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Sitting Pretty
They came with a canny investment on a prime piece of golf course land on the Cotai Strip and now feel they are well poistioned amid the chill of the global economic meltdown. Harrah’s CEO Gary W. Loveman tells Macau Business why he wishes they’d been able to enter the enclave’s gaming run when all the others did
Harrah’s had some success refinancing its US$500 million short-term debt with private equity companies Apollo Global Management and TPG Capital. Operating cash flow and private equity was king in a lender’s decision to sign off a cheque, but now they’ve closed the tap. What are your plans for long term refinancing of the $24 billion?
Gary W. Loveman - Our company is fully financed, indefinitely. We don’t have any unfunded capital requirements, unlike some companies you see here [in Macau/ Cotai] where they have massive projects to finance – we’re not in that position. When we closed our privatisation in January we had the company financed for the indefinite future. We continue to be in a very good position. The earlier maturities we have are due in 2010 and 2011, and we just have to position ourselves to be able to pay those when they become due – that’s been our intention all along. We initiated an exchange note offer, which is an exercised trade debt instrument with existing holders but we had made preparations to make sure we paid those notes in advance.
Massive amounts
You’ve been quoted saying that the gaming industry will have to change the way they do business. What does your background in the Federal Reserve Bank and your Ph.D. in economics from M.I.T. tell you about the economic crisis for the gaming industry?
For a very long time the industry has engaged in competition largely through capital. Whatever you build, I’ll build something bigger and more expensive and the next guy will build something even bigger.
The returns of capital in the industry over a very long period of time have been quite low. In certain cases not even equal to the cost of capital, and that recently reached a fever pitch here with mega projects in Macau. It also happened in Vegas in the United States - even in some secondary markets where very large investments have achieved very low returns early on – and in some cases are likely to experience very low returns –because of the absolutely massive amount of money that was spent on them.
For reasons that are still not clear to me, banks and other credit suppliers were willing to lend enormous sums into very uncertain projects.
Can you be more specific?
City Centre, Echelon Place, some of the projects here in Macau. Another is St. Louis called Lumière that cost US$500 million to build and so far has generated one million in the first nine months.
What on earth could persuade an institutional investor to throw its money away?
I’ve heard of bankers that love a project but don’t like the casino that creates. Everybody is enthusiastic about the development; they just don’t like it once it’s over. A development is an interesting thing, you can have pictures of it, you can describe it, you can tell everyone how beautiful it is. The day it opens it actually has to perform so people’s sentiments often change when it turns from a vision to something that actually is operating. The credit crisis has turned this on its head. Now businesses that actually make money are more valuable than an idea or a project.
‘Arms race’
Is that a bad thing?
I think that, broadly, it’s helping. Stopping this ‘arms race’ of who has the most expensive building, the fanciest restaurant, the largest convention centre, is a healthy thing for the industry to go through. It’s not a consolidation but a catharsis. People really have to stop and ask if these projects can make money.
Speaking of which… Harrah’s was negotiating a $535 million casino in Sumner County South of Wichita, Kansas, which was cancelled. Was this all because of the crisis in the financial markets?
You can’t finance these projects if you have to go out and raise money for it. There’s just no market to provide debt finance. Every one of the companies that were given opportunities in Kansas have all withdrawn, including ourselves and it’s all for the same reason – you simply can’t finance these projects because of the liquidity crisis. There’s no lender prepared to lend money on that scale into the casino industry. We liked that project very much, we thought it was a very profitable project in a very desirable market, but at present it is not one we can finance. Hopefully we will get another shot at that, later.
Is this a wake up call? Not so long ago the sky was the limit, especially in Macau and in Asia. Do you see what has happened as a lesson to all?
I think it is. The fundamentals underlining the use of leverage had generally got out of hand. And you certainly saw it in the gaming industry and in lots of others. Now you’re seeing perhaps an excessive reaction at the other end of the spectrum. But hopefully, things will settle in a more reasonable place.
In other words, the crisis has killed everyone’s expansion plans, including Harrahs’ ?
Unless someone has something that is largely finished – like City Centre or Steve Wynn’s Encore in Las Vegas, or a project that is a very long way towards completion – I think you’ll see very little activity in the near future.
Harrah’s along with MGM, and under the AGA umbrella, has been pushing for the legalisation of Internet gambling. You already own the World Series of Poker and have a comfortable step into the online poker and gambling world. Do you think Internet gambling is something that could happen in the short term in the US under the new administration?
Well, let me take that in three tranches: I don’t think we have any chance of having Internet sports betting in the US anytime in the near future. The issue is not so much the administration but the sports leagues and the athletic associations who oppose it – very forcibly – and they are a very persuasive political group.
Internet casino gaming, slot machines, 21, that sort of thing, has a chance, but less so than the third case, which is poker.
Poker has a very good chance, it would have had a good chance with the current administration over time, and it will have an even better chance with the Obama Administration. Poker is seen by politicians in the US as a very different activity from casino games. Its seen as much more as a skill oriented game with a more intellectually meaningful content. It is also something they are all very familiar with.
Politicians either are, or consider themselves to be poker players while many are not active casino visitors and so I’ve always thought that poker has a very strong argument in the United States.
There are two issues that press this. Firstly, the regulatory lapses with off-shore casino gaming operators – where customers were defrauded of the money they wagered on these websites. It’s very difficult for American regulatory bodies to police these offshore entities so there’s an argument that if this is going to happen why not have it done properly by American regulated entities. Secondly, the need for tax revenue which would support the liberalisation of online gambling.
Harrah’s suffered a $130 million loss in the third quarter, compared with a $244 million profit over the same period last year. You’re in the process of closing down a data centre in Memphis. How long can the company withstand losses and what is Harrah’s doing to keep the money rolling in their operations?
Like any casino operator, we have suffered a decline in revenue. The challenge is to get our expenses to be commensurate with our revenue so that we can hold our margins. Unfortunately that has required some reductions in staff, pursuit of efficiencies in all areas such as the consolidation of the Memphis data centre with our IT activities in Las Vegas which is part of a general effort to contain costs.
Whale hunting
Market position-wise, and since you joined Harrah’s, your strategy has been to move away from the dependency on “whale hunting’’ and focus on the mass and family markets with the Total Rewards loyalty programs which have since gathered close to 40 million customers. Will that be enough?
‘Whales’ is a concept that exists really in Macau and Las Vegas and perhaps Australia, but not in many other places. You don’t have whales in St. Louis or Chicago or places like that. The customers we have in these regional markets are not grind customers, they are not US$20-a-day customers, they might be US$1,000 a day costumers, so in that market they are in the VIP category and that’s really where Harrah’s focuses its attention.
But in Las Vegas, the only property that we have that caters to the whales is Caesers Palace and it does very well, it’s a very big player in that market. But what you’re suggesting is accurate, the Total Rewards system that has 43 million American participants. It is by far the largest and organises interaction with those customers around the country and has really helped us outdo our competition. That’s absolutely what we’ll keep doing.
You’ve recently stated that the industry is going to have to get accustomed to the notion that not every project is a good project. Is Macau a “good project” now that the Central Government has turned off the tap?
I think most of the projects in Macau have certainly been good projects. Starting with the first LVS project; the Sands Macao. This was an extraordinarily successful project. Steve Wynn’s project has also been an extraordinarily successful project. I think this big Venetian [Cotai] project will, over time, be a very successful project and of course several others. The same cannot be said for some cases in the United States where I think there have been some projects that are either underway or have been opened that are really facing a very tough future. The amount of money that was spent for what the markets could tolerate was just excessive and you wind up driving the rate of return on capital down everywhere as a result and that leads to a very bad dynamic for the industry over time.
In Macau earlier
With the current grim outlook, and the fact the multinationals who expanded into other international jurisdictions are haemorrhaging money, are you happy you didn’t end up investing in Macau from an early date?
No. I would have liked to have been in Macau many years earlier. We didn’t because we had a very demanding American regulatory footprint to address. But if we had been able to come to Macau when [LV]Sands originally did, or some time shortly thereafter, that would have been a wonderful opportunity for us.
Now, today, as you see across the skyline, we’re obviously going through a period where there’s too much supply trying to come forward for what the market will immediately absorb. But the long term fundamentals are still terrific.
Do you think that if the Central Government eased the visa restrictions that would have an immediate effect on all of the Cotai projects?
I don’t know exactly what role that would play. I think it’s manly that the market has absorbed an unprecedented increase – percentage wise, far greater than Las Vegas has ever experienced. When you have this kind of capacity coming to a market, at least in respect to hotel rooms in sheer square footage, it stands as a massive increment. Whatever the Chinese Government intends to do in the near term, this situation will gradually ease itself forward. I think the big unanswered question at the moment is about the convention and meeting business and whether it is going to mature and be as promising a business as was originally imagined.
Few believe that Harrah’s bought this property just for a golf course. Many speculate that if the next Chief Executive decides to open up the market to more operators, Harrah’s would be one step ahead with a prime piece of land…
We made it clear that we wanted to have the Caesars brand active in Macau in the future. Before we bought the golf course we did not have the ability to serve Caesars customers anywhere in Macau, many of which are customers of ours in Las Vegas today.
We could not entertain them, meet with them or take care of them - we couldn’t do anything. This provides us with an option. It provides a place for us to take care of those customers and in the future, as events develop in Macau, at least we have a significant landholding here that we can use for golf and entertainment and we’ll see where that takes us.
Asia expansion
Since the US and European markets have arguably matured, have you turned your focus to Asia? Vietnam, Taiwan, or even Japan?
Our strategy is to be active in all of those markets but you have to be aware of the time that these developments historically have taken. If you look at Singapore, for example, of an especially well organised process, from the day that the decision was taken to go forward to the day that first casino will open, its eight years. It’s a long time. We’re optimistic about the prospects in Japan, Taiwan, Vietnam, Cambodia, South Korea, and other markets, but we go into this mindful that these things take a long time, so you have to position yourself carefully.
We think we have a brand that makes a lot of sense in these markets, we recognise that real estate positions and partnerships are important in these markets and we’ll work patiently to that end, but – there used to be an expression in economics that the stock market predicted eight of the last three recessions - the same thing applies to casino development; people champion 12 of the next three casino developments.
