Treasure Islands - Five Golden Rules
Will Taiwan ever manage to legalise casinos?Friday, 29 May 2009
Five Golden Rules
Ways of guaranteeing success for a new casino jurisdiction
Harrah's, the US-based gaming operator, chose not to tender for entry into the Macau market following liberalisation there, but has been linked more recently (albeit on a speculative basis) with Taiwan.
Michael Chen, President, Asia, Harrah's Entertainment Inc., has in the past indicated some enthusiasm about the likely opportunities in Taiwan. His boss, Gary Loveman, Chairman and Chief Executive of Harrah's, said earlier this year the jurisdiction is "potentially a terrific market," although crucially he added it would depend on the levels of taxation.
Mr Chen includes attractive tax rates as one of five key elements in successful development of a new casino market.
"It is all about competing for the customer, says Mr Chen.
"There is great product all around the world. Your project has to be competitive with all the other products in the region. You have to make your market attractive from the get-go.
"The five rules for a successful gaming market are as follows: you need to have open access—anybody has to be able to go; you need to have an excellent location; you need to have tax rates—especially in this challenging environment—that invite investors; you need to have a progressive, predictable, regulatory environment, so that investors can have confidence about what they're getting themselves into; and you also need what I call a right-sized licensing paradigm," adds Mr Chen.
Access all areas
On the open access issue, Taiwan arguably scores middling marks. On the plus side, she has shown no inclination so far to go down the nanny state road by imposing the sort of foreigners-only conditions seen in all South Korean casinos save one. Mr Chen argues South Korea's casino industry has been ill served by such strictures, and he says it shows in the quality and financial performance of the properties in that market.
"The two largest foreigners-only casinos in the world—Atlantis in the Bahamas and Paradise Walker Hill near Seoul [South Korea]—do no more than US$250 million each per year, and yet they are in great markets. Paradise Walker Hill is only a couple of hours flight from Japan and China—both wonderful target markets," says Mr Chen.
The jury is still out, though, regarding Taiwan's short list of locations for casinos—the outlying islands of Penghu, Kinmen, and Matsu. It smacks of political compromise. It allows the government to pay lip service to the idea of regional development (rather in the manner of South Korea's casino programme) while placing practical barriers to day-to-day access by domestic players, thereby possibly placating Taiwan's anti-gaming lobby.
That could have an impact on returns for the project. In the current challenging financial markets, capital spend has to be calibrated very carefully in relation to annual yield on earnings before interest, taxation, depreciation and amortisation (EBITDA), suggests Mr Chen of Harrah's.
"In the 'good old days' when investors might have been happy with a 15% EBITDA yield, a project like Walker Hill might have been a one billion dollar project. In today's market you might only be able to justify a US$400 million project," he explains.
"If you look at Kangwon Land [casino in South Korea] versus Paradise Walker Hill, it's an open access casino, but a pain in the butt to get to. Yet look at the numbers. It does four times the revenue of Walker Hill next door to Seoul. Kangwon Land is generating twice as many jobs and four times the tax revenue. Open access is critical," suggests Mr Chen.
Location, location, location
On Mr Chen's second point—excellent location—in general terms Taiwan arguably has some important strategic advantages. She has by regional standards a relatively strong domestic market—an affluent population of 23 million people with a proven love of gambling. Las Vegas Sands Corp. estimated that 15% of the US$230 million earned by Sands Macao in its first year of operation came from Taiwanese gamblers.
Just as Macau is a comfortable destination for Taiwanese gamblers in terms of language and culture, so Taiwan has all the cultural credentials necessary to make her casinos a home away from home for Mainland customers. That's provided a political accommodation can be reached between China and Taiwan to ensure delivery of the former's citizens to its resorts. The emotional and in some cases family and ancestral ties between the population of Taiwan and the people of the Mainland are generally more direct than those between Straits Chinese in Singapore and Malaysia and Mainland Chinese.
A question is which of Taiwan's competing communities stand to benefit from this cross-cultural connection? Mr Liu of Jumbo Technology says Kinmen has as strong or even stronger claims to host one or both of the proposed two resorts as does Penghu.
"If you compare them in terms of infrastructure—water supply, food supply, electricity and transport facilities such as airport facilities, Penghu is not really ready," says Mr Liu.
"Kinmen is nearer to being ready. So the local government [on Penghu] has some more work to do. From the point of view of the weather and scenery, are all four seasons suitable for travellers, or will they [the resorts] only be able to do business in the summer time because in the winter it's too windy?" he adds.
Penghu has certainly been singled out as having a particularly bracing and windy climate during the winter months. Kinmen is no tropical paradise either in the winter, but it does have the virtue of being only ten kilometres from the coast of southern China.
"Kinmen, is more likely to be considered than Penghu, though it's not confirmed yet," suggests Mr Liu.
"Kinmen is close to Xiamen in Fujian province. It's only ten kilometres offshore. The mayor of Kinmen has announced he would like to build a bridge from Kinmen to Xiamen. Xiamen is a very prosperous city in the southern part of China. This bridge is 95% confirmed as a project, but who will spend the money? Some say the Chinese government, others say the Taiwan government. The estimated cost of this bridge is US$120 million. If the bridge is built, visitors from Mainland China won't need to take a ferry. They will be able to drive there in 15 minutes," states Mr Liu.
"The number of tourists to Kinmen right now is around 400,000 per year. In 2016, if a casino resort is built, some estimates suggest the number of tourists could be tripled to 1.2 million," he adds.
Mr Chen of Harrah's says the longer the journey time to a casino the greater the disincentive to make frequent trips.
"Customers do not like to travel to get to a casino. It's a fact," he asserts.
"If you take Las Vegas as an example, if you live within an hour's drive you may go ten times a year. Make that a one-hour flight and the frequency drops to six times per year. Make it a two-hour flight and it goes down to three times per year. Make it a three-hour flight and it drops to once every four years. Location is critically important.
"Within a one hour travel radius of Macau, there are about 50 million people who are economically eligible to gamble. Las Vegas has about 40 million," he adds.
"In both jurisdictions, about 55% of visitors drive there. In Macau's case visitors from the Mainland drive to the border and then get a bus or a ferry. If you took those people out of the equation and you had only the 5% that fly into Macau or the 45% that fly into Las Vegas, I can guarantee you wouldn't see a project like The Venetian Macao or Caesars Palace Las Vegas.
On Mr Chen's third point, competitive tax rates, Taiwan looks set to score poorly compared to its nearest neighbours Macau and the Philippines. In Macau the tax on VIP and mass market play comes in at just under 40% of the gross, while in the Philippines it's 15% of the gross for the high roller market, and 25% of the gross for the 'grind' (i.e., mass market tables and slots), plus an additional 2% levy on the gross in each segment for "restoration of cultural heritage".
"Not every market can be large like Macau and Las Vegas, so it's critically important that the tax rates are set right," says Mr Chen.
"Here's an example of two markets in Europe. One is a 10% tax rate market and the other is a 92% tax rate market. Guess what's happening in Spain, capital crisis notwithstanding? We [Harrah's] are building the largest integrated resort in the whole of Europe—Caesars España. Why can we afford to do that? Because they [the Spanish] have great tax rates. We can afford to build more hotel rooms, more entertainment and more amenities such as golf courses etc. In Germany they have a 92% tax rate. If you've ever been to a casino in Germany it's not a fun experience. You'll be lucky if you can find a bathroom in the facility. Taxes have an impact on the quality of the project," he explains.
"People like us look very carefully at tax rates when we make our decisions."
Straight and level
On Mr Chen's fourth point for success—a predictable and stable regulatory environment—it's too early to tell how Taiwan will perform, suggests Mr Liu of Jumbo Technology.
"We really have to do more homework. We don't have a regulatory agent right now. We don't have government institutions; we don't have equipment-testing labs. We have no experience of the international gaming industry," he states.
Given the often-volatile nature of Taiwan's domestic politics, there must be some concern among potential investors that Taiwan's gaming industry could be a hostage to political fortune. Legalisation of an industry is not the same thing as liberalisation. Economic nationalism—of necessity so long a feature of Taiwan life—could remain an important factor in the development of a local casino sector.
Taiwan in this regard is a very different animal from Macau. The latter has been used to foreign as well as Chinese influences in trade and culture for more than four centuries. Taiwan, by contrast, has got used to doing things her own way, largely as a result of six decades of economic, political and cultural isolation caused by her estrangement from Mainland China.
There have been reports that Taiwan actively considered a barter deal with a native American tribal casino in Canada, whereby the tribe would be allowed to operate a casino in Taiwan in return for giving Taiwan access to oil produced on the tribe's lands. This might sound bizarre, but taken in the context of Taiwan's perennial outsider status internationally, it makes some sense. Taiwan may well be looking for practical benefits from allowing external investors access to its would-be casino market, beyond the mere provision of development capital. In that respect an external, symbolic partner such as a local government body in Mainland China, might make more political if not financial sense than, say, a Las Vegas operator. Such a scenario might not be too far fetched if Kinmen is chosen as a casino location and a bridge to the Mainland city of Xiamen is indeed built. Whether even President Ma and his healthy parliamentary majority could sell such a sensitive proposal to a prickly Taiwanese public is another matter.
Licence to thrill, not kill
The fifth characteristic identified by Mr Chen of Harrah's for a new casino market's success is what he terms the "right sized licensing paradigm". This sounds rather complicated, but it boils down to a simple principle. Don't issue too many licences.
"We would suggest that for every US$500 million of potential market, governments should give out one licence," says Mr Chen. By that reckoning, based on Mr Liu's suggested US$2 billion domestic valuation of a Taiwan casino industry, then Taiwan could have the potential for up to four casino licences.
"Not every market is going to be like Macau and Las Vegas and be worth US$7 billion to US$10 billion [annually]," explains Mr Chen.
"So what do you do with a market like Singapore that's worth US$1 billion to US$2 billion annually? What the government there said was 'We'll create a duopoly. We'll only give out two licences'," he explains.
"That meant two operators were allowed to share a US$1 billion to US$2 billion market. That allowed them to invest. As a result you have breathtaking investment amounting combined to about US$10 billion," he adds.
Given the currently bearish credit and investment markets, Taiwan may have to show some flexibility on its market access terms if it is to generate significant interest from overseas operators.
None of the major North American operators appear to have any cash to spare for new projects. They are already stretched—either by ambitious expansion in emerging and domestic markets (Las Vegas Sands Corp., Wynn and MGM MIRAGE in Macau and the US) or by the double whammy of heavy debt at home combined with a bearish domestic consumer market (Harrah's et al).
Two potential Asian players in a liberalised Taiwan market—Malaysia's Genting Group Berhad and Japan's ARUZE Corp., already have their hands full in Singapore and the Philippines respectively. In fact Genting also has a few fingers in the Philippines pie as well via a joint venture involving its subsidiary Star Cruises.