, but it has the same effect.) 

The casino industry has struck a devil’s bargain in the states in which it hopes to expand. Political leadership in such states invariably views casinos as a new and “free” revenue source. Not surprisingly, casino legalization tends to accompany economic downturns. The explosion of riverboat casinos followed the recession of the early 1990s, for example.

Politicians are simply tone-deaf to any arguments that tax rates should be lowered to more reasonable levels. They choose not to listen to any notion that lower tax rates would result in more capital investment in their states, thus creating more jobs, attracting more visitors and ultimately generating more revenue.

The result is that casinos will expand to more states, but casino operators would have no incentive to build the type of facilities in these states that would emulate the Las Vegas model. 

With a tax rate of 50 percent or more on the top line, operators would simply not be able to generate the sort of returns that would justify significant investments.

In exchange for this high tax rate, operators usually gain some level of geographic exclusivity. States issue a limited number of licenses with some distance between the casinos. If, as is often the case, the licenses go to existing race tracks, that geographic distance is already built into the equation.

Operators essentially gain casino franchises, not unlike, say, a Dunkin’ Donuts franchise. They gain exclusive access to their local drive-in market, and build their revenue projections based on the potential size of that market.

The casino industry, in response to this political fact of life, is developing into what can be best described as a hub-and-spoke model. The entertainment destinations serve as the hubs, while the high-tax franchises function as the spokes.

Naturally, the hubs are the markets in which casinos have attained some level of critical mass, such as Las Vegas, Atlantic City and the Gulf Coast of Mississippi.

In these markets, customers can find a broader choice of dining, entertainment and shopping, and can stay in hotels that are attached to the casino.

The spoke markets serve a different purpose. Those are the locations that cater to the nearby population. Largely because of the high tax rates, these franchise locations will have neither the amenities nor the promotional cash to offer customers that would allow them to compete with hubs.

The goal then is not for franchises to beat the hubs, but to join them. Or vice versa.

Not surprisingly, smart casino operators are trying to develop properties in both the hubs and spokes. Consider the case of industry leader Harrah’s Entertainment. At this writing, Harrah’s operates 40 casinos in the United States in markets large and small, and has a database of about 47 million adults.

Prior to its 2005 acquisition of Caesars Entertainment, Harrah’s was already large and already had a presence in major hubs such as Las Vegas and Atlantic City, as well as in most of the spoke markets. The problem, however, was that Harrah’s lacked the major brand presence in its hub markets.

Notably, prior to the Caesars acquisition, only 18 percent of Harrah’s customers were staying at Harrah’s properties when they visited Las Vegas, in part because Harrah’s lacked a sufficient number of hotel rooms.

That problem evaporated when Caesars became a Harrah’s brand. Not only did Harrah’s customers have more choices, they also enjoyed greater aspirations. Now, when slot players in America’s heartland play, they could earn points towards free stays at Caesars Palace and Caesars Atlantic City.

Over time, Harrah’s will increase the number of customers in its database, and will penetrate deeper into the demographics of American consumers. As a result, its profitability will increase.

Other companies will follow that model to whatever extent they can, and the growth will continue. Casino operators will continue to develop properties in both hubs and spokes, and will target non-gaming customers as well.

Michael Pollock and Fredric Gushin are the managing directors of Spectrum Gaming Group, while Paul Bromberg is chief operating officer of Spectrum OSO Asia Ltd. The companies maintain offices in Atlantic City, Princeton, Bangkok, Macau and Tokyo.