Casino Enterprise Management

I’m working on a new business.

The product idea isn’t 100 percent finished, but the goal is to encourage players to spend more on gaming machines by making machines more compelling to play.

I visit lots of casinos and spend hour after hour just watching players play. I also talk to managers about what sorts of products they’re looking for and how they should be priced.

I’ve done this three times before: EDT in 1981, Mikohn in 1985, and Acres gaming in 1991. Looking back over the past 26 years, I see definite trends.

Back in 1981, gaming equipment was mostly built of relays and light bulbs with an occasional motor thrown in to dispense coins. At EDT, we used microprocessors and software to implement our products: a rare and controversial technique back then. Even so, the hardware—the physical components—formed the large majority of a product’s value. Software was hidden inside and simply helped the hardware do its work.

By Mikohn’s time, software and computers were commonplace, but the software was essentially free with a computer purchase. People just didn’t like paying for something they couldn’t weigh or measure. In retrospect, software had already become more valuable than the hardware; we just didn’t appreciate its value—or cost. Where EDT had two hardware designers for every one in software, Mikohn’s staffing was just about the opposite.

By the time Acres Gaming began, software was king and programmers outnumbered hardware engineers by at least eight to one.

Computers are powerful and fantastically capable, but software is amazingly expensive to develop and maintain, and we initially failed to recognize it as such. We—and many other equipment vendors—set prices based on a multiple of hardware costs, figuring the software was nearly free. After all, once a program is developed you can make as many copies as you wish for almost nothing more in cost.

We were wrong.

When you sell hundreds of millions of units, like Microsoft does Windows™, development costs don’t matter much. But when you sell only dozens or hundreds of a program, those development costs loom large, far larger than we recognized at the time.

Our work at Acres was more about writing foundation code to calculate points and award simple bonuses. We didn’t do much to create actual content, which is what compels people to actually play games. Great content is difficult and therefore expensive. To recover those costs, many equipment suppliers look to ongoing revenue streams—fancy words for saying continual payments—such as licensing fees or revenue sharing.

Not surprisingly, casino operators see things differently. Most casinos nowadays spend hundreds of millions, or billions, of dollars to build and maintain their properties. Huge payrolls are essential to good customer service, and gaming taxes are well past trivial.

Casinos see revenue sharing as a greedy, money-grabbing way for suppliers to get more than a fair share. Of course all rev-share offerings are suspect, but operators especially criticize games like IGT’s Wheel of Fortune® or Megabucks®, and point to the hundreds of millions of dollars in profits IGT derives from these games annually. Profits that could have, and possibly should have, belonged to the casinos.

Equipment providers answer that great content is difficult to build: The casino still keeps 80 percent of rev-share earnings and the supplier bears significant risk in game development because many game designs never make money.

Probably the best argument I’ve heard against rev-share came from a casino executive that prefers to remain nameless. “We spend billions of dollars to develop our properties and many tens of millions of dollars annually to market each one. Customers come through our doors with a fixed budget in their pockets. When that budget is gone, they’re done.”

“Rev-share games are quarter magnets. It is true that people prefer to play them, but players just spend more of their budget in those games and less in our other games. Without rev-share games, we’ll collect the same amount of money but it’ll be spread across more machines. Rev-share gives a big slice of the quarters spent in our properties every day to suppliers, and those suppliers don’t help us with payroll, mortgage, or marketing expenses.

“We’re willing to pay a fair price for gaming equipment but we should be able to pay once and be done with it. As far as I’m concerned, all the quarters that come into our properties belong to us and our shareholders.

“I’m tired of giving our quarters to leeches!”

Suppliers such as IGT answer back that, if that’s true, why don’t operators simply forego rev-share games and use their standard equipment? If customers don’t apportion a larger budget to great games than bad ones, why do casinos find it necessary to upgrade their equipment at all?

I brought that argument to my nameless friend. His answer: “Because some of the other operators in town are fools! They don’t market like we do. They don’t invest in their properties like we do. Instead they use rev-share games to overcome their deficiencies. Players shop around and see those games at other places.

“When they come back to us, they ask ‘Where’s Wheel of Fortune?’ If we don’t have them, some players will leave and take their quarters with them. We’re forced to operate according to the lowest common denominator of our competition. If they have Wheel of Fortune, we have to have it, too.”
Regardless of viewpoint, rev-share games are here to stay. I can’t think of even one major property that does not have some number of rev-share games on the floor.

As a wannabe-again supplier, I have to think hard about the rev-share pricing model.

Also attractive is its cousin, the ongoing license fee. In rev-share, a supplier usually provides the game at no cost and then takes 20 percent of whatever that game earns, sometimes with a guaranteed minimum per day. A Wheel of Fortune earns $1,000 per day, sometimes even more in great locations, and IGT gets $200. A typical purchased gaming machine might cost $13,000, so IGT could be said to earn its normal profit after just 65 days of operation. If that game runs at the same level for three years, it’ll earn IGT an additional $206,000! Of course, not all Wheel of Fortunes earn $1,000/day. Some earn more, most bring less.

With ongoing license fees, the casino buys the game up-front but then pays a recurring fee—perhaps $15 per day for Triple Play Poker. Under this plan, the casino pays $16,425 extra over a three-year period but the lower supplier earnings are somewhat offset because the cost of the game is covered by the casino.

As I write my own business plan, the pricing model is of utmost importance. While rev-share sounds highly attractive, it is the hardest proposal to sell. First you have to create very high-earning games, and that’s hard to do. Then you have to get companies to accept placements. Last but not least, you also have to finance the equipment cost and wait to get paid. That’s not too attractive for a startup, as it consumes capital very quickly.

Because I’m not actually selling anything right now, I’m often able to enjoy very candid conversations with managers about how to best price equipment.

Inevitably, the conversation turns to house average, which is simply total win for all machines in a casino divided by the total number of games and is usually expressed as a daily average. It’s a great initial indicator of a casino’s relative earning power and varies widely by jurisdiction. Casinos with sparse competition that are near population centers often average $500 per day or more. Those with an abundance of competition and low population density earn far less. Deadwood, S.D., gets awfully cold in the winter and there aren’t a lot of people living nearby, so house average only runs to $30 or so per day.

Of course house average is only a concept, not a reality; it’s like saying the average family has 2.2 kids. While that may be theoretically correct, no one actually has .2 kids running around.

Few machines actually earn house average either. Some number of machines—perhaps ten percent—earn far above the average. Many others earn well below. On a typical casino floor, the bottom ten percent of games earn only 25 percent of the average, while the top ten percent could earn 300 percent. Today’s casino has so many machines, typically 1,500 or more, that managers must think in terms of house average and consider a game good if it earns anything above. Such summary thinking, while understandable, can lead to distorted conclusions.

A few weeks ago I met with another nameless, long-time casino manager friend. I asked his advice on pricing policies for game equipment, presuming I can actually find that unfilled need I’m looking for. After a short monologue on the evils of revenue sharing, “nameless” said his casino had a formula by which they decide whether or not to keep any particular rev-share game.

“We watch its performance for 60 days or so to make sure the average win doesn’t fall off quickly and to give players a chance to discover the game. After that, if the win falls below 1.7 house average, we give it back.”

 “What if a rev-share game is put in place of a game that earns only 40 percent of overall house average and then improves that spot so your share comes to 80 percent of house average?” I asked.

“No, that’s a bad performing game, and we don’t want it on rev-share terms. If the game can’t earn at least that minimum, it’s too costly, and we’re not going to send a share of our money off to an outside vendor unless it benefits us.”

“Wait a minute,” I said, “Suppose house average is $100 per day. You remove a game that earns $40 per day and replace it with one that earns $80. You invest nothing in the rev-share game, you are free to sell or trade in the old game and you’re getting an extra $40 each and every day besides with absolutely no additional work. And that’s too costly to keep around?”

“Yep, that’s our policy.”

A few weeks later, “nameless” and I run into each other again. He says to me, “Hey, about that rev-share conversation. Perhaps that house average thing is a myth. We’re rethinking our policy.”

Should you rethink yours?

What are your thoughts on rev-share? I’d love to hear. Drop me an e-mail or give me a call.

John Acres is CEO of Acres-Fiore and a Director of Game Logic Inc. He is the Founder of EDT, Mikohn and Acres Gaming, and holds a number of U.S. patents relating to the gaming industry.  He can be reached at john[at]acresfiore.com or (541) 738-4301.