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Rod Smith

California Gaming May Expand, Hurt Nevada

9 October 2003

NEVADA -- The election of Arnold Schwarzenegger as governor of California will likely spawn further gaming expansion there and spell trouble for Nevada casinos, analysts said Wednesday.

"If (Lt. Gov. Cruz) Bustamonte had been elected, you'd probably have seen Indian reservations in downtown L.A.," Blaylock and Partners analyst Ray Neidl said. "With Gov. Schwarzenegger, that won't happen, but the trend will be for allowing more games and establishing more casinos like Thunder Valley. The state has to move in that direction because it desperately needs revenues."

Schwarzenegger needs to tame a $38 billion deficit, while the state's fastest-growing industry, gaming, is not contractually obligated to pay gaming taxes.

In his first press conference as governor-elect, however, Schwarzenegger said he wants to negotiate new gaming compacts with California Indian tribes.

"We are in a financial crisis, and I want them to participate," he said Wednesday.

Chances are good the Strip will be insulated from any additional California gaming, but "for everybody else other than Las Vegas, (the election) means the game is on," Bear, Stearns & Co. analyst John Mulkey said.

Schwarzenegger was at odds with tribal casino operators during the campaign and complained they did not pay enough to the state, but recent reports have suggested he is willing to consider expanded gaming if it generates added state revenues.

"In our view, additional slots would be the most immediate fix; longer term, however, the state could allow tribes to offer craps and roulette, and potentially more urban casinos," Bear, Stearns said in an advisory to investors sent out Wednesday.

That would pose a competitive challenge to Nevada casinos.

Mulkey said not all tribes were equally antagonistic to Schwarzenegger and it is likely the governor-elect will work quickly with certain tribal groups to negotiate changes to the compacts to raise the 2,000-unit slot cap and generate added state revenues.

"We expect the Station-managed Thunder Valley (Casino) to be among the first to renegotiate, given the Auburn tribe's historically balanced approach to inter-governmental relations," he said.

The competitive challenge to other Nevada operators, therefore, could prove a boon for Station Casinos.

The United Auburn Indian Project, Station Casinos' partner in Thunder Valley, is likely to be part of a consortium of tribes to seek to work quickly with the new governor, although the process could still be time-consuming and result in a long lag before Nevada feels the brunt of additional supply, Mulkey said

However, if the tribes do not want added slots or balk at Schwarzenegger's potential "tax" structure, Mulkey said: "We believe that Arnold could successfully paint a scenario for voters that would present the tribes as not contributing enough to the economy given their windfall since Prop 1A."

Proposition 1A, passed in May 2000, created a constitutional amendment allowing Indian gambling in California with certain restrictions on the types of games allowed.

If political negotiations take that twist, analysts said it was likely Schwarzenegger will move to legalize slot machines at card clubs and racetracks, which could generate additional revenues for the state.

"After all (he might argue), why give one group a monopoly on casino gaming if it isn't willing to share some with the state as it undergoes the arduous process of balancing the budget?" Mulkey asked.

University of Nevada, Las Vegas professor and gaming industry expert Bill Thompson said, "Indian casinos no longer own California.

"Arnold owes the Indian gaming establishment exactly nothing. He can look at this in terms of economic growth and say expansion would just drain resources," he said.

"Or, if they don't cooperate, he can say they have to pay in more or he'll expand gaming everywhere (else)," Thompson said.

The Bear, Stearns report found that raising the slot-machine cap is the most likely and immediate scenario and that the possibility of new forms of gaming in the state will depend on whether tribes will cooperate with Schwarzenegger.

Deutsche Bank analyst Andrew Zarnett said gaming in California could still go either way.

"(The election) could put the brakes on the expansion of gaming in California, which would be good for Las Vegas," Zarnett said. "However, if the tribes can't get together and agree to increase payments to the state, there could be a big increase in gaming that could have a big impact on Las Vegas in the long run."

Schwarzenegger's victory could also be a "mild negative" for slot manufacturers if it temporarily slows expansion as the state wrangles with tribes about its fair revenue share, J.P. Morgan analyst Harry Curtis said.

Added Mulkey: "We expect to learn more about Arnold's budget plans over the next several weeks, during which it will become more evident what role he expects the tribes to play in the state's economic recovery."