The Business Of Racing: Churchill Downs Inc.’s Annual Report

March 27, 2021

By Steve Zorn

Churchill Downs Inc’s annual reports and proxy statements always make interesting reading. For a number of years now, they have chronicled the company’s evolution from a race track operator into a corporation fueled by casinos and online betting that just happens to own a few racetracks, which it would generally be happy to dispense with if they didn’t come with casinos attached. The 2020 annual report and proxy statement, filed with the Securities and Exchange Commission within the past month, do not surprise. Together with last month’s announcement that Arlington Park will soon be sold for real estate development, the SEC filings document a continuing move away from horse racing.

In a laundry list of objectives for 2021, included in the proxy statement, there’s only one that relates to racing: “we remain committed to protecting and building our iconic asset – the Kentucky Derby.” Everything else is about casinos or online gambling. And no mention at all of the newly enacted Horseracing Integrity and Safety Act, perhaps the biggest regulatory change to affect horse racing in decades. If the suits in charge at CDI’s headquarters in Louisville could get their wish, they’d probably want to cut the Churchill racing season down to a two-day Oaks/Derby festival and otherwise dispense with those pesky horses and horsemen.

The CDI annual report, in fact, completely does away with racing as a separate line of business. The report breaks the corporate business up into four segments: (1) Churchill Downs itself, including the Derby City casino; (2) Online Wagering – essentially Twin Spires; (3) “Gaming,” which includes the Fair Grounds and Presque Isle thoroughbred tracks and a couple of harness tracks, all with slot machines attached, and some stand-alone casinos, as well as Calder in Florida, where Gulfstream had been running a summer meet for some years, but which has now given up racing entirely and substituted a jai alai license to anchor its casino;  and (4) “All Other,” which includes Arlington and Turfway, but also United Tote and corporate headquarters operations. Dividing up the racing operations this way serves two purposes: it demonstrates CDI’s determination to move away from being a horse racing company, and it makes it just about impossible for anyone but a forensic accountant to know how well the racing part of the business is doing.

Business as a whole, though, for CDI, is doing quite well. While figures for Churchill Downs and Gaming declined last year, because of the pandemic, Twin Spires’ handle went up by nearly 40%, from $1.46 billion in 2019 to $1.98 billion last year, as on-track betting virtually disappeared, and handle migrated to the internet.  For CDI as a whole, net revenue from ongoing operations declined from $1.33 billion in 2019 to $1.05 billion last year, a drop of just over 20%. But that’s not bad, actually, for a consumer business in a pandemic year. And CDI had ample credit available to ride out last year’s business disruptions, with very little of that debt to be paid back before 2024. While CDI’s bottom line corporate accounts showed a loss for 2020 of $81.9 million, compared to profits of $137.5 million in 2019 and $352.8 million in 2018, that loss was entirely attributable to charges for discontinued operations such as Calder and the ill-advised acquisition of Big Fish Games, an online gaming platform that CDI had bought and then dumped a few years later. Those one-time charges won’t impact CDI’s ongoing profitability.

Horse racing people may not be happy about CDI’s reinvention as a gaming company, but shareholders have had little to complain about. Despite a pandemic that shut down racing for months and forced the rescheduling of the Kentucky Derby, the CDI share price increased by 43% for the year, compared to 18% for the S&P 500 index. Over the past five years, the period during which a triumvirate of General Electric alums – William Carstanjen, William Mudd and Marcia Dall – have been at the corporate helm, CDI’s stock price has gone up 325%, compared to 103% for the S&P 500. And it’s continued to rise since the year-end figures reported in CDI’s SEC filings; the shares closed Monday at just under $233 per share, compared to $195 at the end of last year, a further gain of nearly 20%. Carstanjen himself is a huge beneficiary of the stock run-up; he owns nearly 545,000 shares of CDI, not counting thousands more already in the pipeline that will vest if he sticks around for a few years. At Monday’s share price, that’s $127 million in stock. That may not be quite at the Jeff Bezos level, but it’s a pretty nice nest egg for retirement.

Hedge funds and mutual funds have taken large positions in CDI stock and, presumably, have enjoyed the ride as the stock price rose. As of March 1 this year, the company’s three largest shareholders were the Black Rock hedge fund (12.85%) and the mutual fund operators Fidelity (9.11%) and Vanguard (8.54%). The involvement of the DuChossois family, which became the largest single CDI shareholder when the family’s Arlington Park merged into CDI in 2000, was closed out in 2020, when the company repurchased the last outstanding block of DuChossois shares. Though the annual report tactfully doesn’t say so, there’s a danger in having so many shares controlled by institutional investors; if quarterly reports are disappointing, or if the share price drops, those are the stockholders who will be the first to call for a sale of the company or a change in the top management. Expect CDI’s executives to be even more focused on the parts of their business, like slot machines and Twin Spires, that generate the quickest and biggest returns.

Despite the pandemic, and despite laying off thousands of employees for much of the year, CDI managed to maintain the handsome pay scale it has provided for its top executives. CEO Carstanjen, with a base salary of $1,500,000, took home a total of $10.6 million in cash and CDI stock, while COO Mudd was paid nearly $5.3 million and CFO Dall $2.6 million; COVID notwithstanding, the compensation was almost exactly the same as it had been in 2019, when business was uninterrupted and the Derby was held on the first Saturday in May in front of more than 100,000 spectators.

CDI says its executive compensation reflects the pay that’s offered by its “peer group” of a dozen companies. Tellingly, only one of these dozen, Penn National Gaming, actually runs race tracks, and it, like CDI, is mainly a casino company with a few tracks attached. Almost all the rest of the peer group consists of casino operators.

Another way to look at CDI’s executive pay is to compare what the top three front-office people made to the median income of a Churchill Downs Inc. employee. Even excluding seasonal and part-time workers, the average CDI staffer made $26,000 last year; Carstanjen’s $10.6 million was 404 times that median wage. Or, to put it another way, while the median CDI worker made $12.50 an hour, assuming a 40-hour, 52-week year; the CEO was making $5,050 an hour, meaning that he earned every 9 seconds the  $12.50 that it takes the median worker an hour to earn. Carstanjen, Mudd and Dall did take pay reductions of between 19% and 31% for 18 weeks during the worst part of the pandemic, but somehow that didn’t keep their overall compensation for the year from matching what it had been a year before.

CDI is still the third-largest racetrack operator in the country, after the Stronach Group and NYRA, and the only one of the three that issues public financial reports. Its 2020 annual report suggests that in a normal, non-pandemic year, a corporation can do just fine if it runs a few racetracks, provided that most of its income comes from other sources. Because we don’t know the finances of organizations that, like Stronach and NYRA, are more heavily dependent on actual racing, and because CDI itself no longer breaks out racing as a distinct line of business, we can’t infer much of anything about the general economic health of the industry from CDI’s results. All we know for sure is that CDI doesn’t want to be in horse racing unless there’s a casino or a Kentucky Derby attached.

Great article and you are absolutely right. However your piece is sensible and logical- something that doesn't register with the opposition (who rely on emotion and "siege tactics")

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