As both the tribal and commercial gaming sectors see the “light at the end of the tunnel” out of the recent financial market dislocation with cautious optimism for recovery, facilities once again are closing financings. The lender/investor deck has definitely been reshuffled with personnel at many banks and institutions. In many cases, entire teams were laid off and new employees now cover the gaming space at some of the large institutions that remain in the gaming lending business. In other cases, entirely new funds and investment companies have emerged. The faces are not the only elements of change. Criteria and structure have taken conservative steps toward caution, and additional protections against defaults have been added with heightened security measures within loan and bond documents. What remains unchanged, however, are the lender/investor profiles. The types of lenders gaming facilities can approach depending on their particular stage, maturity, cash flow and creditworthiness can typically be grouped into three basic categories: commercial banks, qualified institutional buyers and private investment groups.
Commercial Banks
It is not hard to find the names of commercial banks in the world around us—one can drive down any Main Street in the U.S. and the various names of the competing national and local commercial banks are visible. They are, by nature, depository taking institutions that cater to both retail (average everyday individuals) as well as institutional clientele (corporations, funds and governments). They quite often are publicly traded companies with multiple regional offices around the country, managed by a board of directors and a vast hierarchy of personnel. Some of the services they offer to the public often include personal checking and savings accounts, credit and ATM cards, online banking, financial planning and small business services. They invest their clients’ money, and because the funds typically include individuals’ savings accounts and retirement proceeds, they will have the strictest lending criteria. However, they are also able to offer the lowest rates when lending money (conversely, they do not offer very high rates when holding money).
For tribal gaming operations, commercial lending makes sense when an enterprise has been in operation for a number of years, has healthy cash flow and can feel very confident about meeting expected projections and calculated formulas. Commercial banks will expect quarterly accounting reporting and threshold minimum requirements. They will act like a “big brother” watching over the shoulder of the gaming operations. If these minimum levels are unmet, there can be fines, outside auditor requirements, “lockdown” escrowing of funds and default provisions put into place. I have assisted on more than one “work out” where a tribe sought to refinance a banking structure with a commercial lending partner due to overly strict and unmanageable requirements. On the other hand, when gaming operations are flourishing and the thresholds are met, many commercial lending relationships are cherished by the tribal entities and the banking partnership can be a strong, healthy one that results in an ideal lending environment.
Many large national commercial banks have created Native American lending divisions, which focus solely on the tribal gaming space and have a unique understanding that brings added value to the tribal client. Commercial banks (and their credit committees) must be comfortable when lending to tribal gaming operations with the security of gaming assets only (separate from tribal assets), pledge for repayment solely from cash flow (i.e. typically no land liens/mortgages), and limited waivers of sovereign immunities.
A commercial lender not carving out a specific tribal gaming practice on a national level with pre-existing tribal lending experience may have trouble getting comfortable with these concepts. (Within the commercial bank category, commercial equipment lenders might be included, whose lending profiles often look similar to commercial banks, except that they are not depository taking banking institutions, but rather gaming equipment lenders who understand the tribal lending business from that perspective. Since equipment lenders have hard collateral as security for their loans, the structures are often more easily managed, if financing only the secured equipment and no additional funding).
The fundamental points to remember about commercial bank facilities are as follows:
• Credit facilities, term loans, revolvers, equipment loans
• Strictest criteria
• Shortest length of terms (typically 5-7 years)
• Interest-only payments possible only during construction phase
• Amortization (principal and interest) required
• Maintenance covenants
• Lower interest rates
• Little risk appetite
• Often public companies with boards and federal regulators
An additional, interesting note is that prior to 2007, many commercial banks could receive internal approvals on certain “greenfield” gaming projects (new construction with no existing operations)—if they were in the very senior part of the capital structure and if certain criteria were present. Since 2007, most commercial banks have discontinued any greenfield lending, and gaming facilities must look to the other lender categories for new construction financing. (This is not true for equipment lenders.)
Qualified Institutional Buyers
“QIBs” typically lend to the tribal gaming sector via private placements and bond debt (and more recently institutional term loans, which are hybrid financial instruments combining elements of both bonds and loans by institutional lenders). A QIB issuance is typically purchased by a group of lenders, all agreeing on the rate and covenant package. Unlike commercial bank loans, the covenants of a QIB bond deal are not maintenance based, but occurrence based. This means certain occurrences will trigger approvals by the bondholders, such as the request to add additional debt, a change in compact, etc., but generally speaking, there are not the strict maintenance reporting and quarterly coverage requirements associated with commercial bank lending.
The investment banks structuring the deal will prepare marketing documents and a roadshow presentation together with the tribal nation, which is presented to potential lenders. These QIBs are typically large institutional funds, insurance companies, mutual funds, money managers and other investment groups who have boards or investment criteria committees that have dedicated a certain amount of their portfolios to the high yield gaming sector. These groups do not have much involvement with the public/retail sector and predominantly stay in the world of institutional investing. The tribes and their bankers will give a sales pitch to representatives of these firms who are generally analysts and credit assessors for these funds, who then make a buy or pass recommendation.
These funds are seeking a return on their investment on a regular basis for a specific period of time. Therefore, term length on bonds will typically be longer than commercial banks can offer, rates will be somewhat higher (although still based on market and industry standards) and the risk profile can be slightly greater. The recent Term Loan Hybrids allow for shorter terms than traditional bonds with amortization and less prepayment penalties so that a facility can still access the benefits of the QIB market without having a strict non-call period with no principal reduction as was typical in many traditional bond issuances. QIBs may fund a gaming facility’s expansion or brand new construction if the demographics, management and projected financials are attractive enough.
The fundamental points to consider with regard to QIBs are as follows:
• Can take the form of bonds (taxable and tax-exempt), notes, term loans, private placements, public reporting requirements or 144A (non-public reporting)
• More flexible criteria than commercial banks
• Longer term length than commercial banks
• Interest-only payments possible if desired throughout life of term
• Occurrence covenants
• Market interest rates
• Higher appetite for risk than commercial banks, but still answer to internal standard criteria
• Institutional funds and insurance companies
• Typically registered or regulated by some federal body
Private Investment Groups
These investors are willing to look at opportunities within tribal gaming that are outside the criteria parameters of either commercial banks or institutional buyers. These groups take the form of hedge funds, venture capital funds, sole proprietor investment funds, gaming management entities, gaming product service providers, other tribes, small investment groups and high net worth individuals. Typically, the profile for these lenders equates to an appetite for higher risk lending relating to a desire for high returns. They are also often privately held, unregulated and have smaller boards (which sometimes translates to a faster streamlined decision-making process). In the early days of tribal gaming, this sector of lending was usually limited to start up development funding and was primarily provided by gaming management entities requiring development contracts with fairly steep revenue share participation in exchange for funding provisions.
Today, although the need for management contracts and early stage development money still exists, the industry has changed dramatically. The National Indian Gaming Commission (NIGC) has established criteria and approvals to protect the tribal gaming operators and any revenue share agreements must be equitable and approved by the NIGC to be valid contracts. This sector has by far produced the most controversy and legal ramifications in the tribal gaming space. While some large gaming corporations (such as Harrah’s) have enjoyed long historical mutually beneficial relationships with tribes under approved management contracts, others have been litigious, disputed and disappointing for the parties. Considerations in working with these groups are to be mindful that any revenue share will need to be approved by the NIGC which will include background checks and other formal due diligence as part of the approval process. Also, while still based on industry standards, more so than with the other lending groups, negotiation of terms, rates and covenants will be very specific to the individual situation.
Profile points to keep in mind include:
• Deal memos, private placements, notes, early phase capital, special projects capital, expansion capital if highly leveraged
• Most flexible criteria if compensated for risk
• Terms can be negotiated
• Revenue share most likely requested
• Highest return rates in exchange for flexibility
• High risk appetite
• Smaller, often private companies
• Sole proprietor foundations, venture capital funds, hedge funds, registered investment corporation (limited partners), other tribes, gaming management entities
A new phase within the capital markets and the gaming sector is definitely emerging. The above description is merely a broad and general overview. As the lending institutions gingerly resurrect their appetite for tribal gaming, a review of who they are, what criteria they have established and what return they seek is a very prudent exercise for all tribal gaming facilities seeking financing.
Valerie Red-Horse is an investment banker and financial advisor in her role as president/owner of Red-Horse Financial Group Inc. offering securities through Western International Securities Inc., a FINRA and SIPC member firm. Red-Horse Financial Group and Western International Securities, Inc. are separate and unrelated companies. Red-Horse may be reached at valerie[at]wisdirect.com or (818) 389-4714.
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