Few obstacles stand in the way of casino companies' recent roll, but one -- the specter of higher state gaming taxes -- can appear out of nowhere and hammer the stocks. The market received a reminder of that recently, when shares of gaming companies with Louisiana operations sold off on news the state's governor was looking into raising gaming taxes to fund pay raises for teachers. The potential Louisiana tax hikes are still only in the discussion stage, but casino investors have seen enough gaming tax increases in recent years to know they shouldn't underestimate state government efforts to raise so-called sin taxes. With many states struggling to fill fiscal holes, governments may find dipping into casino tills all too tempting. "Anytime there's a tight budget in a state that has gaming, legislators commonly look to raise the casino taxes," said Bradford Smith, who heads International Gaming Consultant Services and is the former head of the New Jersey Casino Control Commission. "A lot of them have rates that are already high. There's always that pressure on the gaming industry." Casinos already contribute significant sums to government coffers. In 2003, gaming companies in the 11 states with commercial casinos paid more than $4.3 billion in state and local taxes, out of gross revenue of more than $27 billion, according to the American Gaming Association, an industry group. (The commercial-casino tally excludes Native American casinos, which the AGA considers government-run businesses.) The special gaming taxes casinos pay come on top of normal business taxes. Lawmakers in other states are eyeing increases. John Mayo, a Democratic representative in Mississippi's legislature, last month introduced a bill that would raise taxes on casinos by 1% and increase the tax on winnings of more than $1,200 to 5% from 3%, according to local media reports. Even so, Mayo has acknowledged the bill doesn't stand a good chance of passing; Governor Haley Barbour has threatened to veto any legislation that would increase taxes.
Many states have raised taxes in the past several years. For example, last September Michigan lifted the rate on the three casino operators in Detroit to 24% from 18%. The move has already had a significant financial impact on Mandalay Resort Group ( MBG), which Thursday said its 53.5%-owned MotorCity Casino saw taxes increase by $6.3 million in the quarter ended Jan. 31. But the state that engineered the steepest recent increase was Illinois. In 2002 and 2003, the government raised the top rate on its graduated casino tax first to 50%, then to 70%. The AGA said the high taxes have hurt gaming businesses, which have cut 700 jobs and postponed or canceled hundreds of millions of dollars worth of planned construction projects. In turn, state revenue from casinos has fallen. Bradford Smith of International Gaming Consultant Services said legislators need to be savvy about how much they tax gaming. "You can tax it to death and see it shrivel, or you can leave a reasonable rate and see investment grow," he said. In Louisiana, the governor's top fiscal adviser late last month said he had asked state economists to look at raising various gambling taxes to 32.5%. Current rates are 21.5% for riverboat and land-based casinos and 18.5% for slot machines at racetracks. Video poker machines are taxed 22.5% at racetracks, 26% at bars and restaurants and 32.5% at truck stops. Analysts said such an increase would dent earnings at a handful of publicly traded companies. David Anders at Merrill Lynch estimates 2005 and 2006 EPS at Harrah's Entertainment ( HET) could each take a 13-cent hit. (Merrill Lynch does and seeks to do business with companies covered in its research notes.) Anders' current EPS estimates are for $3.71 in 2005 and $4.22 in 2006 and account for Harrah's pending acquisition of Caesars Entertainment ( CZR). The company operates four casinos in Louisiana, although Anders and other analysts noted the Harrah's New Orleans property likely would be immune from any tax hike because it signed a special state contract, expiring in 2014, requiring it to pay the higher of either $60 million a year or 21.5% of gross gaming revenue.
Other casino operators could take hits from a possible increase. Marc Falcone, an analyst at Deutsche Bank, estimates that Boyd Gaming's ( BYD) annual EPS could decline by 8 cents to 12 cents, while Isle of Capri Casinos' ( ISLE) could suffer by 25 cents to 30 cents and Penn National's by 3 cents to 7 cents. (Deutsche Bank does and seeks to do business with companies covered in its research reports.) Still, analysts are quick to point out that the Louisiana tax hike is only a possibility. The governor's adviser, Commissioner of Administration Jerry Luke LeBlanc, reportedly cautioned that no decision has been made and the 32.5% rate is merely for initial discussion.