| Investing
in the Slot Machine Industry |
Published: January 1, 2006
In 1894, from a small, cramped
workshop in San Francisco, Charles Fey designed a simple and seemingly
unremarkable mechanical device, dubbing his invention the "Liberty
Bell." Fey sold the first of his machines to a small bar and
restaurant in Reno, Nevada for the princely sum of $2. These were humble
beginnings indeed for what would soon become one of the world's most
profitable and popular products.
Within a few years of creating
and selling that first machine, Fey's invention had proved so popular,
in fact, that he was unable to make enough machines to satisfy demand.
By the early 20th century, manufacturers the world over were beating a
path to his door, trying to buy licensing rights for Liberty Bell.
The Liberty Bell was, of
course, the world's first slot machine. Fey designed a simple
coin-operated machine with three spinning reels. Each reel contained
pictures of hearts, diamonds, spades and a cracked Liberty Bell modeled
after Pennsylvania's most famous landmark. The machine accepted only
nickels and paid out a pre-set amount when different symbols lined up on
the reels. The jackpot: 50 cents for three Liberty Bells.
Slots proved a popular addition
for bars, restaurants and clubs but didn't hit the casino scene in a big
way until roughly four decades later. It was then, in the late
1940s, that famed casino tycoon Bugsy Siegel was looking for a way to
occupy women accompanying primarily male gamblers in his Flamingo casino
in Las Vegas. Enter the slot machine: The Flamingo's first machines were
similar to the old Liberty Bell -- simple mechanical devices with three
spinning reels.
But slot machines are no longer
just a simple sideshow to Craps, Blackjack and Poker or a barroom
diversion. Rather, slots have become the main attraction in most
casinos. In fact, by the late 1990s slot machines already accounted for
roughly 70% of the average casino's total winnings. Even better, slots
are largely unmanned and don't require additional expenditures for
dealers or croupiers.
And modern technology is making
slots ever more popular for casino operators. Microchips, electric
reels and even video displays gradually supplanted Fey's mechanical
reels by the 1990s. Nowadays, some slots are even hooked up to machines
at casinos hundreds of miles away via a secure network.
All this modern innovation has
served to dramatically increase the variety of slot machine games
available to bettors. Some of the most popular machines these days are
multi-jackpot systems that combine the contributions of thousands of
slots located at different casinos into a single, huge jackpot. These
jackpots often run easily into the millions. Also popular are machines
based on various movie themes or popular card games such as Poker and
Blackjack. Newer, even more entertaining games continue to attract more
gamers to the machines.
But casinos aren't the only
companies that are making a fortune from the popularity of slots. The
slot machine manufacturing industry is also well positioned to benefit
from growing slot machine revenues. This industry is an attractive one
for investors for a variety of reasons, including:
- High barriers to entry
-- Slot machines must be tested thoroughly and must comply with
local and state government-imposed licensing regulations. Smaller
players would have trouble competing with incumbents due to the high
costs of complying with such strict regulations.
- Non-Price-Sensitive
Customers -- The amount casinos pay for a machine pales in
comparison to the winnings a casino can bring in from a machine in
just a few short weeks. As such, casinos don't mind paying a premium
price for more popular, well-known machines.
- "Leased-Machine"
Business -- Traditionally, slot manufacturers have made money by
simply selling machines. Increasingly, however, they're sharing in
the profitability of the machine itself by leasing the machines
directly to casinos in exchange for a percentage of the wagers (or
casino winnings) from those machines. This provides slot machine
makers with a more consistent, stable revenue stream -- one that's
less dependant on casinos constantly replacing machines and ordering
new machines.
- New Jurisdictions --
More and more locales are being opened up to casino gaming. In
addition, slots are now finding their way into racetracks and
off-track betting facilities -- areas where they've been
traditionally banned. This should continue to fuel solid growth for
slot machine makers in the coming years.
Better still, most stocks in
this industry are now trading at a significant discount to their 2004/05
highs, handing investors a great opportunity to invest at far more
attractive prices. The culprit: a temporary lull in new jurisdictions
opening up to slot machines. What's more, back in 2003/04 casinos spent
big on new machines, switching from coin-operated slots to cashless
"ticket" machines. With that enormous upgrade cycle now
largely complete, many casinos reduced their spending on new slot
machines throughout 2005.
This slowdown will prove
temporary. For starters, during 2006 several new markets are likely to
open up for slots -- this will clearly spell new demand. Secondly, slot
machine leasing contracts are gaining in popularity. Under these
contracts, the manufacturers are no longer reliant upon the casino
replacement cycle. Revenues from such contracts are spread out over
time, allowing the manufacturers to continually profit from their
machines.
The slot machine industry is
relatively concentrated in the hands of a few well-established players.
In the table below, I offer a list of the key players in the industry.
And in the text that follows, I'll highlight two of my favorite plays on
the booming slot machine business...
Editor's
Note:
Throughout the remainder of this article, StreetAuthority.com
founder Paul Tracy and his staff provide a closer look at several of
today's leading slot machine stocks. To view the remainder of this
article, you'll need to subscribe to our premium Market
Advisor newsletter. Please visit one of the following links to
continue...
Good investing!
-- Paul Tracy
Editor
StreetAuthority
Market Advisor
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Paul Tracy
founded StreetAuthority and became Editor in Chief in 2001. Prior to
that he spent several years as Managing Editor at a multi-million dollar
financial publishing firm with over 150,000 subscribers. In addition to
his role as managing editor and lead financial writer, he was also
responsible for equity research and managing a team of seasoned
professional financial writers, researchers and market commentators.
Paul's previous experience
includes a position at Robert W. Baird & Co.'s full-service
brokerage operations as well as economic research work on a Money and
Banking project funded by the National Bureau of Economic Research. He
has also spent time doing outside consulting and research for the
University of Virginia, has appeared as a guest expert on several
prominent financial radio shows, and has been a featured speaker at
various investment conferences across the U.S.
Paul graduated with a B.S.
in Finance and Management from the McIntire School of Commerce at the
University of Virginia.
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