Harrah's FINAL

Carbon Consulting Group

12/7/09

Harrahs: Spreading Their Bets Nationwide Team Carbon: Ben Simon, Demi Corrigan, Lauren Hylton, John Wood, Trent Krupa, and Chris Capp


12/7/09

Harrahs CEO Gary Loveman is facing a pressing dilemma for his casino corporation. Currently, Harrahs is the leader in market share and has the best product placement of any of the top players in the game (MGM Mirage, Boyd Gaming, Las Vegas Sands, see Exhibit 1). But the casino industry is struggling to remain profitable. The decline in tourism has had a direct impact in the reduction of travelers to Las Vegas, Nevada, which is the top location for commercialized casino gambling. Harrahs has also taken on substantial debt ($5.5 billion for impairment on Caesars Palace acquisition) which has raised concerns for company shareholders. Harrahs 60 casinos stretching across 12 U.S. states and 6 countries has allowed gamblers from all over the world to share in the Harrahs experience while their main competitors have taken on massive debt in large expansions of their Las Vegas and international businesses. i Should Loveman act aggressively and take advantage of his main competitors problems by further expanding Harrahs internationally? Or should Loveman not risk making the same mistake of expanding during a recession that has plagued Harrahs competitors internationally? Should he wait for the economy to return to normalcy before introducing any drastic development plans? History of Casinos in the United States In the United States, gambling dates back to the very early settlers from England. Although Puritan beliefs strictly prohibited any form of gambling, English settlers had a strong attraction to the lottery, card playing, and other forms of gambling for gentlemen. Gambling remained popular into the early 19th century. Many municipalities used lotteries as a means to raise money for public projects, although many times the organizers would never actually make the promised pay-out; other forms of gambling, such as dog and horse races began to pick up steam in the early 1800s. The southern states, with New Orleans as a major hub, were the most receptive to gambling. River boats would run along the Mississippi River where wealthy businessmen would gamble away their earnings, often to professional thieves who made their living off of travelers dazzled by the thought of doubling or tripling their business transactions. ii

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As Americans began moving out West, their sense of risk, adventure, and the search for riches coupled perfectly with the gambling environment. The gold rush would bring gambling to California, until later in the nineteenth century, when public opinion in California began to turn against gambling and major operations were forced into neighboring Nevada, who subsequently placed its own restrictions. In spite of intense regulations against gambling, the first slot machine was created in San Francisco in 1895. It was officially outlawed by the state of California in 1911, and subsequently forced to be used underground. iii Nevada legalized most forms of gambling in 1931 and organized crime syndicates began investing heavily in casinos. One of the most notable casinos opened by a member of an organized crime family was the Las Vegas Flamingo, opened by Bugsy Siegel, an infamous gangster who used his underground influence to establish a business presence in Nevada. The opening of the Flamingo was underlined by celebrity appearances and an influx of affluent gamblers to the city. The Flamingo largely set the stage for the unparalleled dominance of Las Vegas over Reno as the city for high rollers.iv In the 1950s, the US Senate opened up a series of investigations into the mafia influence in Las Vegas, using tax evasion as their most powerful legal tool. The Senates findings resulted in a massive crackdown on the criminal activities in Las Vegas and asserted massive pressure on heavy investments in the city. Eventually, the pressure was too intense and the organized crime families sold its stake in the Las Vegas casino industry to lawful buyers and publicly traded corporations. The subsequent years, along with relieved worries about illegal activity, resulted in an exponential influx of casinos to the area into what we now know as the modern day Las Vegas.v

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Casinos as an Industry Travel, Compensation, and Alcohol The casino industry has many complimentary goods and services. Some are natural and others have been developed by the industry over time. Many of these compliments carry a symbiotic attraction to casinos while others can prove to be hazardous if undesirable conditions occur. The compliments to the casino industry proven to be the most dangerous are travel and transportation expenses. The price of oil has fluctuated immensely in recent years and has had an impact on the price of airfare, train, automobile, bus, and other modes of transportation. With most major casinos being located in concentrated areas, the majority of the worlds population must travel long distances to reach these destinations. If costs are low, consumers are encouraged to take advantage of cheap travel deals to venture to a major casino and gamble. Conversely, if the price of oil spikes and travel costs are higher, consumers are more likely to utilize other forms of gambling such as the lottery, keno, or other substitutes. There are major compliments that serve to attract more consumers to gamble and extend their trips. The major casino areas of the world, such as Las Vegas, Reno, and Atlantic City all benefit from a highly developed hotel infrastructure. Many major casinos have purchased and maintained their own hotels to maximize revenue and capitalize on the synergy between the hotel and the casino industries. Hotels within a close proximity to a casino enable customers to gamble late into the night, and stay for several days or even weeks. The strategy is that customers who make winnings on a particular night are more likely to come back the next day and gamble away their winnings. Casinos encourage successful customers to stay, sometimes going as far as compensating their hotel rooms, rather them push them away, knowing that eventually the odds will lead the customer to spendingor in another word, losingtheir winnings back.

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Along with hotels, alcohol is another major compliment to the casino industry. The availability of cheap, often free, alcohol lowers inhibitions and customers abilities to make intelligent decisions. Casinos win back the money they lose on alcohol as a loss-leader, and consumers are encouraged to spend their entertainment time and money at a casino that offers free drinks over a bar or night club that charges for those same drinks. Lastly, casinos share a complimentary relationship with certain forms of entertainment, boxing being the most notorious in Las Vegas. Fanatical boxing enthusiasts are drawn to Las Vegas to watch bouts between the worlds best pugilists, with these events occurring not at athletic arenas like Madison Square Garden in New York City, but at casino/hotels so customers can easily access the gambling tables before and after the fight. On top of boxing, the major players in the casino industry have integrated night clubs, fancy restaurants, and thrill rides into their casinos. The MGM Grand casino and hotel in Las Vegas has built an entire amusement park on its grounds. These extra forms of entertainment serve to attract individuals to major casino areas who otherwise would not specifically choose to gamble their money as a form of entertainment. Since these individuals have traveled to the casino to engage in these other forms of entertainment, and because gambling tables and machines are very inviting, customers are prone to spend their money in the expansively laid-out complex. Entering the Game There are many barriers to entry in the casino industry, making it difficult for any new entrants or startups to come in and establish themselves. This is a significant benefit to companies already wellestablished in the industry, like Harrahs, because it limits the amount of competitors fighting for customers and market share. Conversely, this is an obvious disadvantage to potential entrants. The following examples detail each of the barriers to entry, showing the constraining obstacles being met by new companies.

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Real Estate Property Las Vegas and Atlantic City have centralized locations where a large majority of the customer base is concentrated. The prime real estate, located on what is called the strip, is owned by the major players. Casinos located outside this central area tend to not attract nearly the same volume of customers. For simple reasons that it is inconvenient and away from the other attractions and entertainment, most travelers to Las Vegas and Atlantic City will stay away from off-the-strip locations. Additionally, there is oversaturation; there are 197 casinos in Las Vegas. A new entrant would also have to convince the local or state government (depending on location) to allow you to build or find an organization that is willing to sell or rent their property out. Depending on what features your casino is going to require, zoning requirements could also potentially serve as a significant obstacle. Government and Legal Barriers There are many state and federal laws regulating casinos. Many states prohibit casinos, and the states that do allow gambling put an age limit on customers (21, 18 in few areas). Due to societal beliefs and stigmas associated with casinos and gambling, government regulations are high. Lobbyists have stated that increased crime and addiction rates may be connected to the presence of casinos. Governments can limit the amount of competitors by allowing a select few companies to exist in particular vicinity. If a company is looking to enter in an area that already has casinos, they might not be able to if there is a ceiling placed on how many companies can be in a particular region. Each company has to meet stringent criteria and be subject to governments licensing regulations. This industry also has high tax rates; state and local governments are eager to generate tax revenue off of casinos. These are thought to be some of the most effective barriers to entry because they are enforceable and highly regulated.

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Licensing Aspiring developing companies must apply for gambling licenses where they wish to operate. This can be a long and difficult process to endure especially in newly created gaming districts where officials would rather deal with established companies. A trend in the expansion of casino gambling is the adoption of a zoning-merit model used by governments for issuing licenses. The jurisdiction considering legalizing casinos has to set the number of sites that are going to be available for prospective casinos. The state government will then ask for all the requests for proposals (RFPs) by any company that is interested in owning and operating a casino in that area. After receiving all the proposals, the state chooses between candidates based on their experience, project specifications, and various other qualifications that were shown or described in their RFP. High Capital There is a high level of capital needed to enter this industry due to the high fixed costs of operating a casino. Securing investment capital is very difficult. The amount of capital, both monetarily and intellectually, needed to develop, run, and maintain a casino that would even come close to the quality that a company such as Harrahs operates is large. They would also have to be able to compete with the many other big players in the industry, since there is no price differentiation in the gambling world. A $50 bet at a Harrahs is the same as it is at any small underdeveloped casino that doesnt offer the same amount of perks or rewards programs. New entrants cannot enter this industry without a substantial financial investment.

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Alternatives to Casino Gambling Internet Gambling The most competitive substitute to the casino industry is internet gambling. What is preventing internet gambling from gaining more of the market is the government regulations against it. This can be assumed to be attributed to the taxes and income that the economy would lose from these establishments if internet gambling companies took hold. There is a high propensity for gamblers to substitute. With the convenience of the Internet, gamblers do not need to leave the comforts of their living room to win big. Internet gaming companies are prohibited in the United States, but customers from the United States are still gambling online using companies whose offices are located outside the US. River Boats An endangered species in the casino industry, very few river boat casinos are still in existence. Their popularity has diminished over time and they are currently viewed by the gambling world as a more nostalgic offering. There is a very low buyer propensity to substitute river boat gambling for casino gambling, especially considering river boats are only operated in the southeastern part of the United States. Their competitive advantage over traditional casinos is a perceived level of product differentiation, as they offer a product that is an experience. The experience may be different if the boat is an actual river dwelling vessel, but many remain permanently docked to reduce costs. Lottery & Scratch Tickets Since lottery and scratch tickets are much easier to access (purchasable in practically every gas station across America) and less time consuming, they serve as a considerable substitute to casino gambling , but certainly not a threat. The experience factor looms as a large discrepancy between buying a lottery ticket and going to a casino. Casino-goers (for table game players) believe that at least parts of

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their upcoming bets are in their own control; with lottery and scratch tickets, winning is entirely due to chance, unlike at a casino where at a table game, a players skill factors into whether or not he/she wins. Horse Racing / Dog Racing Similar to sports betting, horse and dog racing bets are being placed on an item versus another item or group. The stakes are similar to casinos, but are more reliant upon the amount of money to put down to increase profit (unlikely a horse will go off at a million to 1 ratio). There is a low buyer propensity to substitute, with knowledge of what horses to bet on being a critical factor for being successful in this form of gambling. The relative price performance of horse and dog racing appears to be low, with payouts coming on a ratio basis just like roulette in a casino. The buyer switching costs are also low, since there is not a great amount of firms who offer this form of gambling. There is a high level of perceived product differentiation, since going to a horse or dog track provides the feel of being at a sporting event, which contrasts the feel of being in a casino. Sports Betting Similar to horse/dog racing, the odds are usually within a limit. If a better picks an underdog (team favored to lose a sporting event, like the Super Bowl in 2008 when the heavily favored New England Patriots lost to the New York Giants) that better is likely to turn a small investment into a large reward. Sports betting is illegal in many states and that is the upside for casino companies such as Harrahs. Sports betting is legal in Las Vegas, which has enticed many casinos on the strip to open sports betting centers inside their locations. The buyer propensity to substitute is quite low with sports betting, since location comes into effect with sports betting being allowed only in certain states. Similar to casinos, users of sports betting believe theyre knowledge capital for a certain sport will serve as an advantage in placing bets. Depending on the event, there can be high price performance in this substitute (March Madness and Super Bowl create many betting options). Overall, sports betting serves as a

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significant substitute, but with sports betting centers being integrated into casinos, theyre also seen as a complimentary industry. Who Has the Power? Over 52 million Americans gamble on an annual basis, with the average gambler visiting a casino 6.1 times a year. With this resulting in over 320 million casino visits per year generating total revenues for casinos over $52 billion, there is significant buyer power within this industry. There is little competition between buyers, along with a limited amount of product differentiation from casino to casino. The gambler of today can choose between multiple forms of gambling among many diversified locations. In the past, gamblers could only venture to Las Vegas and Atlantic City. Today, Harrahs alone operates 60 casinos in 12 US states.vi While the individual gambler has little bargaining power with a casino, each customer can easily switch from one establishment to another without incurring any added costs. To combat this, casinos have created their own versions of frequent flier programs which create switching costs for the individual gambler. Harrahs was the first to pioneer a system that rewards customers for the amount of gambling they do. In order to increase the value of their brand to the customer, Harrahs uses custom software to analyze all the ways an individual spends money at their locations. Each dollar spent earns program points and Harrahs offers that person custom rewards based on their spending behavior. Harrahs classifies customers in its Total Rewards program into four categories: Gold (entry level), Platinum, Diamond and Seven Stars (high rollers). As customers spend more, they are elevated to higher levels in the program and offered larger rewards. To strengthen a personal bond with the customer, Harrahs sends birthday gifts to Platinum level members and several gifts a year to their Diamond and Seven Stars members.vii This program has been highly effective in creating loyalty by establishing a penalty for gambling at other casinos. Spending money at Harrahs competitors means missing the opportunity to accrue points towards additional benefits. This has helped Harrahs differentiate themselves in the gaming industry and shift the balance of power away from the customer. A benefit for both parties is that Harrahs uses the 9


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program to make customers aware of special events and promotions that align with their individual interests. The Total Reward program allows Harrahs to focus on their preferred market segment in the industry: the gamblers themselves. While Harrahs does have entertainment in their casinos, they do not focus on customers primarily looking for a vacation/entertainment experience. They also do not advertise great food as a means of attracting customers. Many of Harrahs competitors offer gaming as part of a Five Star resort hotel experience. The organizational focus for Harrahs is on the gaming experience and connecting with customers who have the same objective.viii Competitors of Harrahs MGM Mirage Formed in 2000 when MGM Grand acquired Mirage Resorts in 2000, MGM Mirage is one of the worlds largest gaming firms. MGM Mirage is comprised of Las Vegas Casinos MGM Grand, Luxor, Bellagio, The Mirage, New York-New York, and the Monte Carlo. There are also casinos in other cities in Nevada as well as in Illinois, Michigan, and Mississippi. A big step towards being at the top of the casino world was when MGM Mirage acquired one of its main rivals, Mandalay Resort Group, in 2005 for $7.9 billion. 40% of the firm is owned by its founder, Kirk Kerkorian. ix Currently in the process of completing a mega-resort (City Center) between the Bellagio and the Monte Carlo casinos, Kerkorian has had to scale back on what was supposed to be an $11 billion dollar project due to the decline in tourism and the economic recession. Towards the end of 2008 MGM Mirage agreed to sell its Treasure Island Hotel and Casino on the Las Vegas Strip. The hotel/casino sold for $775 million and was bought by Ruffin Acquisition LLC; this was done in an effort to lighten its debt. MGM Mirage is also considering the sale of the Bellagio.x There is a battle currently going on between Kerkorian and Carl Icahn, an activist investor, over hundreds of millions of dollars in MGM Mirage debt. Icahn is pushing for Kerkorian and the company to file for bankruptcy. MGM Mirage sold over $2.5 billion in stock and notes to create some liquidity and 10


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improve its financial situation. Internationally, the company owns 50% of a hotel and casino resort in Macao, China. This casino is also struggling financially.xi Of Harrahs major competitors, MGM-Mirage has experienced the largest net loss in 2008 at just over $850 million. Unlike the other major competitors, MGM has not taken on large amounts of new capital assets. Property, plant, and equipment accounts are nearly identical to the three prior years; and asset turnover has remained literally identical to the prior year (meaning that the ratio between assets and sales is the same as in prior years). However, cost of sales has increased significantly, lowering gross margins almost 6% to 40% total. Also, MGMs liabilities have increased almost $3 billion in 2008, leading us to believe that a large amount of renovations have been done to existing facilities, without the actual purchase of new businesses. These renovations have made MGMs costs to generate revenue higher, without the direct payoff of increased sales.xii Because of this massive increase in long term debt, MGMs leverage has increased to 5.86 from 3.75 in 2007. This extremely large increase in debt will hopefully be used by MGM to invest very wisely in the coming years. If MGM does not utilize the cash inflows from this debt, they may become bogged down by interest expenses and could find additional financing extremely difficult to secure. Weakened competition from MGM could enable Harrahs to offer new incentives to consumers without fear of retaliation. Boyd Gaming Corporation 35% of the company is owned by Chairman William S. Boyd. Boyd used to be known for its Stardust Resort and Casino, but the fifth-largest gaming company in the country decided to demolish the resort to pave the way for Echelon Place. Boyd has 15 properties set across Las Vegas, Florida, Indiana, Illinois, Louisiana, and Mississippi. Combined throughout all their casinos they have 22,000 slot machines and 450 table games. Boyd and MGM Mirage co-own (50/50) Atlantic Citys Borgata Hotel Casino. Boyd purchased Coast Casinos in 2004 for 1.3 billion.xiii 11


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Echelon place is planned to be a mega casino, spanning over 60 acres. Project costs $4.8 million, and has been suspended due to Las Vegas economy being affected by unemployment and a decline in tourism. Once consumer spending improves officials of company have stated theyd like to resume construction. Expressed interest in acquiring bankrupt Station Casinos, which would allow Boyd to make use of the $2 billion loan intended to finance Echelon. In 2008 Boyd announced its plan to build a casino/resort/spa in North Las Vegas. Construction on this project not expected to begin for 3-5 years.xiv Boyd Gaming Corporation invested in approximately $600 million worth of property, plants, and equipment between 2007 and 2008. Although Boyd has managed to maintain a relatively healthy gross margin of 45.65%, the increased fixed costs associated with these investitures, along with the stagnation of revenue into 2008, has had a detrimental impact on the companys operating profits. Likewise, during the fiscal year 2006, Boyd enjoyed an asset turnover rate of .56, compared to an asset turnover of .39 in 2008; this means that Boyds assets are generating smaller amounts of revenue per asset compared to just two years prior.xv Boyd Gaming Corporation has also become increasingly leveraged over the past couple years. In 2007, Boyds leverage was 3.24; however, in 2008 this number shot up to 4.03.xvi Although higher leverage offers the possibility of higher returns on equity during strong earning seasons, it also means that the company has taking on more debt to finance its activities. This influx of debt means increased interest expenses along with a possibility of lower credit ratings by the major rating companies. Furthermore, many long term loans require specialized terms to ensure that a company will not default. Some terms may require that a companys net income does not drop below a specific level. If Boyd is subject to these conditions in any of its loans, it may be forced to pay back massive levels of cash due to the fact that they have performed so poorly in 2008.

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Las Vegas Sands The Venetian Casino Resort (owned by Las Vegas Sands) brings a Venice-feel to the Las Vegas Strip. The 12,000 square foot casino/hotel is complete with a shopping, dining, and entertainment complex and lets visitors take a ride on a gondola through a replica of the Rialto Bridge. LVS additionally owns 3 casinos outside of Las Vegas in Macao. 70% of the casino is owned by Chairman and CEO Sheldon Adelson. xvii 2008 was not a kind year to Las Vegas Sands. The company was forced to lay off 500 employees, which included 100 managers, just at its Venetian Macau hotel. Due to the economic recession and the drop in tourists visiting China, the company also had to suspend development operations in China as well as Las Vegas.In an effort to reduce some of its substantial debt, LVS hired Goldman Sachs to help negotiate efforts to buy back some of what had succumbed to over $10 billion in debt. The company is currently in public offerings of their assets in Macau after failed attempts to sell the casino/hotels.xviii It appears that the large drop in 2008 net income for Las Vegas Sands comes from the massive influx of fixed assets and the depreciation that increases with it. This increase of depreciation has resulted in a direct expense to the company's income statement. Also, Las Vegas Sands' liabilities have greatly increased in the past several years; this has resulted in increased costs of financing their business and ultimately higher interest expenses. Also, due to the increase in facilities, gambling machines, and other cost of sales drivers, combined with the economic meltdown affecting the gambling industry, gross margins have dropped dangerously in fiscal year 2008. During 2005, Las Vegas Sands was enjoying gross margins of 49.83%. These margins were directly related to the high asset turnover of .45, when less capital was needed to generate a large amount of sales from customers. However, Las Vegas Sands gross margins have steeply deteriorated to 36.93% with an asset turnover of .26, meaning that the company has generated nearly half the revenue off of its assets as it did in 2005. 13


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It remains to be seen whether or not Las Vegas Sands massive increase in capital assets will begin to pay off after the recession eases and gambling consumers return to the casinos. What is certain is that this company may have purchased assets in locations that do not do well during a global downturn, making this company especially vulnerable to fluctuations in the economic environment. Suppliers The second source of vertical competition in the casino industry is suppliers. Suppliers in the casino industry supply a wide range of items from poker chips and gaming tables, to slot machines and electronic games, to the creative and sometimes lavish dcor inside the casino. The effects of these supplies help casinos create a unique gambling experience for their customers.xix While there are a few prominent casino suppliers in the industry, such as Cruzino, American Gaming Supply and Rose Brand; many casinos (firms) use suppliers based on their location and proximity to their casino and are not loyal to one particular supplier. Often times the bargaining power of suppliers goes hand in hand with the bargaining power of buyers. Many suppliers are based on location, and there are many suppliers in this industry, making their bargaining power low to this industry.xx With that, companies within the casino industry have a relatively easy time switching between different suppliers which in turn reduces the bargaining power of the supplier. (Grant, 2008, p. 79) Suppliers in the casino industry are seen as relatively low commodities. Because of this, suppliers do not have a lot of bargaining power with in the casino industry. External Factors in Casino Industry To analyze the external influences to the casino industry we first look at the political force. In gambling, there are many government and state regulations that can factor into whether or not a casino can be built in a certain area, and the extent of gambling they can do. Many times, local politics play a role in casino development, and is centered on relationships with the local politicians. Like a lot of industries, casino gaming has a lot of legal issues and framework that they must adhere to and operate 14


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within, so understanding and knowing the fine print makes things a lot easier to maneuver. Due to political regulations, there is a ceiling placed on how many casinos can be in an area. Also, in many states persons under the age of 21 are prohibited from entering casinos and gambling, taking an entire segment out of the customer market. The external economic forces within the casino industry are really evident in the current state of the economy. Any time there is a recession the effects are seen in the effect on tourism and travel. Las Vegas being the dominate location for casino travel and has felt the impact in the reduction of people traveling and spending. Economic recession is correlated with the increase in oil prices, and the effect it has on travelers. Tourists are less likely to travel when the cost of oil is so high, and costs increase for the casinos as their cost of freight and shipping goes up. The social forces in the casino industry are clear. Observably, casinos add a form of entertainment which can add value to a community by providing leisure options, as well as jobs for inhabitance. A casino offers customers the opportunity to enter their place of business a poor man, and leave a rich one in a single trip. For those customers living in cold-weather climates looking to seek warm-weather excursions, many resort casinos are conveniently built in warm climate areas to take advantage of the weather. Technologically, the Internet has had a major impact on the casino industry. Instead of traveling to a casino, people can play poker online without leaving the comfort and privacy of their own home. The rate at which technology is advancing is astounding and certainly plays a role in whether to employ a dealer, or install a black jack video game. With the immense technology capabilities that are out there today, casinos are able to profile their customers by tracking their gambling habits as well as predict their habits. With technology, casinos are also able to advance their security in an effort to reduce the physical labor required and minimize unnecessary loss.

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Gary Lovemans Leadership In 1998, Gary Loveman was hired as Harrahs Chief Operating Officer. Loveman was able to draw from his knowledge of having worked in academia to drive Harrahs to success. Loveman started Harrahs tremendously successful Total Rewards program that used sophisticated technology to track customers actions at the casino. Before he came to Harrahs, Loveman was an asocial professor at Harvard University. Loveman obtained his bachelors degree from Wesleyan University and his Ph.D. in economics from M.I.T.xxi Loveman was then named Chief Executive Officer in January 2003. Lovemans attention to detail and value for harnessing intangible assets is what helped drive Harrahs profits through the roof. Loveman used technology to create a system that pushed employees at every level to not become complacent. At Harrahs, employees are constantly being pushed to do better and succeed more. Loveman used a scorecard to keep track of everything from revenue to customer satisfaction in every department. The reports tracked customer satisfaction, along with tracking the daily profits in every department. Loveman brought his competitive spirit to the work place everyday.xxii The former Harvard professor saw the value of tracking customer satisfaction and complaints by using surveys and tracking programs. Harrahs uses technology to make improvements in customers experiences and found the value in connection between IT and customer and employee needs. Loveman had implemented a plan to reduce employee health benefits in an effort to reduce costs, and quickly realized that with the cut backs many regular Harrahs employees could not afford health coverage. Loveman took no time to hesitate and quickly addressed the issue and said he had made a mistake. xxiii The prolific CEO continues to stay in touch with his employees and relies on their feedback to push the company forward. Every quarter, Loveman schedules a period of four-hour conference call, where employees can call in and voice their concerns or problems they are having in their departments. Not only does Loveman listen to their issues, he also acts on the problems to try to resolve issues. 16


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Employees value the conference call since they know Loveman will act on their issues, and they can voice their concerns without fear of retaliation. xxiv Competitive Advantage Harrahs has several factors that combine to form their competitive advantage in the gaming industry. Harrahs enjoys the most diverse geographic distribution of casinos of any player in the industry. Their major competitors have highly concentrated investments in a small number of resort destination casinos. With over half of their revenues coming from outside Las Vegas and Atlantic City, Harrahs has less exposure to any downturn in tourism. xxv Their regional casinos spread out across the US allow customers to cut back on travel expenses by visiting Harrahs gaming facilities nearer to home. In difficult financial times like we are currently experiencing, Harrahs is better able to weather the negative financial climate. Another competitive advantage for Harrahs is the strong brands they control. The Harrahs brand is widely known due their presence in so many markets across the US and the globe. The Caesars brand is also widely recognized in the gaming industry and broadens Harrahs appeal to the high rollers segment of the market. Harrahs also owns the best known brand in the wildly popular world of Texas Holdem poker tournaments. Harrahs control of the World Series of Poker brand allows them to benefit from the recent explosion of interest in on-line and tournament play. An enduring source of competitive advantage for Harrahs has been their on going investment in a customer loyalty program. Harrahs was the pioneer of this concept in the gaming industry and they have a proven commitment in exploiting its potential. Former Harvard Business School Professor, Gary Loveman, was initially brought in as COO for Harrahs with the idea to help Harrahs improve customer loyalty. xxvi To assist with this effort many of the old school managers were replaced with top IT and marketing staff. What resulted was the Total Rewards program. This program not only rewards gamblers for the money they spend but it also provides Harrahs information on how to best satisfy their customers 17


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needs. By using sophisticated programming, Harrahs is able to spot individual and overall trends in gambling behavior. They are then able to respond by providing custom offerings to individuals based on their interests or by redesigning their casinos to satisfy changing customer tastes.xxvii In its first two years of operation, Harrahs credited the Total Rewards program with doubling their profits.xxviii With 40 million members, Harrahs loyalty program is the largest in the business and this massive database of information provides Harrahs significant insights on how to best operate their business. For a full analysis of Harrahs strengths, weaknesses, opportunities, and threats, see Exhibit 2. Financial Analysis of Harrahs Despite having the largest market share in the industry, Harrahs sustained some significant financial losses over the past few years. They acquired Caesars Entertainment for $9.4 billion in cash, stock, and debt in 2004, with $4.2 billion being in debt alone. After this, they continued to grow over the next three years with sales growing 54% and net income 162%. In 2008, they were acquired by privateequity firms Apollo and TPG for $30 billion. Since they no longer were a publicly-held company, stock ceased being traded on the New York, Chicago, and Philadelphia Stock Exchanges. Due to the combination of harsh market conditions in the fourth quarter of 2008, lower valuation of assets, and higher discount rates, $5.5 billion of goodwill and other intangible assets were recorded as impaired (4.6 in goodwill). As sales and cost of goods sold only declined slightly in 2008, the impairment caused a $5 billion loss in retained earnings. This created large deficits of $3.8 and $5.2 billion for operating profit and net income, respectively. Over the 2008 fiscal year, they saw a $6 billion decline in equity and a $14 billion increase in liabilities (see Exhibit 3).xxix Since the main portion of this deficit was due to an anomaly, their financials should also be looked at without this impairment. Without the $5 billion loss, their operating profit and net income would only have decreased 6% from 2007 to 2008. A 6% decline would be mostly attributable to the recession and when looking at the numbers of Harrahs competitors, would be much lower. From this perspective, they are the most attractive company in the industry when compared to the drops in profit 18


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and net income of Sands, MGM and Boyd. Harrahs net income is the only one that was positive for 2008 fiscal year. It dropped significantly from 2007; but was still not in the red. The same can be said for Harrahs operating profit, with Harrahs being the only companyof the top 4 playersthat has a positive operating profit. The economic downturn caused all of the companies in the industry to suffer severely, but Harrahs was still able to stay profitable. Harrahs liabilities have doubled from 2005 to 2008, even without the impairment; they went from $15 billion to $30 billion, of which a majority was due to debt. Their financial leverage was similar to that of their competitors, but became one of the highest of the industry by 2008. They need to deleverage themselves. Having high financial leverage is risky and can portray a poor utilization of borrowed funds. Harrahs increased assets from $20 billion to $36 billion from 2005 to 2008 through purchases.xxx This can be seen positively, however, as an opportunity for growth potential when the economy turns around (see Exhibit 4). Recommendations for Gary Loveman Technology Utilization Harrahs should continue to utilize the technology they have, and build upon it. Using the technology to find out what the most popular game is, or what type of service their customers prefer will pay dividends in the long run. The more data Harrahs collects, the better prepared they are to have the latest games and services, while also proactively incentivizing their customers trips to their casinos. Expansion Harrahs should continue to market themselves in the non-Las Vegas areas as a way to expand their brand power. While expanding globally is attractive, especially in Macau, at this time it is better to expand their brand in the US, so they will have the capital to invest overseas when the time is right.

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Harrahs needs to focus on cost cutting measures to stay alive in the short term. These cuts should be to excess processes that do not serve to enhance the customer experience. Any unnecessary administrative staff should be removed to lower operating expenses. Also, executive compensation should be frozen or even reduced to control excessive pay and benefits and provide incentive for executives to find ways to make the company more successful as the economy moves out of the current recession. Additionally, line employees will need to be cross-trained in multiple areas of the company so as to enable Harrahs to slim its ranks through natural attrition without affecting the customer experience. With the employees that are still with Harrahs after the initial cost cutting measures are completed. It will be extremely important for the company to do as much as possible to enhance employee satisfaction. Spending should be allotted on improvements to employee break-rooms and free snacks and beverages to improve the overall work environment for employees. Also, management should engage in a Theory-Y style which suggests that employees want to do what is best for the company because it is also best for their interests. Employees should be given the mobility and freedom to make on the spot decisions about customer complaints; this will both empower the employee and satisfy the customer, resulting in an overall move towards Harrahs goal of being differentiated through the customer experience and loyalty to the brand name (see Exhibit 5 for full-detailed Balanced Scorecard).

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Exhibit 1 Product Placement Map

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Exhibit 2

Harrahs SWOT Analysis

StrengthsDiverse operations Prime casino locations Well placed undeveloped land Loyalty program

OpportunitiesMacau China Northeastern USA Cost reduction program Complimentary Investment

WeaknessesLarge debt to acquire Caesars casinos Las Vegas operations dependant on tourism and healthy economy

ThreatsGovernment regulations Casino proliferation and market saturation Public opinion Natural disasters

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y

Does not include Impairment

Exhibit 3

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y

Includes Impairments

Exhibit 4

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Exhibit 5 25


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End Notes

Harrah s Entertainment Inc http://0premium.hoovers.com.helin.uri.edu/subscribe/co/factsheet.xhtml?ID=ffffryxjrjfjsxctjx ii History of Gambling in the United States http://www.library.ca.gov/crb/97/03/hapt2.html iii Ibid iv Ibid v Ibid vi M. Levinson, Harrah s Knows What You Did Last Night, www.cio.com , June 6th, 2001 vii www.harrahs.com, Investor Presentation, September 2009viiiix

i

D Norton, Harrah s Hits Customer Loyalty Jackpot, www.sas.com, 2007

MGM Mirage , http://0-premium.hoovers.com.helin.uri.edu/subscribe/co/factsheet Ibid xi Ibid xii Ibid xiii Boyd Gaming Corporation http://0-premium.hoovers.com.helin.uri.edu/subscribe/co/factsheet xiv Ibid xv Ibid xvi Ibid xvii Las Vegas Sands http://0-premium.hoovers.com.helin.uri.edu/subscribe/co/factsheet xviii Ibid xix Gambling Resorts and Casinos http://0-premium.hoovers.com.helin.uri.edu/subscribe/ind/factsheet xx Grant, Robert, Contemporary Strategy Analysis. Sixth Edition, Blackwell Publishing, 2008x

xxi

Shill, W. E., & Thomas, R. J. (2005, October). Exploring the Mindset of the High Performer. OutlookIbid

xxii

xxiii

Thomas, R. J., Harburg, F., & Dutra, A. (2007, January). How to Create a Culture of High Performance. Outlookxxiv

Ibid

xxvxxvi

www.eweek.com, CRM Strategy: Make Every Customer More Profitable, December 12th, 2003Ibid

xxvii

D Becker, Gambling on Customers, The McKinsey Quarterly, July 14th, 2003

xxviii xxix

Ibid, Levinson Ibid, Harrah s Entertainment Inc xxx Ibid

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