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“For heavily indebted casinos faced with having to choose between spending $1 million to purchase new slot technology with tremendous potential, or spending the money to buy back bonds trading below value, Loveman said the decision will be easy. They'll buy back the debt.” – Las Vegas Review Journal

The CEO of privately held Harrah’s Entertainment just described the situation facing 90% of gaming operators, including his. The list of gaming companies that won’t be buying slot machines next year is a lot longer than the list of those that could. The environment stinks but also provides opportunity. We’ve discussed the terrific buying opportunity for gamers on the right side of the liquidity trade to pick off assets/companies on the cheap. The other opportunity is to steal market share.

Increased marketing, advertising, and promotions is one way for the haves to take share from the cannots. Another way is to offer a better product through an aggressive slot replacement program. New game content looks pretty strong as evidenced by the G2E, the gaming equipment exhibition held two weeks ago. Too bad most companies won’t be able to take advantage.

Slots matter. Consumers play hot slots. That is what makes slots hot. For those of you who do not think slot product matters consider this.

• The average slot machine is functional for 10-12 years yet they are replaced at a 5-7 year clip. Why? Because there is wide variability between the best performing and the worst performing games.
• IGT has experienced serious erosion in market share over the past few years because they lost the content war as they spent heavily on server based gaming versus new game development.
• Despite serious protesting and threats, operators still pay approximately 20% of the take on certain slots (participation games) back to the operators when economically it would be more beneficial to own the slots outright. The reason they do this? Because they have to for the hottest slots.

The payback to the operator on a new machine that can generate a 25% increase in revenue per day over the house average is around 8 months. This represents a huge return. The old economic situation dictated that an operator replaced machines just to keep up with the competition. The new economic reality is that the operators with liquidity can actually drive ROI with slot purchases.

So who are the potential winners in this scenario? There is little doubt that Wynn Resorts owns the liquidity among the big caps and is a market share gainer. Wynn Las Vegas and Encore will offer the top slot floors in Las Vegas. The only other gaming operators well positioned to capitalize on the competition’s leveraged mistakes are PENN and BYD, both securely on the right side of the liquidity trade. PENN’s leverage is below 3x and BYD is at little risk of any covenant issues, will be free cash flow positive in Q2, and doesn’t have a meaningful debt maturity until 2013.

There’s a lot of market share to be stolen out there guys. Go get it.

Who wins this match up?