You would think the federal government would be eager to boost revenue by simply legalizing online gaming on a federal level. A few billion dollars each year would find their way to federal and state governments if online betting was made legal, but so far the federal government has punted on the issue.
This leaves potential online operators like Caesars Entertainment's (NASDAQ:CZR) interactive arm Caesars Acquisition (NASDAQ:CACQ), Wynn Resorts (NASDAQ:WYNN), and MGM Resorts (NYSE:MGM) in limbo, despite being so close to another new market.
Ever since a 2011 federal opinion stated that online gaming is actually legal, states have been rushing to open up the Web to gamblers. Nevada, New Jersey, and Delaware have passed some form of online gaming. Yet most operators don't see the small local markets as an attractive option, partly because it would be complicated to operate a gaming network.
Residents of these states have already found trouble opening accounts or transferring funds to their accounts because banks are worried there will be liability in funding gambling sites. If it's only legal on a state-by-state basis, only a small number of gamblers will be online to bet against. That's a big problem for poker, the biggest opportunity for casinos online.
That's where the federal government can step in. There's even been some movement to federally regulate gaming, but nothing has passed yet. Last year, Reps. Pete King, D-Mass., and Michael Capuano, R-N.Y., introduced federal legislation that would put a regulatory structure and consumer protections in place. Now, Rep. Jim McDermott, D-Wash., is adding a tax and fee structure to the bill. These are small steps forward, but it's momentum online gaming really needs.
How big is the opportunity?
We don't know exactly how big online gaming could be for casino companies, but we can make an educated guess. Before it was shut down, Full Tilt Poker was said to have $500 million in revenue. That's only poker, and that's also before the federal government said online poker was legal. So, that's $500 million of illegal revenue from just one company. It's conceivable that the market for online poker alone would be $2 billion to $5 billion if legalized on a federal level. Add in other games and you come close to $10 billion -- more than Las Vegas and Atlantic City generate combined.
Morgan Stanley has estimated that online gaming could generate $9.3 billion in revenue, so the ballpark I've outlined above is in line with that.
For the government, that would be a big revenue boost. McDermott is recommending a 12% tax on gaming deposits, with 4% going to the federal government and 8% going to states. Deposits fundamentally need to be larger than revenue, so we're talking about a minimum of $1.2 billion in tax revenue if revenue is anywhere near $10 billion.
For gaming companies, the revenue they generate would be high-margin because it would only require software infrastructure, not billion-dollar casinos.
The question for investors is who has upside potential in online gaming? Las Vegas Sands (NYSE:LVS) CEO Sheldon Adelson is already building a lobbying force to fight online gaming, so it's easy to write off Las Vegas Sands' potential. The company may have to enter the fray eventually, but even if it does, it doesn't have the brands to compete with others in the U.S.
When it comes to brands, I think MGM Resorts and Caesars are your winners. Caesars Acquisition now controls the World Series of Poker brand, which would undoubtedly be a big site in the poker world.
MGM Resorts has partnered with Boyd Gaming and Bwin.Party, a powerhouse in the international gaming scene. With brands like Bellagio and MGM Grand, as well as an international presence, there's high potential there.
Wynn Resorts had a partnership with PokerStars, but quickly cut ties when the site was shut down in the U.S. Wynn's brand is smaller than MGM and Caesars, but as a free agent the company has the potential to join lucrative partnerships.
At the end of the day, this is still a business that will be dominated by Caesars companies and MGM Resorts. They've both struggled under their vast empires and heavy debt loads, but this is where their size pays off. The only question is around how long it will take to legalize online gaming on a federal level. It seems possible, but we've been saying that for years at this point. Better make sure that's not your only upside, or this is a gamble on policy in Washington, D.C. -- something I wouldn't do at this point.
Fool contributor Travis Hoium manages an account that owns shares of Wynn Resorts. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.