iGaming Legal trends

10.07.2009, Specter of Tribal Defaults Raises Unique Questions that Have Yet to Be Answered

Editor’s note: The issue of casino bankruptcies in Indian country is tricky – and evolving. We turned to former National Indian Gaming Commissioner Tom Foley to analyze the situation. Foley, who works closely with Spectrum Gaming Group (publisher of this newsletter) and is a founding member of the PACE/Minnesota government relations firm, wrote this analysis with PACE partner Kevin Quigley and Bill Fisher of the Gray Plant Mooty law firm.

Over the last two decades Indian gaming has grown from a handful of modest-sized bingo facilities in a few states into a $26 billion industry with over 425 tribal gaming establishments operated by 230 tribes in 28 states, many such operations being large- scale casino destination resorts offering Class III gaming. Tribes and others (bondholders, bank syndicates, development/management companies) have leveraged significant investments to fuel this growth, betting heavily on the long-term success of the gaming projects.

In doing so, the question lurking in the minds of many investors (and seldom considered likely to need a definitive answer) has been: What happens if the bet goes bad? The recent credit freeze and recession has thrust this question to the forefront of the industry, particularly for creditors holding substantial Indian gaming debt. Like many issues involving the Indian gaming industry, the answer - and related issues - is yet to be discovered and is evolving with the law.

Commercial gaming debt restructurings are generally made against the backdrop of a well- defined and understood set of legal parameters (i.e. the U.S. Bankruptcy Code). But even here, there is some uncertainty as to the interplay of the bankruptcy laws and state gaming regulatory requirements.

Attempts to restructure tribal gaming debt will only add a number of other variables to the equation and impact several different interested parties (tribal operators, tribal members and casino employees, management companies, lenders/bondholders). Each of these will have a perspective about how the law should address tribal gaming debt restructurings that may, or may not, be consistent with the others.

Some of the questions that will need to be resolved include:

Do U.S. bankruptcy laws apply to tribal gaming debt restructurings? What impact will tribal sovereignty and gaming laws have on restructuring attempts? How will the Indian Gaming Regulatory Act, and regulations adopted by the National Indian Gaming Commission interplay with “usual” debt work-out negotiations? BANKRUPTCY LAWS

Whether a tribe in general may file for relief under the U.S. Bankruptcy Code, Title 11 of the U.S. Code, has never been directly decided by federal courts. It is generally “presumed” by Indian law and bankruptcy practitioners that it is unlikely that a tribe can utilize the protections of bankruptcy laws primarily because tribes fall within the definition of "governmental units" under the code, and therefore are not a person eligible to file for relief. Section 101(41) defines "person” qualified to file for purposes of the code and specifically excluding “governmental units."

Section 101(27) in turn defines governmental units as "the United States; State; Commonwealth; District; Territory; municipality; foreign state; department, agency or Instrumentality of the United States, a State, a Commonwealth, a District, a Territory, a municipality, or a foreign state; or other foreign or domestic government." The practitioner’s presumption was recently reinforced by the reasoning applied by the Ninth Circuit Court of Appeals in interpreting the Congressional abrogation of sovereign immunity. Although not all courts agree, in Krystal Energy Co. v. Navajo Nation, the Ninth Circuit held that a tribe is a "domestic government" and therefore a governmental unit for the purpose of abrogation of sovereign immunity.

Chapter 15, which recognizes "foreign proceedings," may open some intriguing possibilities. In order for a tribe to utilize Chapter 15, however, the tribe would have to have its own bankruptcy law, which is constitutionally doubtful. And even then, the tribal proceeding would have to be interpreted as a foreign proceeding, which runs contrary to federal court interpretations of tribal governments. Thus, Chapter 15 proceedings would most likely not be available to tribes. It is likely, then, that tribes will be prohibited from filing for bankruptcy relief primarily because a tribe is not a “person” under the code. But what about a tribal authority or instrumentality? Many tribal casinos are actually owned and operated by a "gaming authority," "enterprise" or other "instrumentality" specifically established under tribal law as the tribal government entity to "hold" the gaming related assets of the tribe.

This business structure raises some interesting nuances of the code. For example, under Chapter 9, municipalities are permitted to file for relief. But a "municipality" is defined by Section 101(40) as a "political subdivision or public agency or instrumentality of a state"; and a state for purposes of Chapter 9 means only one of the 50 states. Since a tribe is not, and never has been, a political subdivision of a state, Chapter 9 should not apply to a tribal authority or instrumentality holding the tribe’s gaming related assets.

But whether the same reasoning would be applied to a tribal business corporation established under tribal corporate law remains uncertain at this time. With this in mind, any tribal gaming-debt restructuring must begin with a knowledgeable analysis of what tribal entity, and in what form, actually owns the tribal gaming assets at issue.

RESTRUCTURING RESTRICTIONS

Negotiations with tribal entities are always different than those conducted with commercial companies given the nature of tribal sovereignty which is usually applicable to the tribal gaming operator. Determining whether this immunity from forced suit has been properly applied under applicable tribal and federal laws may require extensive analysis of the debt financing documentation and tribal records, and will be a major influence shaping the negotiations (i.e., what dispute process and forum is permitted, applicable laws, etc).

The collateral subject to restructuring negotiations will also be impacted by federal gaming law restrictions on the creditor’s efforts to sell off “gambling devices” to recover part of the debt. Tribal laws may dictate how and when a judgment or arbitration award against the tribal gaming operator can be enforced on tribal land. Creditor priority issues under tribal law may also be argued under tribal secured transaction laws in some situations when bankruptcy laws do not apply.

Restructuring negotiations may also pull in state government parties when a creditor attempts to eliminate revenue-sharing payments required by a tribal-state compact provision or “suggests” that the gaming operation switch to more Class II machines not subject to such provisions in order to increase the funds available to pay the tribal gaming debt obligations.

IGRA AND NIGC CONSIDERATIONS

Any tribal gaming-debt restructuring negotiation will take place in a more restricted space than those concerning general commercial gaming debt. With a struggling commercial casino, state gaming regulations add a layer of questions and restrictions over any work- out negotiation commonly conducted in connection with non-gaming companies. Indian Gaming Regulatory Act and/or NIGC considerations unique to Indian gaming will add a second layer of questions and restrictions for any tribal gaming debt restructuring.

First, unlike most commercial debt restructurings, the creditor cannot generally take an ownership or security interest in the tribal land where the Indian casino is located or any of its gaming facility buildings as a bargaining chip. This restriction may mean that leasehold mortgages will be utilized more often than the recent past in order to increase the collateral securing the tribal gaming debt obligations.

Second, and most importantly, federal gaming law prohibits anyone other than the tribe from having a “proprietary interest” in the tribal gaming operations, thus eliminating the common Chapter 11 plan option of giving creditors an equity stake in the gaming operation in exchange for forgiveness of debt.

Neither may the creditor take over "management functions" (i.e. determining slot floor mix, marketing plan, department budgets) of the tribal casino for a period of time in order to right the ship unless the creditor is willing to first undergo the scrutiny of a suitability investigation by the NIGC.

Given that few creditors will be willing to undergo the time and expense for this investigation, the best option may be for the tribal operator and the creditor to agree to the appointment of a "work-out" management company for a limited time (6 to 36 months) selected by the tribal operator pursuant to a defined set of objective criteria (i.e., manager is currently found suitable by NIGC for Indian gaming, has 15 plus years of Indian gaming management experience, has adequate financial resources, etc.).

The usual ability of the creditor to cut off payments from the debtor’s operation to the equity owner during a restructuring period is also severely limited. Revenue from the tribal gaming operation, which in most instances is the only practical collateral for the debt obligations, is subject commonly subject to a “revenue allocation plan” approved by the US Department of the Interior directing specific distributions.

These revenue allocation plans include "per capita" payments to tribal members which must continue unless and until a modification to the plan is approved, a process that further complicates the restructuring negotiations since tribal leaders will be under considerable pressure politically to continue the per capita payments.

In addition, even if the creditor wanted to assume management of the gaming operations or agree to the selection of a "work-out" manager, IGRA requires that the tribe still receive some “minimum guaranteed payment” that, contrary to bankruptcy laws, has preference over retirement of the development and construction debt obligations (although the specific amount of payment is subject to negotiation), and places limits as to compensation and duration of management by a non-tribal party.

Many tribal bond offerings often have unique provisions governing the form and timing of any tribal distributions which will also impact the negotiations specific to that debt financing.

Last, any change in the economic terms and covenants of the debt obligations achieved through negotiations may inadvertently require NIGC review and approval of the new provisions under authority granted it by IGRA. Accordingly, a complete analysis of the restructuring by Indian gaming counsel will be necessary to avoid any major pitfalls and refine the work-out terms consistent with federal gaming laws.

As we have shown, any Indian casino debt restructuring will involve a complex mix of bankruptcy and creditor issues intersecting with unique legal and political challenges arising from federal gaming and tribal laws. How all this will play out is the next exciting chapter to be written in the history of the Indian gaming industry.

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