Introduction

Recent developments relating to the implementation of the Illinois Video Gaming Act (230 ILCS 40) (the “Act”) have led to an increased need for debt financing among video gaming terminal (“VGT”) manufacturers and terminal operators in the state.  This Client Advisory describes the current market situation for lenders looking to lend into this industry and discusses certain special legal considerations related thereto.

Background and Capital Needs

On July 13, 2009, Governor Pat Quinn signed the Act into law authorizing the placement of up to five VGTs in certain bars, restaurants, truck stops and fraternal or veterans’ organizations.  The Act authorized the Illinois Gaming Board (the “IGB”) to oversee the establishment of the VGT industry and granted the IGB broad rulemaking and regulatory authority over the industry once established.  Since then, the IGB has set to work establishing rules relating to the licensing of the various elements of the VGT industry, including VGT operators, manufacturers, suppliers, terminal handlers, technicians and VGT locations, as well as banks and other financial institutions providing capital to or for any of the foregoing.  On October 9, 2012, VGTs went live in Illinois offering VGT gaming to the public.

Since the fall of 2012, the IGB has continued to issue additional licenses to all facets of the industry, approving anywhere from 100-500 additional locations per month.  In fact, the industry currently supports over 2,500 locations throughout the state offering more than 10,700 unique VGT machines.  According to the IGB monthly report, the month of September 2013 saw over $375 million wagered which generated almost $30 million in net terminal income.  Additional counties, including counties that expressly opted-out of the Act following its initial passage, have opted-in to the Act and the number of additional locations continues to increase at a steady rate.  Even without a continued increase, the VGT industry in Illinois is projected to generate over $350 million in annual net terminal income.

In addition to financing the initial purchase and continued maintenance of VGTs, terminal operators have statutory capital responsibilities which result in large and continual capital outlays.  Terminal operators are required to maintain a vault at each VGT location that is capable of funding all jackpot payouts and returns of amounts paid-in but not wagered, while also complying with denomination requirements set forth by IGB regulation.  As the industry matures, terminal operators are turning to traditional lending sources that were previously unwilling to lend into this new industry to fund expanding operations and satisfy these capital requirements.

Special Lending Considerations

A lender considering participation in the VGT market faces specific and known regulatory considerations, including pre-funding lender registration and IGB approval prior to foreclosing on VGT collateral or the equity of a VGT licensee, and other unique elements of protecting security interests. 

There are two notable regulatory hurdles for lenders seeking to have security interests in VGTs. First, prior to creating a security interest in VGTs, the lender must register as a lender with the IGB by completing the Video Gaming Terminal Lender Registration Form. This is a relatively simple process which can be guided by an attorney in GT’s Gaming Practice and, in most circumstances, the lender can expect to be placed on the registered lender list maintained by the IGB within a week or two.

The second and more onerous regulatory hurdle for lenders arises immediately prior to a lender exercising remedies against the VGT collateral.  The IGB rules require that lenders notify and seek the approval of the IGB prior to exercising any such remedies.  As of November 8, 2013, this process has not been undertaken in Illinois, and the most informed estimates suggest that the IGB approval process could take anywhere from a few days to a few weeks, depending on the quality of the information provided to the IGB Administrator and the lender’s ability to mitigate regulatory concerns of the IGB. Additionally, prior to a lender foreclosing on the equity of a VGT licensee, the lender will likely be required to complete a full IGB application, investigation and approval process, which overall has the potential to be a difficult undertaking and potentially restrict the lender’s exit strategy.  An attorney in GT’s Gaming Practice can help navigate this IGB approval process and identify potential roadblocks and, in certain cases, offer potential solutions.

It is important to note that the regulatory requirements above would normally only apply when VGTs themselves are included in the collateral package and thus with proper structuring their effect on the overall transaction can be minimized by carving VGTs out of the collateral grant or, in the case of remedies, not foreclosing on the borrower’s VGTs.

Other perfection-related issues of interest to lenders in this space relate to access to the VGT locations, including access to VGTs and to the cash housed in the machines and vaults.  With each bar and other VGT location limited to a maximum of five terminals, borrowers will typically have VGT collateral in tens, if not hundreds, of locations.  Depending on the size of the facility and availability of other collateral, lenders will have to decide whether access agreements for the individual locations are economically feasible.  GT has worked with several clients on these and related issues regarding the control of cash proceeds and has structured solutions for a variety of individualized situations.

In addition to the issues discussed above, lenders should also be involved in monitoring their borrower’s regulatory compliance and should carefully diligence their borrower’s operations and take care to properly draft the necessary protections in the underlying loan agreements. 

Conclusion

Right now is an exciting time in the VGT field for both operating companies and lenders.  With proper work on the front end, our GT team has worked with numerous lenders and companies to implement financing in Illinois and multiple other U.S. and foreign jurisdictions.