Declining Purses and Track Commissions in

Thoroughbred Racing:

Causes and Solutions

NTRA Wagering Systems Task Force September 2004

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TABLE OF CONTENTS

Preface 2 Foreword by Rudolph W. Giuliani 3 Introduction 4 Chapter 1: The Changing Environment for Pari-Mutuel Wagering 5

Chapter 2: NERA Analysis 17 Chapter 3: Task Force Recommendations 42 Appendices 44 Glossary 72 Bibliography 74 Exhibits Attached

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PREFACE

The Wagering Systems Task Force (WSTF) acknowledges the cooperation of the racing associations, racetracks, horsemen’s groups and account wagering operators who supplied the confidential financial data that has made possible this first-ever public, fact-based analysis of the effects of simulcasting and inter-site wagering on pari-mutuel handle, revenues and purses. It is our hope that this information will be used as the basis for decisions that will enable the protection and growth of the pari-mutuel industry both domestically and internationa lly.

Respectfully,

The Members of the Wagering Systems Task Force:

Greg Avioli Paul Berube Ira Block Gary Carpenter Tom Casaregola Ron Charles Drew Couto Robert Flynn Joseph Hasson Maggie Johnson

Frank Lamb J. Curtis Linnell Robert Manfuso Alan Marze lli Jim McAlpine Chris McErlean Steve Mitchell Bill Nader Ron Nichol Richard Peden

Lonny Powell James Quinn Doug Ramsey Rebecca Reed John Roark Chris Scherf Karl Schmitt Harvie Wilkinson David Willmot Maury Wolff

The views of the WSTF members reflected in this report are those members’ individual views and may not be reflective of the views of the entities for which they work or with which they are associated. The principal NTRA management and staff contributing to this report were Greg Avioli, NTRA President and chairman of the WSTF; Peggy Hendershot, vice president – legislative and industry affairs; Ken Kirchner, senior vice president – product development; Terry Meyocks, special assistant to the Commissioner; and Ragan Montemayor, associate counsel.

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FOREWORD BY RUDOLPH W. GIULIANI

The National Thoroughbred Racing Association (NTRA) and the Wagering Technology Working Group (WTWG) retained Giuliani Partners in 2003 to address electronic security and public policy issues that developed after an attempted $3 million wagering fraud in connection with the 2002 Breeders’ Cup World Thoroughbred Championships. Our firm worked closely with the NTRA and members of the WTWG throughout the year to conduct a candid assessment of the pari-mutuel wagering security infrastructure. We accomplished our goal of improving system-wide security and retaining public confidence. Now, the NTRA is addressing another important issue. The dramatic growth in unregulated Internet wagering on U.S. races has introduced new integrity, fairness and security issues. To address these challenges, the NTRA and representatives from all aspects of the Thoroughbred industry assembled under the umbrella of the NTRA Wagering Systems Task Force (WSTF). The Thoroughbred industry is no different from any other major international business. It must constantly reassess its business models and practices in the wake of the Internet revolution. What separates Thoroughbred racing from most businesses, however, is the fundamental obligation it has, as a state- licensed and -regulated business, to protect and maintain the security and integrity of the wagering product. This challenge has been heightened with the recent growth of electronic wagering, both domestically and abroad. In order to maintain security and integrity in this global marketplace, the domestic pari-mutuel industry must retain full control over the wagering product and provide complete transparency to lawmakers and regulators for the benefit of racing’s most important cons tituency, its fans and players. Following up on our work in 2003, Giuliani Partners was retained by the WSTF to determine the extent of the problem from economic, legal and regulatory perspectives and to develop recommendations for the future. This Final Report of the Task Force provides an analysis of the challenges the industry faces in dealing with the growth of Internet wagering. Only by fully understanding the facts can we begin to develop effective solutions. We believe that implementation of the recommendations in Chapter 3 of this Report will go a long way toward meeting those objectives. Horseracing is a significant part of our country’s heritage. As a longtime racing fan, I applaud the efforts of the NTRA and the Wagering Systems Task Force to ensure the sport’s continued vibrancy.

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INTRODUCTION

The Wagering Systems Task Force (WSTF) is the latest example of the NTRA serving in the role of “Convening Authority” for the Thoroughbred industry. In the year prior to the Task Force’s formation, there had been widespread public comment concerning the growth of rebaters, asserting that they were “poaching” the best racetrack customers and pirating racing signals and other intellectual property. This commentary was heightened by the release of data in January 2004 that showed a 1% increase in handle along with a 1.7% decrease in purses for the previous year. The NTRA Board of Directors characterized the phenomenon of “handle up, purses down,” as one of the leading problems facing the Thoroughbred industry and authorized the convening of the WSTF to conduct a systematic review of the causes of reduced purse levels in North American horseracing, despite an increase in the primary revenue source for purses, pari-mutuel wagering.

The Task Force – composed of 30 industry professionals representing nearly two dozen racetracks, regulatory agencies and racing associations – convened regularly over the following six months along with a group of outside consultants to engage in fact- finding on key issues germane to domestic and international, electronic pari-mutuel wagering. The consultants and their areas of expertise included Giuliani Partners, led by former New York Mayor Rudolph W. Giuliani (electronic security); National Economic Research Associates (NERA), led by partner Louis Guth (business economics); Richard Cirillo of King & Spalding LLP – New York (anti-trust counsel); Robert Penchina of Levine Sullivan Koch & Schulz LLP (legislative counsel) and Michael Hauser of Alston & Bird LLP (intellectual property counsel). The Task Force identified the following areas for intensive review:

• Changing wagering patterns (e.g., from on-track to off-track); • Rebating (e.g., under current regulatory rules and as practiced by some OTB or account

wagering operators); • Reductions in normal winning payoffs due to computer-assisted pari-mutuel wagering;

and • Internet-based betting exchanges.

The Task Force began its work by commissioning a study of the wagering-related business practices of the pari-mutuel and Thoroughbred racing industries that have a direct impact on purse monies. The resulting study, prepared by NERA, is a primary source document considered in the Task Force’s report and appears as Chapter 2 of this document. In addition to its fact- finding role, the Task Force was charged to recommend appropriate remedial steps to reverse the downward trend of purses, the lifeblood of the Thoroughbred racing industry. Those recommendations appear in Chapter 3 of this report.

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CHAPTER 1

The Changing Environment for Pari-Mutuel Wagering

Overview Pari-mutuel wagering in the United States has undergone a substantial transformation since the early 1970s when off-track wagering debuted in New York. As a result of legislative advances and technological improvements broadening over the last two decades, bettors today lawfully can place wagers at racetracks on live events or imported races; at off-track betting facilities; or via remote communications devices such as the telephone, personal computer, hand-held wagering devices and digital TV set-top boxes. Eighty-seven percent of U.S. pari-mutuel handle is now bet on non- live racing due in large measure to the expansion of simulcasting in the 1980s and 1990s.1 Account Wagering A key “market within the market” for simulcast wagering is account wagering, which allows individuals with pre-established wagering accounts to send wagering instructions from a location outside a licensed pari-mutuel wagering facility. Wagering instructions can be communicated remotely via a range of hand-held electronic devices. Account wagering in the United States is regulated by both federal and state law. 2 The federal law legalizing account wagering is the Interstate Horseracing Act (IHA) of 1978, which was amended in 2000 to give express authorization to account wagering through a definitional change to the term “interstate off-track wager.” Under the amended IHA, an interstate off- track wager is defined as:

“[A] legal wager placed or accepted in one State with respect to the outcome of a horserace taking place in another State and includes pari-mutuel wagers, where lawful in each State involved, placed or transmitted by an individual in one State via telephone or other electronic media and accepted by an off-track betting system in the same or another State, as well as the combination of any pari-mutuel wagering pools.”3

1The number of sites accepting U.S. races via simulcast can exceed 9,000, spread over 20 countries, inclusive of 1,100 sites in North America. This was the number of sites that took wagers on the 2003 Breeders’ Cup World Thoroughbred Championships. 2 At present, 18 states have expressly enabled account wagering via statute or regulation: California, Connecticut, Idaho, Kentucky, Louisiana, Maryland, Massachusetts, Nevada, New Hampshire, New Jersey, New York, North Dakota, Ohio, Oregon, Pennsylvania, Virginia, Washington and Wyoming. 3 15 U.S.C. § 3002(3).

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Oregon was the first state to adopt a statute expressly authorizing both account wagering by its residents and the establishment of licensed operators of totalisator hubs4 within the State to accept account wagers from other lawful wagering states.5 Three of the four major domestic account wagering providers – TVG, Youbet.com and AmericaTAB – have hubs in Oregon; the fourth major account wagering service provider, XpressBet, has hubs in California and Pennsylvania. Since 2001, when the Oregon- licensed account wagering providers first began operating in the state, their aggregate handle has grown from just over $50 million to more than $500 million in 2003 – a 900% increase in just two years. These account wagering providers reported handle of almost $350 million during the first half of 2004, and record handle for the second-quarter period of that same year. Appendix A provides additional detail on the growth of pari-mutuel handle through Oregon-based account wagering service providers. By any measure, account wagering is the fastest-growing segment of the United States pari-mutuel market. It is estimated that licensed domestic account wagering handle now exceeds $2 billion per annum, capturing more than 13% of the total U.S. pari-mutuel market and equaling the amount wagered on-track at live racing events.6

Secondary Pari -Mutuel Organizations The same characteristics that have resulted in the dramatic growth of domestic simulcasting and account wagering – convenience, real-time data and high-quality video streaming – have also led to exponential growth of wagering through so-called secondary pari-mutuel organizations or SPMOs that have access to United States wagering pools. After much discussion about what does and does not constitute an SPMO, the Task Force has endorsed the following criteria previously developed by the Thoroughbred Racing Protective Bureau (TRPB), while acknowledging that each entity defined as an SPMO herein may not meet every characteristic of the definition. An SPMO is a pari-mutuel operation:

• That does not conduct live racing and whose primary business is wagering on simulcast races;

• That provides rebates to bettors, ranging from 5-10% or more;

4A “hub” is a site wherein a main computer system is installed with one or more remote locations/facilities linked to it by telecommunications equipment for purposes of processing pari-mutuel wagers. 5Or. Rev. Stat. § 462.142 (2003). 6 See generally Marc Falcone, Eric Hausler and Jason Ader, The Global Account Wagering Industry: What Treasures Does It Hold? (New York: Bear, Stearns & Co., Inc., 2002). Total handle for Oregon-based account wagering service providers alone was $574 million in 2003.

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• Based primarily on telephone account wagering with a limited customer base with some customers using personal computers in their handicapping and wagering activity and using special means of accessing pari-mutuel systems and services;

• Whose owners and/or operators are not clearly identified;

• That is out-of-country, a Native American gaming facility, or is not in the geographical

mainstream of U.S. racing locations;

• That has little or no U.S. regulatory oversight;

• Whose significant level of business is contrasted by no visible marketing or advertising;

• With consistent and often substantial money settlements due from the host track; and

• Whose tax withholding policies and practices in relation to U.S. IRS regulations are unverified.

According to NERA research outlined in Chapter 2, the six largest SPMOs accounted for $1.2 billion in handle in 2003 – more than 50% of all dollars flowing through the account wagering system. The amount wagered through these entities represents a 50% increase over 2002 and is expected to increase in 2004. Computerized Robotic Wagering In addition to wagering data supplied by several U.S. racetracks for analysis by NERA, the Task Force received detailed information from the TRPB, major players and the tote companies confirming that certain players take advantage of the ability to place multiple, direct bets into the tote system immediately prior to a race via a process known as computerized robotic wagering (CRW). CRW does not include isolated use of a software program and personal computer to develop speed ratings, formulate statistics, forecast race patterns, create betting strategies, or manage other aspects of handicapping. The term does apply to the configuration of a personal computer to serve as a betting or communicating device into the totalisator system. 7

7The totalisator system consists of a network of computers and wagering terminals linked by modems and a frame -relay system, which electronically combines wagers into “pools .” Based on pool totals, the totes record and display changes in betting patterns and recalculate pari-mutuel odds and projected payoffs in timed intervals. Odds are established based on the proportion of money wagered into the pool on each horse. Odds change throughout the course of the wagering cycle and become final when the wagering pool is closed at the start of a race. When the results of a race are official, the tote calculates payoffs on all winning wagers and bettors can collect their winnings.

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CRW is a complete robotic package that can be broken down into three steps, beginning with a computer and a proprietary handicapping program that is based on mathematics.8 The program digests statistical data about each entered horse, with the resulting analysis producing a value line for each runner in a race. The program may also compile models from past wagering activity.

The second step occurs when race betting pools open. As wagering progresses, conventionally available tote data (pool totals and probable payoffs) are reviewed by the handicapping program and compared to the program’s previously established values for each horse. As imbalances (wagering overlays) are seen between the program’s values and those established by all other bettors, the program calculates wagers on a weighted basis to capture the perceived value and take advantage of inefficiency in the pools. In the final one or two minutes prior to post time, the CRW operator selects from among the value wagers that have been filtered from the data and are displayed on the PC monitor. In the final step, the CRW operator enters the value wagers into the tote system. Prior to the advent of computer interface wagering, these wagers were then placed by the traditional methods of calling out wagers to a clerk or using a self-serve betting device, the drawbacks to both being limited time to register the wagers and the potential for human error.

Traditional methods have largely been supplanted by the introduction of computer interface betting, which takes one of the following forms:

• Batch wagering, in which a personal computer is configured to emulate a betting terminal and “batches” of wagers are transmitted to the totalisator at a rate of up to 50 bets per second; and

• Bet streaming, in which a PC is configured to emulate a betting terminal or a telephonic device for communication with an Interactive Voice Recognition (IVR) betting system. Wagers are registered at the fastest rate – e.g., 150-200 wagers per minute – sustainable by the automated betting device to which the PC is connected. The efficiency of bet streaming can be multiplied by sending wagers to several data ports at the same time.

Computerized wagering is not itself illegal in U.S. racing jurisdictions and, as noted by tote companies and Task Force members, has the added benefit of facilitating speed, accuracy and efficiency in the wagering process and is available to all bettors (which may be a small minority) with the capital and expertise to take advantage of the systems. On the other hand, because of limitations on the practical ability of a wide range of bettors to take advantage of these opportunities, the relatively few “program bettors” who can make last-minute computerized wagers have a clear advantage over less sophisticated “recreational” 8There are numerous systems, including the Kelly Criterion, developed in mid-1950s. See “A New Interpretation of Information Rate,” by J.L. Kelly, Jr., The Bell System Technical Journal, July 1956 or http://horseracing.about.com/library/blkelly.htm. Also see Michael Kaplan’s “The High Tech Trifecta” in Wired, v.10, no. 3, March 2002.

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players, who will not see the effects of these wagers on the final odds until after the stop-betting signal has been delivered (and often after the race is well in progress). For this reason, several U.S. racing commissions have expressed concerns with the practice, which is disallowed in several foreign jurisdictions.9 CRW mechanisms – while not widely deployed – do exist in the domestic consumer market. United Tote has recently unveiled its “Enterbet,” designed to facilitate players’ ability to directly interface with the tote. United Tote officials note that this underlying technology had been available and used by some larger bettors and wagering sites for the last five years. Effects of CRW The Task Force received information from a number of sources that appears to indicate that computerized robotic wagering is a significant factor in the handle generated by SPMOs. The Task Force acknowledges, however, that due to technological limitations in the existing totalisator system (outlined below) and the failure of totes and remote wagering sites to provide relevant wagering information to host tracks, there is not sufficient data available for the Task Force to make an exact determination of the full scope and effect of CRW. A lack of complete data notwithstanding, there is tangible evidence of CRW at SPMOs in the form of sizeable negative settlements10 incurred by host track racing associations to the SPMOs where it is believed that CRW occurs. This phenomenon is discussed in detail by NERA in Chapter 2. According to evidence presented by the TRPB, total annualized negative settlements incurred by North American Thoroughbred tracks are conservatively estimated at $100 to $120 million per year. Since most host tracks also serve as “guest” locations for simulcasting, the effects of negative settlements are felt throughout all of the associations’ daily wagering activity. Any given host track may have among its simulcasting partners several selected SPMOs where CRW is taking place and to which negative settlements accrue. These SPMOs are termed cash-receiver organizations (CROs). Funding of negative settlements by host racetracks and guest associations entails a reduction in the payout dollars put back into the hands of winning horseplayers at the host racetracks – dollars that would otherwise be available for re-betting or “churn.” This financial imbalance effectively raises the de facto takeout rates11 at the host/guest locations that are underwriting the negative settlements. For racetracks, any reduction in churn translates to a loss on the commission or fee

9 France, Ireland, South Africa and the Australian Totalisator Agency Board (TAB) specifically bar computer bettors from their pari-mutuel pools. Similarly, licensed British bookmakers bar computer bettors from their system. 10 Negative settlements “”occur when a host track must send a guest location money to settle the guest location’s winning wagers even after consideration of the host’s simulcast race fee. 11 Takeout is the percentage held out by a racetrack from every dollar wagered that is used to pay other racetracks, state taxes, purse monies, breeders ’ fund payments, etc. Takeout rates vary depending on the wager type and racing jurisdiction. Takeout is also known as “Commission.”

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that is generated each time a dollar is (re)bet. Any engagement with an SPMO or CRO should therefore be subject to close scrutiny to determine whether overall income received from wagering activity at these sites offsets any prospective reduction in revenue from the removal of betting dollars (and lower rate of churn) that necessarily follows negative settlements from host/guest to CROs. Late Odds Changes The Task Force also addressed the issue of whether CRW plays a role in “late odds changes”and their resultant public perception problems. Historically, skilled handicappers attempt to place their bets as close the start of the race as possible. As noted above, this phenomenon is also true for batch or streamed wagers, which often are placed in the final seconds before the stop-betting signal is given to achieve the highest level of efficiency in the trading program. The combination of “last-minute” bets and technological limits to the tote system result in timing delays with the pari-mutuel odds displayed on the tote board do not always reflect the effects of the computerized wagers for several seconds after a race has begun. Late odds changes not only place other players at an economic disadvantage; they also create perception issues with fans, who question the integrity of the race itself. Hollywood Park Incident An illustration of this effect studied by the Task Force occurred in the 9th race on Hollywood Park’s April 23, 2004 racecard. At 22:51:37, the tote board showed the odds on the number 7 horse – the eventual race winner – as 8-1. The same odds flashed 12 seconds later at stop betting12 and in the cyclic odds report from the tote system time-stamped 22.51:49. However, within that twelve-second gap between the tote board refreshing and the odds cycle, a $7,000 wager from a remote site resulted in a change to the odds on horse number 7 from 8-1 to 5-1. The track tote board did not reflect the drop in odds until well after the start of the race. This odds change resulted in a total win pool of $139,290.90, with total winning dollars of $18,053 bet on horse number 7. Of the winning dollars 41% ($7,409) came from the remote site. Had the $7,000 wager not been placed, the odds on horse number 7 would have remained at 8-1 and resulted in a payoff of $18.20 for every $2 wagered. According to Hollywood Park officials, the late-changing odds (in a sprint race won wire-to-wire) caused much consternation among track patrons and led to repeated allegations of “past posting” by the local media. Subsequent investigations indicated that the wager was proper and legal. Nonetheless, public perception of past-posting – or even inefficiencies in the system favoring the “big player” – remains a pressing issue. The Task Force recognizes that overall limitations in the tote system coupled with the rapid expansion of simulcasting in the past decade and related problems such as “cancel delays”13 and “double hops”14 at certain wagering hubs, have all contributed to late-odds changes. 12 Stop betting refers to the command that is given by the host track when wagering must cease. 13 The “cancel delay” is the period of time that an individual pari-mutuel wager may be cancelled after the pari-mutuel pools on that race are closed for wagering. This delay period, ranging from zero to 12 seconds, was instituted

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A majority of the Task Force members, however, believe that last-minute computerized wagering also contributes to this problem. Additional support for this conclusion comes from a series of recent actions individually taken by the New York Racing Association (NYRA) and Fair Grounds to limit wagering from sites with unusually high win rates. The resulting track reports in decreases in late-odds changes and other effects on wagering patterns from these policy changes, as well as similar experiments at Woodbine and Oaklawn, are discussed in detail in Chapter 2 (see pp. 36-38). The Task Force did not receive the empirical data to substantiate the anecdotal information from NYRA and Fair Grounds regarding the reduction in late odds changes. However, it believes that these associations – and any others seeking to analyze the incidence and effects of late odds changes – can and should obtain this information by reviewing the final two tote cycle reports for each race over the course of an entire meet or a substantial sample of racing days. Preserving the Integrity of the Pari-Mutuel System The Task Force believes that to the extent that tracks know who is betting into the ir pools they can successfully manage issues posed by CRW and SPMOs. Historically, however, many SPMOs have refused requests from industry representatives and from members of the industry with whom they have entered into simulcast contracts to identify the ir ownership structure or players. Moreover, since host tracks do not have the ability to review each and every wager made into their pools due to the current limitations within the totalisator system, it is difficult to obtain detailed information on particular wagers made through these entities.15 As a result, most tracks, horsemen’s associations and regulators do not know what entities or individuals are wagering into their pools or specific information regarding actual wagers placed. In contrast, a substantial level of disclosure and regulatory access for operators and customers is required of domestic account wagering operators. Of particular concern are allegations that during the past year, a number of Internet-based bookmakers have begun offering “no- limit” Exotic wagering16, a reversal of their previous practice of capping payoffs to limit their risk. Removal of these caps has led many in the industry to infer that the bookmakers may be “laying off” their action directly with unregulated operators and are thereby gaining access to the pari-mutuel pools. for the protection of mutuel tellers, who sell wagers up to post time. If a patron refused payment for a requested wager exactly at post time, the teller would have a few seconds to cancel the ticket. The Thoroughbred Racing Associations of North America supports the complete elimination of cancel delay. 14 “Double hop” or “double jump” is a totalisator term for a wagering site with a core tote system (i.e., one taking wagers from one or more sites) that connects to another core tote system before transmitting data to a host track. Double-jump sites can extend the time delay for pool odds calculations by up to 45 seconds. 15 The TRPB has developed a set of recommendations for host tracks contracting with SPMOs, which are attached (along with the TRA Simulcast contract) as Appendix B. 16 Exotic wagers contain three or more betting interests. The takeout rate for Exotics is typically higher than for “straight” wagers such as Win, Place or Show.

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This area is especially important given the ongoing federal investigation into Internet gambling that is being conducted by the U.S. Attorney for the Eastern District of Missouri under the auspices of the United States Department of Justice (DOJ). Task Force Chairman Gregory C. Avioli and representatives from Giuliani Partners met with DOJ officials in June 2004 and learned of an ongoing Department of Justice investigation into illegal Internet gambling. The investigation has targeted offshore sports gambling, online casino gambling and illegal online pari-mutuel wagering. Interestingly, a primary focus of the federal investigation is on U.S. media companies that carry advertisements for illegal offshore betting sites. At the request of the U.S. Attorney’s office, the Task Force has compiled a list of Internet bookmakers and media outlets that carry advertisements for their betting products for use in the federal investigation of offshore bookmakers and betting exchanges. Betting Exchanges Betting exchanges are relatively new phenomena that pose the same or greater threat to our industry as bookmakers – namely, that they accept bets on U.S. racing product with no revenues returned to the U.S. racing industry. 17 Betting exchanges allow players to bet on prices set by the players themselves rather than a bookmaker or pari-mutuel system. Betfair is currently the world’s primary exchange, accounting for approximately 90% or $3.6 billion (U.S.) of the total exchange handle. Betfair, launched in the United Kingdom in 2000, has grown to encompass a worldwide customer base of 250,000 account holders in 85 countries. The company accepts the majority of its wagers (80%) from U.K. residents and its official position is that U.S. residents may not open an account from the U.S.; however, it is possible for U.S. citizens to place wagers with the company by establishing a European-based account. With more than one million transactions per day, Betfair has established itself as an important wagering vehicle in the U.K. and selected world markets, but to date, only two racing jurisdictions currently have fee agreements in place with the company. 18 In addition to the siphoning of revenues from the racing industry, betting exchanges have considerable potential to undermine racing’s integrity, largely because exchange players can lay odds on an individual horse to lose, in contrast to the traditional backing of a horse to win. Most recently, these issues were highlighted with the arrest of Champion British jockey Kieren Fallon in connection with a betting scandal linked to Betfair. According to a Sept. 1, 2004 news report 17 For example, betting exchanges matched some $7.5 to $12.5 million in wagers placed on the 2003 Breeders’ Cup World Thoroughbred Championships, for a total of $15 to $25 million (U.S.). This amount represents approximately one-fifth of the $120 million wagered worldwide on the event through legal, pari-mutuel wagering outlets affiliated with U.S.-based racing associations. With betting exchange commissions derived from a 2-5% fee on winning bets, the Breeders’ Cup is estimated to have generated approximately $400,000 in revenues for the exchanges. 18The two countries with Betfair contracts are the U.K. (which receives a 10% profits fee as payment for data rights) and South Africa (Phumelela). It is our understanding that the Phumelela deal calls for a payment based on net profits, similar to the U.K/British Horseracing Board deal. Phumelela’s rationale for entering into the agreement was based on achieving two goals: 1) compensation for wagering that was going to occur anyway and 2) contractual acknowledgement by Betfair of its intellectual property, trademark and copyrights.

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in The Scotsman, “Detectives are investigating a long series of alleged frauds covering more than 80 races around the country over the last two years. The probe hinges on records of irregular betting provided to police by the Internet website Betfair.” The British Jockey Club is also engaged in numerous other investigations concerning races with suspicious betting patterns and circumstances involving horses laid to lose a race.19 Legislative and Regulatory Solutions The Task Force reviewed in detail remedies available to the racing industry to address betting exchanges and bookmakers under existing intellectual property law (e.g. trademark and copyright infringement, unfair trade practices) and current state and federal wagering statutes (e.g., the Interstate Horseracing Act (IHA) of 1978). The Task Force’s legal counsel concluded that to the extent that betting exchanges or bookmakers accept Internet bookmaking transactions or make a market for wagers on horseracing with persons located in the U.S., the activity generally is barred by both existing federal and state law. For instance, the IHA prohibits persons from accepting interstate off-track wagers except in compliance with the IHA, which, among other things, requires consent to be obtained from the host racing association, the host racing commission and the racing commission of the state in which the wager is received. Similarly, most states prohibit wagering on horseracing other than authorized pari-mutuel wagering. However, while generally prohibiting Internet bookmaking and market-making for wagers, existing statutes generally do not provide private industry participants, as opposed to governmental authorities, with a basis to enforce the prohibitions and obtain remedies for violations. Thus, for example, if a betting exchange is draining customers from tracks, OTBs and licensed account wagering providers, the industry currently has little recourse other than trying to interest a governmental authority to crack down on the activity. But enforcement of those violations is a difficult, low-priority task for most federal or state prosecutors. The Task Force believes that the most effective way to combat unauthorized wagering on horseracing is for Congress to enact federal legislation that attacks the activity directly by (i) making clear the unlawful nature of unauthorized wagering based on horseracing, and (ii) permitting private persons harmed by a violation to enforce the ban on unauthorized activity by means of a civil action for injunctive relief, damages and attorney’s fees. Such an approach would empower the pari-mutuel horseracing industry, which is in the best position and has the greatest incentive to enforce the ban. The goal of the proposed statute would be to prohibit anyone other than the organizer of a racing event, the host track, off-track betting offices in the host state and others operating under both a

19 Betting exchanges have been widely covered in the Thoroughbred trade media. See Steven Crist, “A New Way to Bet – or Cheat,” Daily Racing Form, March 10, 2004 and Delamere Usher, “Australian Board Unhappy Over Decision to Allow Betting Exchanges,” Thoroughbred Times.com, July 13, 2004. See also “Champion Jockey Fallon Held in Race-Fixing Probe,” The Scotsman, Sept. 1, 2004 online at http://news.scotsman.com/latest.cfm?id=3441225.

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contract with the host track and in compliance with the IHA from conducting wagering, operating a wagering scheme or making a market for wagering based on races run at the host track. The statute also would authorize anyone harmed by a violation – which could include a sponsoring organization such as Breeders’ Cup, host tracks, horsemen, OTBs and account wagering providers authorized by the host track to accept wagers on the race at issue, among others – to bring suit in a federal district court to obtain relief from the offending party. Task Force counsel has prepared draft legislation in conjunction with the NTRA’s federal lobbyists in Washington, D.C. (see Appendix C) as well as a form of cease-and-desist letter that can be adapted for individual use in connection with unauthorized use of a racetrack’s intellectual property (see Appendix D). Technological Limitations The Task Force noted that virtually every facet of its discussions over the past six months – from the inefficiencies exploited by computerized wagering programs to late odds changes to the lack of transparency of individual wagers or wagering outlets – involved one or more aspect of the current tote system and highlighted the critical need for system-wide technological improvements to core infrastructure of the pari-mutuel industry. By way of review, in its 2003 report “Improving Security in the United States Pari-Mutuel Wagering System,”20 the NTRA Wagering Technology Working Group (WTWG) outlined the need for technological upgrades that would enhance the speed, functioning, integrity and security of the pari-mutuel wagering system. The genesis of the WTWG recommendations was a security breach within the pari-mutuel system that led to a failed attempt at a $3 million computer wagering fraud. The current Wagering Systems Task Force supports the WTWG recommendation for totalisator upgrades to improve efficiency and security, noting that these improvements should simultaneously address a number of perception issues relative to fairness and integrity. The current totalisator system operates on the Inter-Tote System Protocol (ITSP), which has been adapted from its original use in intratrack, intratote wagering on live races at individual facilities to support extensive intertrack, interstate and intertote wagering on simulcasts. In 2003 this system handled approximately $15.2 billion in pari-mutuel wagering on Thoroughbred racing in the U.S., 87% of which was handled off- track. ITSP has two main functions: translation of wagering data into uniform computer language and data transport. It supports a summation of bets per wagering combination on a per pool, per race basis and enables post-event analysis of wagering data; however, it does not enable the transfers of the wagers themselves to the host site or the combination of actual data across systems, which prevents the real- time detection of wagering irregularities.

20 Improving Security in the United States Pari-Mutuel Wagering System: Status Report and Recommendations, NTRA Wagering Technology Working Group, (NTRA: Lexington, Ky.,) August 2003.

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ITSP transmits wagering data serially, requiring that each bit of electronic data remain in precise order throughout the transfer process in order for the data to be received successfully. If transmission interruptions occur or data is lost, manual procedures must be implemented to merge wagering information back into the data stream. Current bandwidth limitations of the intertote serial communication network prevent wagering data to be handled in a more robust manner than that provided by ITSP. The WTWG made three core recommendations to upgrade the current wagering system infrastructure:

• Identify and recommend changes to the current ITSP-based infrastructure; • Identify potential technology solution providers; and

• In consultation with relevant vendors and industry stakeholders, formulate a business

model to support an improved, scalable technology platform, a phase- in program for new technologies and the development of a centralized database of wagering information.

A team of industry stakeholders, including representatives from Churchill Downs Incorporated, Magna Entertainment Corp., New York Racing Association, The Jockey Club, Thoroughbred Racing Associations of North America, NTRA, Amtote, Scientific Games, Inc, and United Tote Corporation have been working on this issue since December 2003 and have outlined a migration path to a next-generation wagering system based upon three basic principles:

• The live host should control the wagering event.

Ø The live host tote system controls the acceptance of any wager on the racing event; and

Ø The live host determines when to accept wagers and when to stop the process.

• Wagering Transaction Protocol (WTP), not ITSP, should be the basis for tote communication.

Ø WTP will communicate bets; Ø Guests send bet details to the live host; and

Ø The live host confirms receipt of the bet detail(s) and advises the guest that it can

print a ticket for that pool.

• A secure database of wagering information must be developed.

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Ø Wagering transactions stored in a central database provide the source data allowing for real-time monitoring of suspicious activity and historical review for both security and industry purposes by regulators and appropriate industry representatives.

Consensus has also been reached on the individual data elements that will be included in the WTP and development of preliminary estimates for its design. While recognizing the progress made to date, the Task Force notes that industry fragmentation, competing business models and allocation of scarce resources have inhibited the pace of the overall tote upgrades. The Task Force calls on the entire industry to refocus on this critically important area and make the above-described upgrades to the pari-mutuel system its number one priority until the task is completed. The Task Force notes that the proposed technology upgrades not only will improve wagering security but will also help to address the perception issues associated with late odds changes and to “level the playing field” for all participants by closing the information gap between program bettors and recreational players.. Conclusion What began as exercise to determine the cause(s) of purse declines has revealed a number of broader issues, central to which is the necessity for tracks and horsemen to “know their numbers and their customers” so that they can fully meet the challenges of new wagering technologies. In the next chapter, NERA outlines the importance of revenue – as opposed to handle – as a measure of each association’s economic health. In chapter 3, the Task Force presents its strategic recommendations for managed development of the pari-mutuel wagering system in the domestic and international marketplace.

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CHAPTER 2

“Handle Up, Revenue (and Purses) Down: An Economic Analysis of Current Trends in the

Thoroughbred Racing Industry”

Report Prepared for the NTRA Wagering Systems Task Force

Report Prepared by

Louis A. Guth, Senior Vice President

and

Thomas E. Joscelyn, Senior Analyst

of

NERA Economic Consulting

18

Introduction and Summary of Conclusions “Handle Up, Purses Down” has been widely used by many participant s in the Thoroughbred racing industry to describe the increase in handle (+0. 8%) and the decrease in purses (-1.7%) in 2003 as compared to 2002.21 Building on our 2000 study Time to Deregulate: The Case for Thoroughbred Racing, NERA was hired by the NTRA to assemble data relevant to this issue. We were also asked to provide to the NTRA our analysis of the underlying economic conditions in the Thoroughbred industry that may have lead to this circumstance. We have participated in several NTRA Wagering Systems Task Force Meetings, had numerous conversations with many industry participants (including track executives, players, industry analysts and consultants), and analyzed extensive amounts of public and private economic data. This report contains information from all of these sources. Our findings, in brief, are as follows:

• “Handle Up, Purses Down” is not a new occurrence specific to 2003.22 In general, purses

have not grown as fast as handle for more than a decade. For example, from 1995 to 2003 total Thoroughbred handle grew by 45% while total purses paid to horsemen grew by only 38%.23 This trend becomes even clearer when purse payments are adjusted for estimates of the contribution of slot revenues. Purses, less the contribution of slot revenues, have grown by only 23% over this time period. With only a small, nominal increase in handle in 2003, it is not a surprise that purses declined.

• A more fundamental relationship is “Handle Up, Revenue (and Purses) Down.”24 That is,

purses are mostly determined by the pari-mutuel revenues generated by tracks from wagering. Our analysis of the track revenues generated from over half of the U.S. Thoroughbred industry’s total handle illustrates that both revenue and purses decreased in 2003.

• The lag in purse growth relative to handle growth can be explained by changes in the revenue

model and resulting handle distribution used by Thoroughbred tracks for generating wagers. The most significant change in this distribution model is from on-track wagering to interstate export wagering. The effect of this change explains both why handle has generally grown faster than revenue – and therefore purses – since 1990 and why, more recently, the small increase in 2003 handle resulted in a decline in purses.25

21 See, for example the data contained in The Jockey Club’s 2004 Fact Book at: http://www.jockeyclub.com/factbook.asp. 22 This trend evidently continued through the first quarter of 2004. For example, see http://www.equibase.com/news/releases/041204release.cfm. 23 See Exhibits 2 and 4. 24 The focus on “Handle up, Purse Down” is understandable, however, since handle-generated track revenue data are not as easily available as handle and purse data. 25 Perhaps it goes without saying that handle growing mo re rapidly than purses is not necessarily a bad thing. To our knowledge, there was no equivalent outcry during the ‘90s’ about “Handle Up, Purses Up Not As Much.” As we shall see in the evidence presented below, industry concern is really responsive to declining purses absent significant growth in handle.

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• But, the decline in adjusted purses per dollar of handle between 2002 and 2003 is also the result of a second phenomenon. Within the interstate simulcast distribution channel there have been significant changes over the last three years. Interstate export handle has been increasingly generated through new distribution systems that are not necessarily directly affiliated with a Thoroughbred track or horsemen’s group through ownership, or through state law and/or regulatory policy. For example, these include telephone or Internet-based account wagering systems and related international and domestic entities. Unless there are other controlling contractual issues, these “retail” distributors of Thoroughbred racing signals contribute materially less of their handle to Thoroughbred revenue and purses than more traditional interstate simulcast relationships.26

• From an economic standpoint, the growth in interstate simulcasting increases economic

competition – that is, effective deregulation – within the Thoroughbred racing market. That this increase in economic competition currently focuses principally on the margin, that is, for high-volume bettors, is not surprising. Indeed, it is the very same pattern observed in virtually every other industry that has gone through deregulation. And, again as with all of these other industries, economic competition creates issues concerning the traditional price and cost structures of the Thoroughbred racing business. These issues all bear on future prospects for growth in handle and the extent of corresponding growth in track revenue and in purses. They include:

A. Overall price level, that is, the nominal takeout rates on wagers by type of pool; B. Price structure, in particular the relative level of track revenues (used for purses and

to cover operating costs) realized by type of distribution channel; and, C. The effect of current information technology in wagering systems on the effective

takeout rates of typical racetrack patrons. .

• There have been only minor changes to nominal takeout rates around the United States since 1998. A number of members of the task force have expressed views on how moderating nominal takeout rates generally, or takeout rates on specific pools, might stimulate overall handle as well as overall revenue for purses. The evidence in support of these views, however, is inconclusive. And pricing in the form of nominal takeout rates is a subject for individual track strategic thinking and policy. We do, however, hold to our central conclusion in Time to Deregulate:

“States should get out of regulating takeout rates, perhaps setting only floors and ceilings in transition. Designing strategic pricing strategies to appeal to all types of bettors is the essence of competition in free markets. It is the most certain outgrowth of deregulation, while being the least predictable in specifics. For similar reasons, states

26 We recognize, of course, that there are corresponding actual or potential cost savings for Thoroughbred tracks associated with this form of retail distribution.

20

should routinely permit new wager types – with disclosure to bettors – using experimental acceptance procedures in the transition to competition. ”

• There has emerged, however, a major gap within the retail distribution of Thoroughbred

racing in the portion of handle going to purses and other track expenses associated with putting on live racing. On average, purses ($1 billion) are 6.7% of aggregate U.S. handle ($15 billion). Under the current pricing structure, however, a rapidly growing distribution channel, unaffiliated retail entities, contribute materially less than this amount – from 3-5% of their handle – to tracks for purses and other track expenses associated with putting on live racing. All other distribution channels contribute materially more than this amount when one combines revenues going to host tracks, to guest tracks and/or to in-state hosts – at least 8%, and more typically 10-13%. So the gap is at least 3% but more typically 6%.

There are two principal effects of interest. First, the distinct gap in overall support of live racing is a key component – and probably the key component – of rebates made available by the advantaged entities to high volume bettors. Second, the growing (and resulting) shift in handle toward these entities necessarily reduces track revenues and purses relative to aggregate handle.

• Increasing competition in the distribution of Thoroughbred wagering opportunities requires

that the industry be afforded the opportunity to meet the pricing demands of its customers. In doing so, tracks need to consider – in addition to customer demand – the actual costs incurred doing each of the things they do: (a) in producing live racing, (b) in providing wagering opportunities for live patrons; (c) in otherwise hosting live patrons, and so forth. That is, pricing must be determined by the interplay of supply and demand. Therefore, we provide an illustrative analysis of the cost structure for eight Thoroughbred tracks.

• Finally, the evidence made available to us strongly indicates that a certain category of high

volume bettors, using current information technology not only to handicap races but also to place wagers, are able to achieve persistent high payoff rates across tracks.27 These payoff rates exceed what we understand are expected payoff rates for superior handicappers (before rebates) of 90-95%. We consider the current role of information technology supporting these high payoff rates and include an analysis of their impact on effective takeout rates for all other bettors.28

“Handle Up, Revenue and Purses Down”: An Economic Overview of Recent Trends

News that total handle increased while total purses decreased in 2003, as compared to 2002, was met with great consternation by the Thoroughbred industry. According to The Jockey Club data,

27 We define payoff rates as the ratio of aggregate winning payouts to total handle wagered. 28 In the remainder of this report we will make reference to nominal takeout rates and effective takeout rates. By nominal takeout rates we mean the (blend of) takeout rates established by racetracks pursuant to state law and/or regulatory policy. By effective takeout rates for a bettor or group of bettors we mean the complement of payoff rate, that is, for example, 10% if the payoff rate is 90%. In pari-mutuel wagering, by construction, the weighted average effective payoff rate overall equals the nominal payoff rate.

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total handle rose by only 0. 8% in 2003 while total purses declined by 1.7%.29 However, our analysis of the underlying data behind this circumstance reveals two primary conclusions: (1) “Handle Up, Purses Down” is not a new circumstance in the Thoroughbred industry. In reality, growth in purses has consistently lagged growth in handle. With only nominal growth in handle in 2003 as compared to 2002, it is not surprising that purses declined. (2) This longer-term relationship between handle and purses can be explained by looking at the changes in the distribution of handle generated by Thoroughbred racing. On-track wagering on live races has consistently decreased while interstate export wagering on races has consistently increased. A closer look at the sources of interstate export wagering reveals that that there has been a marked shift to retail locations that are not directly affiliated with any track or horsemen’s group.

Handle and Purses

The 1990s witnessed rapid growth in the total amount of handle wagered on Thoroughbred wagering. Even as the total number of Thoroughbred races consistently declined, the total amount of handle consistently increased. For example, from 1995 to 2003 the total number of Thoroughbred races declined from roughly 62,000 to less than 54,000, a decrease of approximately 14%. (See Exhibit 1.) However, total handle grew from approximately $10.4 billion in 1995 to roughly $15.2 billion in 2003, an increase of nearly 46%. (See Exhibit 2.) This means that the total handle per Thoroughbred race has grown dramatically from roughly $168,000 per race in 1995 to nearly $284,000 per race in 2003, an increase of 68.7%. (See Exhibit 3.) In short, over the last decade the Thoroughbred industry has expanded its product distribution dramatically.30 The growth in purses, however, has not matched the growth in handle. Over the same time frame discussed above, total purses increased from approximately $762 million in 1995 to roughly $1.0 billion in 2003, an increase of only 38.7% (as compared to a 46% increase in handle over this time frame). (See Exhibit 4.) Purses per race also increased dramatically from 1995 to 2003, but lagged the growth in handle per race. The average purse paid per race grew by roughly 60% from $12,285 per race in 1995 to $19,737 per race in 2003. (See Exhibit 5.) Therefore, while increasing a great amount, the growth in purses has lagged the growth in handle by several percentage points. Total purses have stayed relatively constant at about 7% of total handle. However, adjusting for the contribution of slot revenues reveals a different story. Using data provided by the Thoroughbred Racing Associations of North America (TRA), purses were roughly 7.3% of handle in 1995. This figure fell to 6.2% in 2003. (See Exhibit 6.) Therefore, removing the contribution of slot revenues from purses reveals a longer-term downward trend in purses, as measured relative to handle.

29 Figures taken from The Jockey Club’s 2004 Fact Book published on http://www.jockeyclub.com. 30 As will be discussed below, however, the types of wagering locations generating handle in recent years has changed greatly.

22

In sum, 2003 was not the first time purses grew more slowly than handle. The contribution of pari-mutuel handle to purses has steadily declined for much of the period since 1990. This longer-term decline is explained by changes in the Thoroughbred industry’s revenue model and the shift from on-track wagering to interstate export wagering. In the next section these changes are discussed in more detail.

“Handle Up, Purses Down…But So Is Revenue”

As stated above, the downward trend in purses relative to handle is best explained by analyzing the changes in the distribution model used by Thoroughbred tracks for generating wagers. Tables illustrating the shift away from on-track wagering on live races to simulcast and off- track wagering were included in Time to Deregulate and are updated here to reflect more recent information. (See Exhibits 7a and 7b.) For example, in 1990 wagering at the track on live races accounted for nearly 61% while all other forms of wagering (simulcast, off- track, telephone, etc.) accounted for the remaining 39% of handle. In 2002 wagers at the track on live races had fallen to approximately 15%, while all other forms had increased to 85% of the total handle. (See Exhibit 7a.) In addition, this trend holds true in virtually every state. Only a handful of states have actually increased the handle wagered on live races on-track in recent years. (See Exhibit 7b.) As explained below, the most significant change in this distribution model is from on-track wagering on live races to interstate export wagering. The effect of this change in the distribution model explains both: (a) Why handle has generally grown faster than revenue – and therefore purses – since 1990 and (b) Why the small increase in 2003 handle resulted in a decline in purses. We collected and analyzed financial data for 15 Thoroughbred tracks for at least the last two years, 2002 and 2003.31 These 15 Thoroughbred tracks account for between $7.5 billion and $8 billion in handle or over 50% of the total U.S. Thoroughbred handle in both years. In addition, we received and analyzed financial data for a subset of these tracks (five Thoroughbred tracks) covering the period from 1990 to 2003. The central components of data collected were “total consolidated handle” and associated revenue and purse contributions for 15 Thoroughbred tracks. “Total consolidated handle” is defined here to consist of all handle which contributes to a track’s revenue and purses. These include the following three overall categories of handle:

• All handle on races originating at the host track. This includes live handle, handle at in-state facilities (referred to as “intrastate export simulcasts”), handle at out-of-state facilities (referred to as “interstate export simulcasts”), and account wagering (which is included in either of the above two export categories);

• All handle at the host track on simulcast imported signals. This includes both in-state and

out-of-state imports (if relevant and available); and

31 The names and actual financial data for these tracks are ‘masked’ throughout this report. Most financial data is presented on a ‘percent-change’ basis. Although these exhibits only list 13 tracks, there are 15 in the total sample. Two of the tracks listed on these exhibits contain data for two tracks.

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• Handle at local facilities for which the host track is signal host (if relevant and available). Our analysis of total consolidated handle and each of the three components listed above tracks handle and all of the components of takeout including taxes, payments to breeders, track commissions and the portion thereof going to purses. The results of this analysis are shown in Exhibits 8a through 8e. The exhibits track the percentage change from 2002 to 2003 for each track and in the aggregate for both handle and track revenue, including purses, for each type of pari-mutuel wagering. There are several observations to make concerning the data summarized in these exhibits. First, this analysis closely matches the trend seen in The Jockey Club data cited above. While total consolidated handle across the 15 tracks increased slightly by 1.6%, total revenue and purses actually decreased by approximately 0.6%. That is, handle was up while track revenues including purse contributions were down. Second, between 2002 and 2003, three of the four components of total consolidated handle decreased. The only type of pari-mutuel wagering that saw an increase in 2003 as compared to 2002 was interstate export wagering. Third, although revenue (and associated purse contributions) from interstate export wagering grew by over 12% in 2003 – more than the increase in interstate export handle (6.8%) – this increase was not enough to offset the total decreases in all other types of pari-mutuel wagering. A longer-term analysis of the total consolidated handle for five of these Thoroughbred tracks reveals that this trend started in the early 1990s. For example, exhibits 9a and 9b breakout total consolidated handle and associated revenues by component from 1990 through 2003. Exhibits 9a and 9b show that on-track wagering on live races accounted for over 60% of the total handle and over 70% of the total track revenue (including purses) in 1990. On-track wagering on live races has steadily decreased throughout this entire period to less than 15% of total handle and roughly 25% of total track revenue (including purses) in 2003. During this same period of time, interstate export wagering has increased dramatically. In 1990, interstate export wagering accounted for a negligible amount of handle and revenue. By 2003, interstate export wagering had increased to almost 50% of total consolidated handle, but only 20% of total track revenue and purses. Lastly, import simulcast wagering and intrastate export wagering have remained relatively steady for much of the last of the decade. In short, interstate export wagering has become the single largest component of total consolidated handle. However, track revenue and purses from interstate export wagering have not grown proportionately. (See Exhibit 9c.)

2002 vs. 2003: The Emergence of New Interstate Export Wagering Locations

Within interstate export wagering, there is another trend that has become increasingly important in the last three years and that contributes to the “handle up, revenue (and purses) down.” The growth in interstate export handle was first driven by the ability of Thoroughbred tracks and other onshore locations affiliated with host Thoroughbred tracks to import live racing signals from out-of-state tracks. Over the last three years, however, an increasing share of interstate export handle has been generated through new distribution systems that are not necessarily directly affiliated with a Thoroughbred track or horsemen’s group through ownership, or through

24

state law and/or regulatory policy. For example, these include telephone or Internet-based account wagering systems and related international and domestic entities. We analyzed the composition of interstate export handle data for a group of representative tracks from 2001 to 2003. These data are summarized in Exhibit 10. The data have been organized into three categories of wagering locations. Category A includes all wagering locations that are either owned by an entity that is part of the Thoroughbred industry or tied to the Thoroughbred industry through law and/or regulation. This includes: Thoroughbred tracks, track-operated account wagering systems, New York Off-track Betting locations, Connecticut Off-track Betting locations, and other wagering locations that remit a portion of the handle up and above the simulcast signal they negotiate with the signal provider to a host Thoroughbred track. Other wagering locations include “guest” or “satellite” facilities in states such as California and Florida where off- track wagering locations are assigned to host Thoroughbred tracks according to the rules set forth by the Interstate Horseracing Act.32 Category B includes all domestic in-home wagering providers (TVG, Youbet.com, AmericaTab, XpressBet, etc.). Category C includes all wagering locations that are not directly owned by the Thoroughbred racing industry or regulated by local or state governing bodies. This includes offshore locations, onshore locations not located within the IHA-defined geographic market area of a host Thoroughbred track, the Nevada Pari-Mutuel Association and other casinos, and other miscellaneous locations. The data summarized in Exhibit 10 illustrate at least two main points. First, locations in Categories B and C have accounted for virtually all of the growth in interstate export simulcast wagering since 2001.33 In 2001, these locations accounted for roughly 1% and 17% of the total interstate export signals in our sample, respectively. By 2003, these locations had grown to over 7% and 20%, respectively. While the locations in Category A grew handle by less than 8% from 2001 to 2003, locations in Category B grew by over 500%, and locations in Category C grew by roughly 48%. Total handle across the entire sample grew by less than 22% from 2001 to 2003. Second, to the extent that locations in Category C contribute decisively less of their handle through commissions and/or fees to track revenues (and purses), the direct effect of growth in this category is to promote “Handle Up, Revenue (and Purses) Down.” We turn, therefore to a more general consideration of ways in which growing economic competition for customers is raising issues for traditional racetrack pricing structure and cost structure. In particular, we consider issues related to (a) price level (level of nominal and effective takeout), and to (b) price and cost structure and rebates.

Emerging Economic Competition, Thoroughbred Market Nominal Price Level and Structure, and Their Impact on “Handle Up, Revenue (and Purses) Down” As noted in Time to Deregulate, Thoroughbred racing in the U.S. has been, and in many respects continues to be, one of the activities most subject to economic regulation of price, scope of market, entry and exit, etc. With the exception of broad guiding principles as, for example, set 32 The Interstate Horseracing Act sets a general radius of 60 miles around each Thoroughbred host track’s location. 33 This is primarily due to growth in handle at locations that already existed in 2001 and not to a dramatic growth in the number of wagering locations.

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forth in the Interstate Horseracing Act of 1978, that regulation has been organized at the state level. And, with only a few exceptions, the general contours of state regulation set forth in Time to Deregulate for each of the major racing states have not changed substantially since that report appeared in December 2000. Discussions within the Task Force and related data we have reviewed, however, make it clear to us that new information technology in pari-mutuel wagering, and the increasing prominence of interstate simulcasting have combined to provide considerable momentum to de facto deregulation and increasing economic competition in Thoroughbred racing.34 That is, in combination, these factors make it possible for those placing wagers in most locales across the U.S. both to receive detailed and complex information on participants in an upcoming race and to place multiple wagers on that race near post time via computer/Internet or telephone. The effect of these developments on competition for high-volume players – that is, “on the margin” – is significant and directly affects the “Handle Up, Revenue (and Purses) Down” issue in at least three ways. In this section we focus on how economic competition and “Handle Up, Revenue (and Purses) Down” raises issues concerning nominal takeout rates at tracks and concerning the structure of rates by distribution channel. We leave to Section IV below our presentation of new data concerning opportunities within current wagering systems for limited numbers of knowledgeable players to realize atypically high payoff rates and the resulting impact on actual takeout rates for remaining players. Nominal Takeout Rates and “Handle Up, Revenue (and Purses) Down”

A number of observers, including some members of the Task Force, argue that reducing the level of takeout would stimulate handle and increase track revenues (and thereby increase purses), all else equal.35 The basic premise is that a Thoroughbred race is an expensive wagering opportunity to produce, and that wagering dollars increasingly have nearby alternative opportunities, such as state lotteries and casinos. Moreover, in addition to considering reducing the overall level of blended takeout, there are several variations suggested by those advocating reduced takeout to stimulate overall handle. For example, one suggestion is to reduce the premium levels of takeout on Exotic wagers36, which are growing in popularity, thereby increasing (on average) available cash for players of these pools and enhancing repeat play or churn. Another is to reduce takeout on the least popular, commodity-like bets,37 which are likely to be the most price-sensitive or price elastic, and thereby stimulate handle. In fact, there has been very little movement in blended takeout rates by state in the past few years. Exhibit 11 compares the blended takeout rate in major racing states in 1998 with 2002, the most recent year for which these data are generally available. As Exhibit 11 shows, the average blended takeout rate has not decreased substantially during this period.38

34 Recall, for example, that most states do not regulate interstate simulcast export fees, although they may determine how those revenues are shared among tracks and horsemen, etc. 35 Although those increases would likely not be proportional to growth in handle. 36 These would include, for example, Trifectas, and Pick Six wagers, and possibly also Daily Doubles and Exactas. 37 For example, Win/Place/Show bets on non-feature races. 38 We recognize that there have been some experiments in this area subsequent to 2002, including NYRA’s.

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It is certainly possible that these sorts of initiatives with takeout, or numerous other possible variations, would stimulate handle growth and resulting track revenues and purses. And we stand by our recommendation in Time to Deregulate that individual states should phase out regulation of takeout rates on Thoroughbred racing and permit tracks to test consumer response to price changes. In addition to that general observation, we simply add three points.

• There is little evidence on price sensitivity – or tendency to churn – emerging from the current wagering community (post- interstate simulcast growth) in response to changes in blended takeout rates or in specific categories of takeout rates, either from academic research or from industry studies;39

• The issue of pari-mutuel takeout is made more complicated by the role of contractual arrangements host tracks have with their horsemen and the effect of pari-mutuel taxes on handle in some states. These tend to diminish the likelihood that price sensitivity in response to a decrease in takeout rate would actually result in higher track revenue and purses;40and

• The question of proper levels of takeout rates, where flexibility is allowed, is likely

unique to each track location and best addressed by each track.41

Takeout and Commissions by Distribution Channel and “Handle Up, Revenue (and Purses) Down”

As shown above there has been a dramatic increase in the amount of interstate export wagering as compared to all other forms of wagering. This is also demonstrated in Exhibit 12a, which is based on publicly available information published in Churchill Downs Inc.’s annual reports filed with the U.S. Securities and Exchange Commission. 42 The data show the increasing share of export signal activity relative to all other forms of pari-mutuel wagering. (Exhibit 12b provides a longer-term perspective.) These data also serve as an entry point into a second issue raised by the increase in competition: the current decisive gap between the eight to 13 percentage points of handle going to track revenues and purses when placed through traditional distribution channels – depending on

39 Moreover, we suspect there is some confusion about the significance of responsiveness of handle to offers of pricing with rebates with overall price responsiveness of players generally. Consider the following example. Suppose a very good handicapper over time wins $95 back for every $100 wagered. Suppose further the handicapper is given a $6 rebate per $100 wagered. The rebate converts a negative expected loss into a positive expected return. In this case, a rational player would substantially change his behavior around this ““‘tipping point,”’ greatly increasing his handle to take advantage of a positive expected return. 40 When there is a state pari-mutuel tax on handle, or a fixed percentage of handle going to purses, all of the negative impact of reduced takeout falls on track revenue; but the positive impact is diluted by an unchanging absolute portion of handle that is earmarked for state pari-mutuel tax and/or purse contributions. Thus the likelihood of any specific reduction in takeout increasing track revenue and purses in this circumstance is substantially reduced. 41 Economic principles do however, provide some guidance, particularly with regard to the role of costs and cost analysis. 42 These data are taken from Churchill Downs Inc.’s publicly filed 10-k reports. These reports can be downloaded at http://www.sec.gov.

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whether the track also provides the pari-mutuel wagering interface for customers – and the three to five percentage points when handle is placed through unaffiliated retail entities. As rebates and other incentives move high volume bettors from traditional distribution channels to these entities, there is a necessary and direct effect on “Handle up, Revenue (and Purses) Down. 43 Some background discussion is in order. When host tracks first started exporting signals on their live races to out-of-state locations, the guest locations were a part of the Thoroughbred racing industry. That is, they were either owned or regulated by one of the many entities that participate in the Thoroughbred industry. At first, most interstate export signals were sent to other Thoroughbred tracks. This meant that the location that was receiving the interstate export signal had a cost structure – including contractual obligations to pay purses – similar to the Thoroughbred track that was putting on the live race. Importantly, the nominal takeout on winning wagers would stay within the Thoroughbred racing industry. Tracks and horsemen at the receiving location would retain and split the proceeds from handle that remained after paying the host track’s simulcast fee and any state or local pari-mutuel taxes. In addition to out-of-state Thoroughbred tracks a second type of location that has long received interstate export signals are OTBs and guest or satellite facilities operating within the IHA-defined geographic market area of a host track. Although not Thoroughbred tracks, these locations have been explicitly tied to the Thoroughbred industry through law, regulation and contractual obligations. This means that while these locations may pay a simulcast fee that is comparable to the 3-4% paid by receiving Thoroughbred tracks, they also have further financial commitments to the Thoroughbred industry that support live racing. For example, New York OTB is the single largest purchaser of simulcast signals in the U.S. Thoroughbred industry. New York OTB’s 2003 handle was roughly $1.7 billion, with well over half of this amount ($964 million) coming from interstate export simulcast signals. In addition to the fee New York OTB pays for simulcasts it has additional financial obligations, as determined through state regulatory bodies, to New York Thoroughbred tracks and horsemen. On simulcasts from in-state Thoroughbred tracks, New York OTB typically pays the host track 6.5% of handle to take the wager in addition to a simulcast fee of roughly 2.75% of handle. New York OTB, therefore, pays roughly 9.25% in total fees back to the Thoroughbred racing industry on all races run in the state of New York. New York OTB pays comparable fees on all out-of-state races it imports. In addition to a simulcast fee of 2%-2.5%, New York OTB also pays an additional 5% of all handle generated on out-of-state races to New York tracks and horsemen. New York OTB, therefore, pays roughly 7 to 7.5% in total fees back to the Thoroughbred racing industry on all races run outside the state of New York. On average, therefore, New York OTB pays back more than 8% to the Thoroughbred racing industry on all wagers generated through its locations. (See Exhibit 13.)

43 The impact is necessarily adverse so long as incremental revenues are less than incremental costs. Thus for example, if all of the wagering at these entities would not otherwise have occurred anywhere, then incremental costs are limited essentially to purses and adverse effects may be negligible. On the other hand, if a substantial portion is competitively diverted from traditional distribution channels, losses are greater as Thoroughbred tracks also incur the loss of potential revenues that could otherwise be applied to other operating costs and overheads.

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A third category of sites, telephone and Internet-based account wagering services providers, which have garnered an increasing share of U.S. Thoroughbred handle over the last three years, also contributes well in excess of 7% of handle to the Thoroughbred racing industry. Many of these providers are regulated by the Oregon Racing Commission, which oversees five multi-jurisdictional simulcasting and interactive wagering totalisator hubs, including the Greyhound Channel (U.S. Off-track), TVG, AmericaTab, Youbet.com, and The Racing Channel (Oneclickbetting.com).44 Two of these services, AmericaTab and The Racing Channel, are “account wagering systems developed, owned and operated by racetracks.”45 Youbet.com and TVG are not owned or operated by any racetrack groups, but do contribute financial support to live racing up and beyond the simulcast fees they pay in the form of source market fees. Source market fees, representing a portion of the handle wagered through an account wagering service, are paid to the racetrack in the geographic area from which the wager is generated. The geographic area around “source” tracks is defined by a 25-mile radius but can vary given the unique geographic circumstances faced by any given track. A White Paper prepared for the National Horsemen’s Benevolent and Protective Association (NHBPA) in February 2003 gives a good illustration of how source market fees work. For every dollar wagered through the account wagering provider TVG and assuming a blended 20% takeout rate, the paper estimates each dollar is distributed as follows: 0.25% in Taxes paid to the Oregon Racing Commission, 0.5% is paid to the NTRA (as a fee for marketing services), 3% is paid in simulcast fees, 5.50% is retained by TVG for production and operating expenses, and the remaining 10.75% is paid in source market fees.46 Presumably, the 10.5% in source market fees is then split between the tracks and horsemen. Thus, a total of roughly 13.5% is returned to the Thoroughbred racing industry on every dollar wagered in a “source” track’s geographic market area. By contrast, to our knowledge unaffiliated retail distributors – including international locations and some domestic locations – contribute only 3-5% of their handle to Thoroughbred track revenues and purses in the form of simulcast fees. This is a significant aspect of the “Handle Up, Revenue (and Purses) Down” phenomenon of 2002 and 2003. And, from an economic perspective, it has a second dimension: rebates. Ordinarily, when rate and cost struc tures markedly diverge, there is always economic pressure to align rates more closely with costs. It is perhaps the most fundamental characteristic of competitive markets. Normally, the process will be in the form of discounted prices for larger,

44 See, for example, http://www.oregonvos.net/~orc/ (last accessed on July 15, 2004). In addition, Magna Entertainment Corp. has launched its own account wagering service, XpressBet. 45 See National Horsemen’s Benevolent and Protective Association, Inc., Simulcasting White Paper, February 2003, p. 14. AmericaTab is principally owned by Beulah Park and River Downs. The Racing Channel (as well as the Racing Network International) is owned by Greenwood Racing, Inc. which also owns Philadelphia Park. See also, http://www.philadelphiapark.com/racetrack/overview.html (last accessed July 15, 2004). Ownership by a racetrack or other related entity does not mean – necessarily – that these providers contribute to live racing any portion of handle up and beyond the simulcast fee they pay. In general, most of them do. 46 Ibid., p. 12.

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and/or more frequent purchases.47 But, where regulation and/or institutional structure so dictate, the process will take the form of rebates.48 Thoroughbred tracks should, of course, be permitted to compete by aligning their own price structures with costs.49 Rebates should be distinguished from “profit sharing.” In the current context, even if prices and costs are perfectly aligned, some cost categories may be avoided. The example of specific concern for the Task Force are unaffiliated retail locations that receive simulcast signals and return to Thoroughbred racing only a 3-5% simulcast fee, which may cover only a portion of the expenses of putting on live races and/or a portion (or none) of horsemen’s purses and other costs.50 In and of itself, this creates above-competitive-level prices that will lead to profit sharing. Our opinion is that rebating as profit sharing – that is, the opportunity created by this gap – is perhaps the most important component of economic incentives offered by these sites to high-volume bettors. The result, as previously shown, has been rapid growth in handle at these locations. There are three possible components of this growth. One is growth in new traditional players, which, though possible, seems unlikely to us.51 A second is the handle from high-volume players whose business is diverted from traditional (i.e., racetrack and OTB) sources. In effect, this results in “Handle Flat, Revenue (and Purses) Down.” A third possibility is increasing incremental handle from high-volume players as a result of lower costs of play through profit sharing. Although this additional handle may contribute somewhat to track revenue and purses, the effect, as discussed below, is mitigated by adverse impacts on effective takeout rates for most other bettors.

Analysis of Thoroughbred Racing’s Costs The increasing importance of interstate export simulcast signals and fast-paced technological change in information technology systems have established the prerequisites to convert pari-mutuel wagering on Thoroughbred racing into an industry that is nationwide (and potentially worldwide) and highly competitive. In such an environment, the question of “What does it cost?” is as important – if not more important – than the question, “What will people pay for it?” Therefore, as Thoroughbred racing becomes increasingly deregulated and faces additional competition from other forms of wagering, it is important to consider the actual costs of producing the various services tracks provide, including staging live races.

47 Or, more accurately, some combination of the two: airlines, for example, both manage yield in accord with costs, peak conditions, etc. and conduct frequent flyer rebated programs. 48 For example, rebates to large institutional investors against the then prevailing fixed-round lot commission rate structure of the New York Stock Exchange in the late ‘60s first prompted concern by the United States Department of Justice and the Securities and Exchange Commission that ultimately led to deregulation of commission rates by 1975. The institutional structure of pari-mutuel wagering makes it more probable that rebates would be used to compete for large customers rather than discounts, all else equal. 49 We understand that several tracks already provide some form of economic incentives for high-volume bettors. 50 More particularly, the cost avoided is the cost of diverting players from traditional sources of handle. 51 For example, SPMOs engage in little marketing or advertising for their services.

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One way this competitive economic pressure may manifest itself in the Thoroughbred industry is the unbundling of a track’s products. For example, tracks may disaggregate their services into the following categories:

• Live Racing. Tracks produce live races on which customers nationwide can place wagers. • Live Wagering Systems. Wagering systems permit guest patrons at the track to wager on races

live and nationwide.52

• Guest Services. This includes parking, guest facilities, concessions and dining, programs and other information.

Looking at the products that tracks provide from this perspective, we first estimated the sum of those accounting cost categories directly associated with each of these three services. We then determined a “cost-causing factor” associated with each category. The guidelines we used to align costs with cost-causing factors can be found in Exhibit 14. This permitted us to estimate the average incremental costs53 associated with each of these disaggregated products for eight Thoroughbred tracks. In general, live racing accounts for over 50% of the track’s costs while live wagering systems and guest services account for about 16% and 21%, respectively. The remaining, non-distributed costs incurred by the track are typically general and administrative costs that are strict overheads and not variable with any of the goods and services provided by the track.

Exhibit 15 presents the results of our illustrative analysis. For example, the average incremental cost of a first product, namely producing live races, ranges from roughly $0.050 to $0.063 per unit of handle [in this example, “Consolidated Handle”] depending on the size of the track and operational efficiencies that larger track groups – with multiple tracks – enjoy. To look at these figures another way, consider the track as a producer of live races exclusively for distribution through its simulcast operations to retailers who offer betting services to players. These cost figures would suggest that there is a measurable difference between the average incremental costs of producing races for distribution through simulcasting signals and the simulcast fees (3-5% of handle) typically charged by the tracks.54 This may be a particularly important consideration given the rapid growth in interstate export signals outlined above. Similarly, the average incremental cost of hosting patrons and providing wagering systems for those patrons on-track is $0.052 per dollar of on-track handle, of which wagering system costs are $0.024. This latter figure seems a reasonable “order of magnitude” estimate of the cost of a

52 We recognize that many tracks may also be directly involved in providing wagering systems to patrons at off-track betting facilities. 53 Ideally, average incremental costs should be viable estimates of the economist’s notion of long-run marginal costs, and therefore, as discussed below, relevant bases against which to determine relative price structure. We did not have the opportunity to test specific methodologies, however, and our analysis therefore is purely illustrative. 54 This is not meant to suggest that these costs figures are the absolute “right” number. These numbers simply suggest a different way of thinking about a track’s costs in a more competitive environment. In addition, these cost figures do not recover overheads and the return on capital.

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second product, namely retail distribution of wagering opportunities. Together with a third product, namely hosting live attendance, the combined costs of on-track operations is roughly $0.105 per unit of handle.

Although this analysis is illustrative, we stress the following general points. First, competition requires that tracks analyze their cost structure, consider their strategic priorities among the services they offer, and then design a commission and fee structure to recover all costs and economic return on investment that is consistent with these costs and strategic priorities.55 Second, tracks can elect to compete in the (national) distribution and retailing of Thoroughbred wagering, as well as in the production of Thoroughbred races for wagering. Emerging Economic Competition, Thoroughbred Market “Effective Takeout” Price Levels and the Impact on “Handle Up, Revenue (and Purses) Down”

In this section we present evidence that (a) demonstrates that at least some bettors persistently have effective takeout rates that are significantly lower than the nominal takeout set by the host track, and (b) examines the distribution of this activity across different types of wagering pools. We then discuss the economic ramifications of this behavior on the majority of bettors wagering in pari-mutuel pools. Lastly, we assess several different alternatives for dealing with these issues based on real-world experience in the racing industry as well as conceptual proposals considered by various members of the Task Force.

Evidence of Persistent High Payoff Rates As discussed above, the total handle wagered through select retail locations – telephone or Internet-based account wagering providers – has increased markedly in the last three years. Several of these sites tend to pay out an exceptionally high share of the wagering handle to winning players. These locations provide trace evidence of the persistent high payoff rates of a certain category of bettors above what we understand to be the payoff rates (i.e., 90-95%) of superior handicappers. To better understand actual and nominal payoff rates, consider the following example. Over the course of a host track’s racing season, suppose that customers of an unaffiliated retail location provide $30,000,000 in handle. Suppose further that the aggregate value of winning bets is $32,700,000. In this example the resulting payoff rate is 109% and the effective takeout rate is minus 9%.56 Since the weighted average of all customer effective takeout rates must equal the host track’s nominal takeout rate (which in this case is about 20%) the effective takeout rate for all other customers would necessarily have to be greater than 20%.

55 The relationship of a particular commission to average incremental cost depends on relative price elasticity (sensitivity) of the customer. The more price-elastic the customer, the less prices should diverge from costs. For example, these may include Win/Place/Show pools (other than feature races) – that tend to be “commodities” – and high-volume players. Conversely, the less price-sensitive a customer is, the more prices can diverge from cost. For example, these may include feature races and cards (“big events”) and Exo tic pools (“low probability, high payoff wagers”). 56 Effective Takeout Rate = 1-(Payouts to Winners/Handle) = 1 – ($32,700,000/$30,000,000) = -9%.

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We examined settlements data by source of handle across all wagering pools for 19 tracks in 2003 and 13 tracks in 2002.These data are summarized in exhibits 16a and 16b.57 Since the data are by source, and not by customer, we can only infer the existence of persistently high payoff rates. Nevertheless, we do observe persistent high payoff rates and correspondingly low effective takeout rates for certain sources of handle, which also tend to be the unaffiliated retail entities. For example, bettors wagering through Location A wagered approximately $415.3 million while paying winners $399.4 million for a payoff rate of more than 96% and a corresponding effective takeout rate of 4% across all of the tracks in our sample in 2003. Similar results are shown across a number of tracks and in the aggregate for both 2002 and 2003.58 Several of these locations also had a dramatic increase from 2002 to 2003 in the total handle wagered. Across the entire industry, we estimate that these locations – four in 2002 and six in 2003 – accounted for roughly 2-3% of U.S. handle in 2002 and 7-8% in 2003, or about $1.2 billion in 2003. Below, we consider the economic impact on the industry of these significantly lower effective takeout rates.

Analysis of Effective Takeout Rates by Type of Wagering Pool How do these effective takeout rates compare to those of on-track bettors and bettors at other sites? And do these patterns differ by type of pool? To address these questions we analyzed the distribution of handle by type of wagering pool for one track in 2003. These data were organized by type of wagering pool into three categories: “WPS” (Win/Place/Show) Pools, Exacta and Daily Double Pools, and all other pools (“Exotic Pools”). The data include all wagering handle, settlements and payouts for all locations (including on-track bettors) wagering on the host track’s live races over the course of a year. These data are summarized in Exhibits 17a-17d.

We observe, first, that the distribution of handle across the three pool types is markedly different at so-called cash-receiver organizations (CROs), where it centers on Daily Double and Exactas.59 (See Exhibit 17a.) Next, we compared effective takeout rates for each of these three types of pools over a full season at each site with at least $25,000 in handle. The distributions of these data are shown in Exhibits 17c-17e and the results are summarized in Exhibit 17b. For example, there were 173 sites wagering at least $25,000 in WPS pools during the track’s 2003 season. The nominal takeout rate was 16.71%. Note, however, that 120 entities – well above the midpoint of 86 locations – had effective takeout rates greater than this amount. Specifically, the effective takeout rate for live on-track betting was about two percentage points higher than the nominal rate. The last column in Exhibit 17b indicates that while 166 out of the 173 entries had effective

57 The location names and track names are ‘masked’ in these exhibits for confidentiality purposes. 58 There are 4 locations listed in 2002 and 6 in 2003. Locations ‘D’ and ‘E’ are new locations in 2003 that were not operating in 2002. 59 Although we have done no separate analysis, it is our understanding that this pattern is consistent with the information processing advantage these bettors may have with regard to expected payoffs in these pools compared with, for example, straightforward and regularly reported payoffs in a Win pool.

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takeout rates in excess of 9%, seven did not and there was a gap of at least 2.5 percentage points in the effective takeout rate between the two groups.60 A histogram of these results – number of sites arranged by effective takeout – is shown in Exhibit 17c. The same results are even more pronounced for the Daily Double/Exacta and Exotic pools. In these cases, the effective takeout rate for on-track live handle is 3.5 to 4 percentage points greater than the track’s nominal takeout rate; only four of 170 sites in Daily Double/Exacta pools and eight of 174 sites in Exotic pools had effective takeout rates below 9% and the percentage point gap in effective takeout between these sites and all other sites was a full seven percentage points in the case of Exotics. The specific histograms for these two pool types are set forth in Exhibit 17d and 17e. From a bettor’s perspective, the price of placing a wager in a pari-mutuel pool is the effective takeout. As effective takeout rate increases (decreases) we would expect handle to decrease (increase), all else equal. This is true regardless of whether the increase (decrease) in effective takeout rate is caused by a track raising (lowering) its nominal takeout rate or by an increase (decrease) in high payoff handle. Thus, it would appear that the arguments in support of lowering nominal takeout rates should apply equally to concerns about high effective takeout rates for large groups of bettors as a result of informed computer wagering.

Economic Implications of Persistent High Payoff Rates and CROs

Economists have widely adopted the paradigm that financial markets consist of informed participants who regularly gather and ana lyze information as a profession and uninformed participants who rely on market prices to reflect that information. Applying that paradigm to Thoroughbred pari-mutuel pools, informed bettors gather and analyze fundamental information on Thoroughbreds in a race, and on jockeys and trainers. They process all available information in handicapping “true odds” and determining their wagers. Recreational players make wager selections more casually, but rely fundamentally on tote odds to reflect information gathered and processed by “informed” bettors.

Generally speaking, informed bettors are good for pari-mutuel wagering and their activity should be encouraged. Informed players (just like informed investors participating in financial markets around the globe) help make payoffs more efficient through their wagers. “Efficient” in this context, as with securities prices, means “(quickly) reflecting all publicly available information. ” In an efficient pari-mutuel market, the payoffs will quickly converge with the “true odds.” In other words, horses going off at 4 to 1 can reasonably be expected to win 20% of the time (ignoring for the moment the takeout). Moreover, recreational players rely on the market prices they see, namely the tote odds. So long as the activity of informed bettors is reflected in the tote odds, recreational players benefit.

60 That is, if the lowest effective takeout rate in the first group was 9.1%, the highest effective takeout rate in the second group was no greater than 6.5%.

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Now suppose there is a third class of bettors: informed program bettors. 61 These bettors not only assemble and analyze handicapping information but also have the capability, using current information technology, to compile and project payoffs on Daily Doubles/Exactas and Exotic pools and submit high volumes of wagers within a minute prior to the start of a race. Informed program bettors are not unambiguously good for pari-mutuel wagering as long as the totalisator system that processes their wagers – when payoff rates are in excess of the superior handicappers’ range of 90-95% – does not, or cannot, post odds changes quickly enough for other players to respond to, thereby increasing those players’ effective takeout rate. Although further research is warranted, we think it is precisely this process reflected in the effective takeout data in Exhibits 16 and 17. If that is the case, then the Thoroughbred pari-mutuel wagering system is out of balance, at least temporarily, due to its disparate capabilities to accept and process bets. In particular, the traditional benefits may be out of balance.62 That is, recreational players traditionally have been willing to compensate informed bettors for the information they bring to the market. The current costs of that information (in the form of higher effective takeouts) now may outweigh the benefits.63

We have collected some information concerning three possible remedies:

• Track initiatives and/or regulatory policy to bar informed computer betting;

• Track initiatives to manage informed computer betting; and

• Wagering system modifications that create incentives to induce behavior more consistent with the general interests of Thoroughbred pari-mutuel wagering.

To put these approaches into context, consider Exhibit 18, which sets forth a simplified illustration of informed program bettors’ percentage advantage.

61 As of the writing of this report, we have not seen any evidence that illustrates the full extent of computerized batch betting or bet streaming. 62 The situation is very closely analogous to so-called market-timing issues with trading in certain mutual funds that have been the subject of investigation and litigation of late. In market-timing, certain investors were permitted to trade frequently into and out of mutual funds at “stale” Net Asset Value (“NAV”) prices. This ‘permitted these investors the opportunity to earn returns that would otherwise have been claimed by all remaining fund-holders. In other words, the market-timers had the opportunity to dilute the returns to all other investors, much in the same way that informed computer bettors dilute returns to all other recreational and informed bettors. While correcting stale NAV pricing is the long-term solution to the market-timing problem, mutual funds have traditionally barred this kind of trading, and those which, in one way or another, permitted such trading are now the subject of the current focus on this issue. For more on the market timing issue, see Dunbar, Frederick C. and Okongwu, Chudozie, “[Market] Timing Is [Not] Everything,” Wall Street Lawyer, vol. 7, no. 5, 2003. 63 The WSTF has indicated to us that these issues may be “temporary” in that potential improvements in tote systems IT would make it possible to report payoffs on a more complete and up-to-the-second basis. Thus the issue here may be thought of as seeking a temporary solution to the apparent imbalance until such time as more permanent solutions are available.

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Informed bettors are handicappers. They collect and analyze detailed data on horses, riders, trainers, owners, track and weather conditions, etc.64 Based on this information, informed bettors can calculate their estimates of the true odds in a particular betting pool on a race, as well as the uncertainty (or “variance”) around those true odds.65 The estimated likely odds and the variance around those odds are identified in Exhibit 18 as “‘True Odds’ Estimated by Professional Handicappers.” All informed bettors make these calculations, formally or informally, and recreational players are generally much the better off for the information that informed bettors’ subsequent wagers bring to the pari-mutuel odds. But, most importantly for present purposes, neither of the two parameters depicted in the true odds distribution, which are expected outcome and variance, can be influenced by a track’s wagering system.66 But estimating true odds is only part of the story. Informed bettors look for overlays, that is, situations in which their estimates of the likely outcomes materially differ from those reflected in the pari-mutuel pool payoffs. In particular, they will look for situations in which actual pari-mutuel payoffs are greater than warranted by their expected outcome, which is the true odds. The difference between payoffs and true odds is sometimes referred to as the player’s advantage. We illustrate this in Exhibit 18. Since information on pools and payoffs is compiled as wagers are placed – and since informed program bettors and others may place wagers after the last cycle of pool information is compiled before post time – players can only estimate the ultimate payoffs in a pool and the effect their own wagers will have on the final odds. Informed program bettors (and others) must therefore consider two additional parameters when determining their wagers: expected pool payoff and the uncertainty (variance) in this estimate.67 As a general matter, the expected value of a particular wager to an informed computer bettor, i.e., which horse, or horses to bet on, and how much to bet, depends upon the difference between expected true odds and pari-mutuel payoffs (the percentage advantage) and the uncertainty surrounding these estimates. From this we can infer the following: rebalancing the wagering system in the face of confirmation of current high payoff rates for informed program bettors requires remedies that:

• Narrow the player’s advantage (i.e., make pari-mutuel payoffs more efficient); and/or

64 The Internet, among other factors, has made this information widely available to anyone who wishes to consider it, thus reducing the advantage informed players used to have simply from creating their own proprietary information data sets. 65 The variance would be measured, for example, by comparing estimated outcomes and actual outcomes of a handicapping system using a large number of observations. 66 Most bettors understand that the number of entries in a race can importantly affect both expected outcomes and variances. Larger fields thereby make for much more complex and challenging betting opportunities. 67 Uncertainty or variance would be measured using historic data on estimated pool payoffs and final pool payoffs after betting on a race is closed. This information may, in effect, have become the new proprietary data sets of ‘informed progra m bettors’.

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• Increase the amount of uncertainty in the ultimate pari-mutuel payoffs (this being the only one of the four parameters discussed that can be directly affected by wagering systems).

These effects on a player’s advantage are illustrated in Exhibit 18. Each of the remedies below seeks to accomplish rebalancing through one or both of these two principles. For example, some may provide incentives for informed program bettors to place wagers earlier relative to post time, thus incorporating their bets into the pari-mutuel pool information that is compiled and disseminated so that payoffs become more efficient. Others may seek to increase the uncertainty involved by providing more opportunity for recreational players to place the last wagers in the pool. Some may have both effects.

Barring Informed Program Bettors In 2004 two locations that had persistently high payoff rates and negative cash settlements in 2003 stopped wagering into pari-mutuel pools at Woodbine Racetrack in Ontario, Canada.68 To gauge the effect of this lost handle, Woodbine provided confidential financial data for a comparable period of 43 racing days in 2003 and 2004.69 This 43-day period covers all of the racing dates from the last day in May through July and accounts for about 27% of Woodbine’s total annual racing handle. This 43-day period was selected because it represents the first set of racing days on which race cards in 2004 are comparable to race cards in 2003. Barn renovations created a number of changes in Woodbine ’s race cards on earlier racing dates, as compared to 2003, and therefore those dates are not comparable. In this 43-day sample for 2003, these two locations accounted for roughly 7.6% of Woodbine’s total handle. A year-over-year comparison of these two comparable periods of days reveals several results.

First, as shown in Exhibit 19a, total handle on Woodbine’s races from all sources decreased by 5.1%. However, total commissions on all handle from all wagering locations apparently increased by 1.6%. A closer examination of these data reveals that handle and commissions at Woodbine’s facilities – including nearby off- track facilities – decreased by 2.8% and 2.7%, respectively (see Exhibit 19a row (a)). Handle and commissions from all other off- track wagering locations – excluding the two locations that did not wager in Woodbine’s pools in 2004 – increased by 6.8% and 7.5%, respectively (see Exhibit 19a row (d)). Interestingly, Woodbine’s total export business to all sites other than those sites it owns/operates – and including those sites that did not wager into Woodbine’s pools in 2004 – reveals that while handle decreased by about 6.5%, total commissions from this handle actually increased by 4.7% (see Exhibit 19a row (e)). This analysis suggests that the large decrease in Woodbine’s handle – caused by the removal of these two high-payoff-rate locations – was not matched by a correspondingly large decrease in track commissions.

68 It is our understanding that these locations did not agree to a proposed increase in their simulcast fee and chose not to wager in Woodbine’s pools. 69 The underlying data include all wagering from all sources on Woodbine’s live races.

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Second, the removal of these two locations from Woodbine’s pools appears to have reduced the effective takeout rate for all other bettors. In 2003 the effective blended takeout rate for bettors at Woodbine’s facilities was 22% compared to a nominal blended takeout rate of 20.8%. Therefore, in 2003 bettors at Woodbine ’s facilities had an effective blended takeout rate that was 1.2 percentage points greater than the nominal blended takeout rate set by the track. In 2004, after these two high payoff rate locations were no longer wagering in Woodbine’s pools, the effective blended takeout rate for bettors at Woodbine ’s facilities fell to 20.8%, thereby falling into line with the track’s nominal blended takeout rate of 20.8%. This analysis provides an illustration of the additional costs generated by persistent high payoff rate locations wagering in pari-mutuel pools. Third, these two high-payoff- rate locations bet disproportionately more of their wagering dollars in Exacta bets than all other locations. For example, 39.3% of Location 1’s total handle was bet in Exacta pools (see Exhibit 19b column (b)) while across all other off- track export locations only 27.9% of the handle was generated from Exacta bets (see Exhibit 19b column (d)). Exacta bets at Woodbine’s facilities were only 17.1% of the total handle (see Exhibit 19b column (a)). These statistics confirm our findings that bettors at high-payoff-rate locations tend to allocate more of their wagering dollars in Exacta and Exotic bets than bettors at other locations. In 2004 Oaklawn Park in Hot Springs, Ark., removed three wagering locations from its pools. To analyze the impact of this move, Oaklawn provided a confidential, 20-day sample of racing days in March 2003 and 2004. The results of our comparison of these two samples of data are shown in Exhibit 20. The three sites that Oaklawn cut off accounted for roughly 11% of the track’s total handle on its live races in the 2003 sample. There are three key points to observe concerning these data:

1. The Oaklawn data show that track handle declined by roughly 8% in 2004 as compared to 2003 (see Exhibit 20 row (e)). However, total handle per starter declined by less than 1%.70 This decline in handle is entirely attributable to the loss of the contributions made by the three sites that were cut off (i.e., both on-track handle and handle from all other off-track locations increased in 2004 as compared to 2003 (see Exhibit 20 rows (a) and (c)). (We were not provided with corresponding data that would bear upon the effect of this policy on resulting track revenues.)

2. The effective takeout rate on wagers placed at all other locations decreased after these

three sites were removed from Oaklawn’s pools. The effective takeout rate for on-track bettors decreased by 0.60 percentage points (see Exhibit 20 row (a)) and the effective takeout rate for all other off-track bettors decreased by about 1.64 percentage points (see Exhibit 20 row (c)). Overall, the effective takeout rate for bettors on Oaklawn’s live races decreased by about 1.40 percentage points.

70 For example, Oaklawn had 8.90 starters per race in 207 races in this 20-day period in 2003 compared to 8.34 starters per race in 205 races in this 20-day period in 2004. The total handle per starter declined by less than 1%. The point of this comparison is that any comparison of the impact on a track’s handle and/or revenue from any action is complicated and requires detailed analysis. In the case of Oaklawn’s live racing, more detailed analysis is necessary to gauge the impact of its recent business decisions.

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3. The increase in handle on-track and at all other off- track locations was consistent with the decrease in effective takeout rates at those locations. It is also consistent with the notion that an additional “churning” of the wagering dollar may follow reductions in effective takeout rates.71 For example, the on-track effective takeout rate decreased by .6 percentage points while on-track handle increased by 3.6% (see Exhibit 20 row (a)). This implies a churn factor of about 6 for Oaklawn’s on-track bettors. All other bettors at off-track locations had their effective takeout rate decrease by 1.64 percentage points and their total handle increased by 3% (see Exhib it 20 row (c)). This implies a churn factor of roughly 2 for all other bettors wagering on Oaklawn’s races through off-track locations. Across all on-track and off-track bettors (excluding those sites that were cut off), however, the total handle per starter increased by roughly 10.4%. As stated above, the effective takeout rate on these wagers decreased by approximately 1.4%. Therefore, the implied churn factor for handle per starter is roughly 7.5. While this is a limited sample and none of the implied churn factors calculated here are meant to be conclusive, the experiment does validate the concept that the lowering of effective takeout rates creates additional churning of winning dollars.

See Appendix E for a summary analysis of the effect of cash-receiver organizations on revenues and purses, prepared by the TRPB.

Managing Informed Program Bettors In 2003 the operating entity for Aqueduct, Belmont Park and Saratoga Racecourse, the New York Racing Association (NYRA), experienced a significant number of dramatic late odds changes. In its investigation of the root cause of these late odds changes, NYRA personnel identified one retail location that persistently processed a disproportionate share of its bettors’ wagering dollars in the last minute of legal wagering. This large amount of last-minute wagering triggered occasional large changes in the probable payoffs, which could not be posted in a timely manner in time for the rest of the betting public to react. In addressing this issue in 2004, NYRA decided to cut off wagering from this retail location’s hub at zero minutes to post, which is one minute prior to the start of the race. NYRA has shared preliminary data for 2004 that reflect this policy. It is too early to tell the full impact of this move; however, the data reveal three interesting results:

1. According to NYRA personnel, the problem of significant late odds changes has all but disappeared since the policy was adopted in January 2004. While there will always be late odds changes, the late odds changes that occurred in 2003 were dramatic enough to cause concern among the betting public.

71 Churn can be defined as the ratio of handle over available dollars. For example, a decrease in effective takeout of $1,000 with a subsequent increase in handle of $7,000 would be calculated as a churn factor of 7x.

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2. The handle from this retail location fell in the first few months after NYRA’s decision to cut off its wagering hub at zero minutes to post. More recently it has increased to a level of about 70% of 2003 handle.72

3. Cutting off this retail location’s ability to wager within zero minutes to post had the

following impact on effective takeout rates so far. Initially, the rates appeared to increase. For example, with the return of handle from this location in the second quarter – during which handle returned to roughly 70% of the prior level – this location’s bettors had an effective takeout rate of 14.7% (a payoff rate of 85.3%). However, in July 2004 the effective takeout rate on wagers placed by bettors at this location had fallen to 4.4% (for a corresponding payoff rate of 95.6%). Thus, it would appear that the increase in the effective takeout rate was a short-term phenomenon.

In sum, it appears that informed program bettors have adapted to the NYRA policy and are making their wagers earlier. The information conveyed by their wagers is therefore available to all other bettors, eliminating late odds changes. Similar to NYRA, Fair Grounds in New Orleans, La., experienced a large number of dramatic late odds changes in its pools in 2003. Fair Grounds’ personnel isolated one site wagering through a single wagering hub as the primary source of these late odds changes. The track subsequently cut off all wagering through this hub after the first horse was loaded into the gate for each race – a period of time roughly equivalent to NYRA’s “zero minutes” rule. Fair Grounds has provided wagering data for the one location wagering through this hub that it believes was driving the majority of these late odds changes with large amounts of late betting. The data cover a total of 80 racing days, 28 of them prior to the decision and 52 subsequent to the decision. These data illustrate several points:

1. As we understand it, the number of dramatic late odds changes has been reduced.

2. During the 28 racing days that wagering from this location was unrestricted, the site generated cumulative handle of roughly $5.1 million for an average of $182,971 per day. In the 52 days since the restrictions were imposed, the site has generated roughly $1.8 million in handle, for an average of about $34,000 per day – an average decrease of 81.4%.

3. The effective takeout rate on the bets wagered through this location increased. In the 28-

day pre-restriction phase, the total effective takeout rate on these bets was just 2.5% (a payoff rate of 97.5%). In the 52-day period that followed the total effective takeout rate rose to 9.7% (a payoff rate of 90.3%).

72NYRA personnel indicate that on-track handle has increased by roughly 13% in the first half of 2004 relative to the first half of 2003.

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Wagering System Modification The NYRA/Fair Grounds experiment demonstrates that to the extent that racetracks can target informed bettors currently with computer-based payoff rate advantages, they can develop strategies to improve the overall efficiency of reported payoffs. The following hypothetical modifications to a track’s wagering system may accomplish similar results. Direct Incentives: One variant would be increasing the nominal takeout on last-minute wagers relative to earlier wagers. Another would be providing to those wagering before, say, two minutes to post with “insurance” in the form of the higher of payoffs as of this cutoff, or final payoffs resulting from the pool, but only if the difference exceeds some minimum amount (the “deductible”). These approaches are essentially equivalent in that they aim to raise the relative price of placing a bet for last-minute wagers relative to earlier wagers. Of course, beyond the issue of whether they are practical, the incentive would be most effective only if the “discount” for wagers made before the last minute provided sufficient incentive to get informed program bettors to modify their behavior.

Indirect Incentives: The incentive here would be to increase uncertainty in payoffs in a way that would make computer-based estimation very difficult. For example, the Task Force discussed a form of Exacta- linked lottery bet which would work as follows.73 Recreational horseplayers and lottery players off-track would purchase a lottery chance equivalent to a track wager. These would be available for sale each day up to, say, five minutes before post for the specified Exacta race that day. The amount wagered would be added to the specified Exacta pool. Payoff would occur if one of the top three Exacta combinations measured by the amount bet in the last minute (or two) before post won the race, and would be one-third the amount of the actual Exacta payout (with, presumably a minimum payoff). The effect of this procedure would be to make this “dumb money” the last component of the pool amount and unknown both as to amount – which informed computer bettors might ultimately model – and as to distribution among the possible combinations – which would be a somewhat harder task.74 Note also that this, or similar new wagers have the effect of giving informed bettors an incentive to place their bets before the last minute. Another variant would be a mutual fund approach in which recreational players would buy “fund share” wagers on an Exacta, but a disinterested “informed bettor” selected by the track would make the ultimate choice of horses. Again, the amount entered into the betting pool would not be identified on IT systems until after betting is closed. Conclusions Three measures will help remedy the situation of “Handle Up, Revenue (and Purses) Down”:

73 We use the Exacta wager here simply as a device and because the data we cited earlier suggest that informed program bettors likely concentrate their activity in Exactas and Daily Doubles as well as more exotic wagers, as opposed to ordinary Win pools. But similar programs could be worked out for any of compound wagers and Exotics. 74 We would expect that informed computer bettors would adapt their progra ms over time; but increased uncertainty likely would remain.

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• Increase Thoroughbred racetrack handle. As long as handle grows robustly, track

revenues and purses paid will grow, albeit not necessarily at the same rate as handle. Whatever methods are used to market Thoroughbred racing as a betting opportunity, our economic advice remains the same as it was in Time to Deregulate: racetracks must be given more flexibility to set takeout rates in a competitive environment.

• Better align Thoroughbred track economic policies with the changing business

model they face, i.e., distribution that is increasingly off-track, interstate and unbundled from live track operations. Better alignment would close the gap between growth in handle and growth in revenue and purses. The first economic issue of course is pricing the service of providing races for wagering in a nationwide – and soon to be worldwide – market. But, as with other industries, the issue may also ultimately be addressed via vertical integration – tracks establishing separate retail distribution entities – and/or by tracks rethinking their economic role and the priority of the services they provide in pricing overall to recover costs that are efficiently incurred.

• Establish the most attractive blend of economic incentives to participation for both

informed bettors and recreational players . The evidence we have reviewed appears to confirm what members of the WSTF have pointed to, namely, a current imbalance in effective takeout rates for informed program bettors and all other informed and recreational players. Economic theory suggests that the higher effective takeout rates on all other bettors would decrease their participation in Thoroughbred racing, all else equal. The imbalance, we believe, is rooted in current technology that makes handicapping information and pool data available on demand and the process of placing bets almost instantaneous, but which cannot then redistribute updated pari-mutuel pool information on a real-time basis. Longer term, the solution lies in improving technology for all bettors. In transition, however, we believe there are a number of possible measures that can directly address those imbalances, once they have been verified.

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CHAPTER 3 Proposed Recommendations The Task Force’s recommendations to address the problems of declining track revenues and purses fall into five categories: economic analysis, technology, integrity, betting exchanges/bookmakers and legislative/regulatory. Economic Analysis

1. Each track and horsemen’s association should perform detailed analyses of its wagering data to understand fully the effect of all the different sources of wagering (live, on-track simulcast, intrastate and interstate simulcast and international wagering) as well as the types of wagering (e.g., computerized wagering) on its net income and purse structure.

2. Each track and horsemen’s association should review its wagering data and internal cost

structure to determine whether its current revenue policies reflect its current cost structures.

Technology

3. The industry must make improving the tote infrastructure its top priority to fully address current inefficiencies and satisfy ongoing integrity requirements. The improved system should include:

• Processes whereby the live host track controls the wagering event including when to

accept wagers and when to stop the betting process. • Tote communication based on Wagering Transaction Protocol (WTP) (not existing

ITSP protocol) whereby guest sites send bet details to the live host and the live host confirms receipt of those details and advises the guests that they can print a ticket or tickets for that pool.

• Development of a security database of wagering information to allow for real-time monitoring of suspicious activity and historical review of wagering data by regulators and appropriate industry representatives.

• Technological advances to eliminate or substantially reduce late odds changes. Integrity

4. Tracks, horsemen’s associations, and racing commissions should diligently monitor all wagers allowed into their pari-mutuel pools by requiring and reviewing relevant information from tote companies and wagering sites. This information should be aggregated by an industry-wide, national wagering security organization (e.g., the National Office of Wagering Security called for by the WTWG report in 2003). A refusal

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to provide the information necessary to ensure integrity of the system could affect the willingness of industry members to permit access to their own pari-mutuel pools.

5. Tracks, horsemen’s associations, and racing commissions should require an adequate

level of disclosure as well as regulatory and appropriate industry access for international and Native American gaming sites and for all domestic wagering (e.g., ownership, tax status, customer domicile, etc.).

Betting Exchanges/Bookmakers

6. Additional research and planning should be conducted regarding the impact on U.S. handle, revenue and purses from the growth of wagering through international betting exchange platforms and bookmakers.

7. The U.S. industry should work with the international racing community to better

understand the extent of the global challenges posed by unauthorized wagering without host track and horsemen consent.

8. Racetracks and horsemen’s associations should work with law enforcement agencies to

aggressively protect aga inst betting exchanges and other entities (e.g., online bookmakers) that illegally accept wagers on U.S. races from U.S. citizens.

Legislative/Regulatory

9. The industry should focus on efforts to secure passage of new state laws and regulations to allow tracks and other licensed operators the flexibility needed to compete in the electronic gaming marketplace. This would include passage of account wagering and flexible-takeout legislation in all pari-mutuel states.

10. The industry should redouble its efforts to ensure passage of the legislation regarding the

30% withholding rate (currently before Congress) to facilitate the export of the U.S. racing product to the $85 billion international pari-mutuel wagering market.

11. Efforts to respond to the activities of betting exchanges and bookmakers should include

seeking additional legislation [e.g., as outlined in Appendix C] to strengthen current protections of the industry’s wagering rights including civil remedies for infringements on those rights.

12. Members of the industry should proactively cooperate with legislators and law

enforcement officials to preserve horseracing’s existing legal positions regarding interstate electronic wagering as set forth in the Interstate Horseracing Act.

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APPENDIX A

Account Wagering Handle Through the Oregon Wagering Hub

2001

Account Wagering Provider 1st Quarter 2nd Quarter 3rd Quarter 4th Quarter Year-end

TVG $12,414,106 $13,828,933 $26,243,039

America TAB $91,394 $7,926,492 $11,285,309 $19,303,195

Youbet.com $270,329 $4,943,247 $5,213,576

TOTAL $91,394 $20,610,927 $30,057,489 $50,759,810

2002

Account Wagering Provider 1st Quarter 2nd Quarter 3rd Quarter 4th Quarter Year-end

TVG $16,004,865 $47,872,787 $49,274,003 $46,116,900 $159,268,555

America TAB $12,471,966 $15,711,365 $15,623,851 $16,486,791 $60,293,973

Youbet.com $7,741,487 $26,375,827 $38,006,333 $42,534,250 $114,657,897

TOTAL $36,218,318 $89,959,979 $102,904,187 $105,137,941 $334,220,425

2003

Account Wagering Provider 1st Quarter 2nd Quarter 3rd Quarter 4th Quarter Year-end

TVG $25,244,151 $60,986,753 $64,160,757 $63,333,520 $213,725,181

America TAB $20,881,002 $27,503,590 $27,573,330 $26,516,625 $102,474,547

Youbet.com $52,278,105 $67,973,135 $70,114,480 $67,631,352 $257,997,072

TOTAL $98,403,258 $156,463,478 $161,848,567 $157,481,497 $574,196,800

2004

Account Wagering Provider 1st Quarter 2nd Quarter Year-to-Date

TVG $42,449,322 $88,552,031 $131,001,353

America TAB $26,698,961 $32,776,984 $59,475,945

Youbet.com $70,456,519 $82,197,918 $152,654,437

TOTAL $139,604,802 $203,526,933 $343,131,735

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APPENDIX B

RACING INDUSTRY UNIFORM SIMULCAST WAGERING AGREEMENT, Version 002

TABLE OF CONTENTS, DEFINED WORDS and PHRASES, and REFERENCES TO EXHIBITS and SCHEDULES

Page Number

Introduction 1 Race Races

Signals Simulcasts 1. Grant of Rights to Wager on Host Races and Receive Host Simulcasts 1

Racing Meet Schedule A1 Exhibit 2 Schedule B Exhibit 3 Schedule C

2. Restrictions on Rights Granted – Secondary Recipients 2 Satellite Facilities

Secondary Recipients

Schedule A1 Schedule A2 Schedule A3 Schedule A4 3. Reservation of Rights 4 4. Transmission of Audio/Visual Signals; Content of Broadcasts 4 Exhibit 4

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1. Term of the Agreement 5 Exhibit 2 Schedule B 2. Transmission of Data Signals and Racing Information 5

Commingled Wagering Pools and Tote Interface Wagering System System 3. Simulcast Races Rebroadcast by Host to Guest Facility 6

Exhibit 3(D) 8. Compensation and Method of Payment 7

(A) Commissions

Exhibit 5

(B) Payment

Race Week Exhibit 5

(C) Verification (D) Limit on Liability (E) Expenses (F) Money Room Adjustments 7 (G) Responsibility Concerning Secondary Recipients

9. Compliance with Government Laws and Regulations, including Interstate

Horseracing Act 8 10. Wagering System or Communications Problems 8 11. Representations and Warranties 9

Exhibit 1 Schedule A

12. Indemnification; Liability 10

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13. Force Majeure 11 14. Inspection 11 15. Trademarks and other Intellectual Property 11 Exhibit 6 16. Termination 12 17. Miscellaneous 13 (A) Breakage (B) Minus Pools (C) Uncashed Pari-Mutuel Tickets (D) Stop Wagering

Exhibit 3 (E) Recovery of Expenses (F) Governing Law 13 (G) Entire Agreement; Amendment (H) Captions (I) Counterparts and Duplicate Originals (J) Severability (K) Waiver; Remedies (L) Third Parties (M) Time (N) Assignment 14 (O) Notices

Exhibit 1 Schedule A

18. Further Assurances 14

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RACING INDUSTRY UNIFORM SIMULCAST WAGERING AGREEMENT, Version 002

NOTE: This document (Sections 1 through 18) contains standard language adopted by the Racing Industry in the United States and is designated as the “RACING INDUSTRY UNIFORM SIMULCAST WAGERING AGREEMENT, VERSION 002”. It is incorporated by reference in, and made an integral part of, racing industry simulcast agreements, including this Agreement. No clauses in this document have been changed. Any changes to this document are contained within the Exhibits or Schedules to this Agreement. Included in the Exhibits and Schedules are additional clauses to this Agreement, agreed to by this Host Track and this Guest as constituting an integral part of this Agreement. To the extent there is conflicting language between the RACING INDUSTRY UNIFORM SIMULCAST WAGERING AGREEMENT, Version 002, and the Exhibits or Schedules, the Exhibits or Schedules will control. To the extent there is conflicting language between the Exhibits and Schedules, the Schedules will control. The Uniform Simulcast Wagering agreement, Version 002, and all Exhibits and Schedules, are deemed a part of this Agreement. WHEREAS, Host Track plans to conduct live horse racing programs at its live race track (each race, a “Race” and collectively, the “Races”); and WHEREAS, Guest Facility desires to acquire the non-exclusive right to receive the simultaneous audio-visual and data signals of the Races [“Signals”], and to accept pari-mutuel wagers on the Races; and WHEREAS, Guest desires to acquire the right to participate in certain pari-mutuel wagering pools offered by Host; and WHEREAS, Guest desires to acquire the right to commingle Guest’s pari-mutuel pools with and into Host’s pari-mutuel pools; and WHEREAS Host desires to permit Guest to participate in such activities (herein collectively referred to as “Simulcasts”) subject to the terms and conditions of this Agreement and all applicable laws and regulations; NOW, THEREFORE, in consideration of the agreements herein contained and other good and valuable consideration, the receipt and sufficiency of which are hereby acknowledged, the Parties hereby covenant and agree as follows: 1. Grant of Rights to Wager on Host Races and Receive Host Simulcasts (A) Host grants to Guest the right to receive and, except as otherwise permitted by Section 2 of this Agreement, to use only via closed circuit video and data systems on the premises set forth in Schedule A(1), live audio-visual and data signals of live programs of Host’s Races (the “Signals”) which are broadcast during Host’s racing meet (the “Racing Meet”). Host

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further grants to Guest the limited right to accept wagers on the Races, and to commingle said wagers with and into Host’s wagering pools. (B) Such Races, Signals, and Racing Meet (or Meets) are set forth in Exhibit 2. Guest will not import any of Host’s Signals other than those specified in Exhibit 2, and will accept pari-mutuel wagers only on those of Host’s Races as are specified in Exhibit 2. (C) During the term of this Agreement Guest agrees to use its best efforts to import the Signals of those Races specified in Schedule B, and to accept all of Host’s pari-mutuel wagers on all such Races at the applicable takeout rates specified by Host, as set forth in Exhibit 3, and no other wagers or takeout rates, unless otherwise specifically agreed to by the Parties and set forth in Schedule C. Guest further agrees to use its best efforts to provide its patrons with facilities comparable to those provided during its own live races, including but not limited to closed-circuit video of the Races, the opportunity to wager, programs, and announcement of conditions and changes. (D) The Races shall be conduc ted in accordance with the regulations of Host’s Racing Commission. Should there be any change in Host’s schedule or menu of Races, Signals, Racing Meets, pari-mutuel wagers or takeout rates, Host will immediately notify Guest of any such change. (E) The foregoing limited and nonexclusive rights granted hereby shall not include a right to tape, copy or otherwise use the Signals for any other purpose. Except as expressly set forth in this Agreement, no retransmission, rebroadcast or other distribution of the Signals by Guest is permitted without the prior written permission of Host. (F) The foregoing rights shall not prohibit Host from transmitting the Races from Host to any other entity located in the Host or Guest state or elsewhere. 2. Restrictions on Rights Granted; Secondary Recipients (A) Unless otherwise agreed upon by the Parties, Guest will not retransmit, rebroadcast or otherwise distribute the Signals to, nor permit the acceptance of wagers on, Host’s Races to any person, entity or facility, including without limitation the use of such Signals or wagering as part of any cable television, telephone wagering, personal computer or interactive system, or at any location other than the premises specified in Schedule A(1). (B) In its sole discretion, Host may allow Guest to retransmit, rebroadcast or otherwise distribute the Signals to additional facilities located within the same state as Guest (“Satellite Facilities”), or facilities located in a different state than Guest. In addition in its sole discretion, Host may allow Guest to distribute the Signals to cable television or other rebroadcasting systems, or to accept wagering on the Races through telephone wagering, personal computer or other interactive systems. Such Guest-state and other-state facilities and entities shall be referred to, collectively, as “Secondary Recipients”. Any such permission by Host shall be in writing, shall be specific to the facilities or entities specified therein, and shall be

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deemed to be a part of Schedule A2 to this Agreement. Guest covenants that it shall ensure that all Secondary Recipients adhere to all terms of this Agreement. (C) Host hereby grants to Guest the right to retransmit, rebroadcast or otherwise distribute the Signals to those Satellite Facilities, and only those Satellite Facilities, set forth in Schedule A(2) to this Agreement, and for wagers on the Races to be accepted at such Satellite Facilities and commingled into Guest’s pari-mutuel pools, provided that the Satellite Facilities shall be prohibited from using the Signals in any way other than for use on their premises (as identified in Schedule A(2)), or wagering on the Races at their premises, in accordance with the limited rights granted Guest in Section 1 of this Agreement. (D) Guest shall not retransmit, rebroadcast or in any other way distribute or disseminate the Signals, or permit wagers on the Races, to any person, entity or facility not located within the same state as Guest, or as part of a cable television, telephone wagering, personal computer or other rebroadcast or interactive system, unless, and only to the extent that Host’s written consent has been given and has been set forth in Schedules A(3) or A(4) or as a further Schedule to this Agreement. (E) Any redistribution of the Signals by Guest shall be encrypted in a manner approved in advance by Host. Host shall be provided with all information and equipment necessary to enable Host to decode such encrypted transmissions at all times, and Guest will be responsible for all reasonable costs associated with enabling Host to decode such transmissions. (F) Any redistribution of the Signals by Guest shall be simultaneous with the transmission of the Signals by Host. Guest shall not alter or edit in any manner whatsoever the Signals as produced and transmitted by Guest, except that Host grants to Guest the right to delete those portions of the audio-visual signals that contain pre-race or post-race commentary and/or statements made by Host’s track announcer without any other deletion or alteration. (G) Except as specifically permitted pursuant to this Section, Guest and Secondary Recipients shall not record or duplicate the Signals in any manner whatsoever, nor permit others to do so. (H) Guest shall be responsible for payment of all simulcast fees, decoder fees and reconciliation amounts and provisions of reconciliation statements owing to Host by Guest or its Secondary Recipients. For the purpose of computing the compensation payable to Host under this Agreement, said compensation shall be based upon the total amount wagered without any reduction due to any statutory or contractual obligations between Guest and its Secondary Recipients, or whether a Secondary Recipient has made payment to the Guest for wagers on the Races accepted by the Secondary Recipient. The execution of this Agreement by the Guest shall be equivalent to a guarantee of payment by the Guest of all compensation due to Host for any wagers taken and processed through the Guest Track’s totalisator system irrespective of the origin of such wagers. Host’s consent to the redistribution of the Signals and wagering on the Races by Guest’s Secondary Recipients is conditioned upon compliance with this Subsection 2(H) of the Agreement.

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3. Reservation of Rights Host reserves, for itself, its agents, assigns and licensees, any and all rights relating to the Signals (except as may be granted to Guest pursuant to Sections 1 and 2 of this Agreement), including but not limited to the sole and exclusive right to produce, exhibit, sell, license, transfer or transmit in any manner, still or motion pictures, radio and television broadcast, or any other similar media transmissions now known or hereafter developed of all events, including the Races, which occur on the premises of Host (including, without limitation, all activities occurring before, during and after the Races.) No rights in the trademarks, tradenames, service marks, service names, copyrighted material or other proprietary information of Host is granted to Guest or to Guest’s Secondary Recipients, except as expressly set forth herein. 4. Transmission of Audio/Visual Signals; Content of Broadcasts (A) The audio-visual signals of the Races (including without limitation pre-race and post-race events) will be transmitted from Host to Guest by means of appropriate electronic equipment, including an uplink earth station device and encoding and decoding equipment for signal security purposes, selected by Host. Host will be responsible for providing at its cost the uplink device and transponder for transmitting the signals of the Races, and all technical services associated therewith. Guest shall be responsible for providing at its cost a compatible downlink device and decoder for receiving the signals of the Races, and all technical services associated therewith. (B) Host has retained a contractor to provide encoding services in connection with the Signals. Information with regard to Host’s contractor and the procedures for obtaining decoders may be found in Exhibit 4 to this Agreement. (C) The Simulcasts of the Races shall be transmitted to Guest Track in the same manner as such Races are displayed on Host’s closed-circuit television system.

(D) The Parties understand that the Races are to be televised via satellite transmission in accordance with contracts between Host and satellite transmission carriers who may have the right to preempt or cancel the transmission of the Races. In the event of such preemption or cancellation, or if such transmission does not take place for any other reason, Host shall not incur any liability to Guest or others.

(E) To the extent that any races simulcast to Host from other racetracks shall be a part of the Signals in accordance with Section 7, they shall be transmitted to the Guest Track in the same manner as such races are displayed on Host’s closed-circuit television system. (F) Host shall make available to Guest by the fastest means reasonably available at the time information becomes available to Host, the following: (i) Scheduled post times for the Races, Race conditions, and racetrack conditions;

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(ii) The name of each entry in the Races, including the owner, trainer, sex, color, breeding, weight, jockey or driver assignments, post position, saddle cloth or head number, and whether the entries have been coupled in any way for wagering purposes; (iii) The name of each entry scratched from the Races; (iv) The “morning line” as established by Host; (v) Any jockey/driver, equipment, post time or other changes; (vi) The results of the Races with Host’s payout prices; (vii) Any changes in the post time of the Races; (viii) A copy of any photo finish; and (ix) Such other information that Host believes may be necessary to Guest for the promotion and conduct of the Simulcasts as provided herein. If Guest is desirous of receiving past performance information, Host will transmit or arrange for the transmission of such information, provided that Guest agrees to comply with conditions and fees, if any, required by the originators of past performance data. Host shall use its best efforts to insure that all information delivered to Guest is accurate and given in a timely manner; provided, however, that Guest agrees that Host shall not be liable for any inaccuracy or incompleteness of the information furnished to Guest, or the failure of a third party to properly deliver the information furnished to Guest, except in the event of fraud or intentional inaccuracy by Host. 5. Term of the Agreement Unless terminated sooner as provided in this Agreement, this Agreement shall remain in effect until the end of the last Racing Meet set forth in Exhibit 2 (or as may be amended by Schedule B) and may be renewed thereafter by mutual consent of the Parties. 6. Transmission of Data Signals and Racing Information;

Commingled Wagering Pools and Tote Interface (A) Wagering data and other information relating to the Races will be transferred between Guest and Host by means of telephone lines unless an alternate appropriate means (such as KU Band send/receive earth stations) is set forth in the Exhibits or Schedules to this Agreement (the “Wagering System” or “System”.) Guest shall be solely responsible for all telephone line installation and costs resulting from the transfer of data from Guest to Host. (If KU Band send/receive earth stations are employed, Host and Guest shall each be responsible for the cost, delivery and installation of their respective earth stations.)

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(B) Guest shall be responsible, at its sole cost and expense, to arrange for the transmission and interface of wagering data from Guest to Host, in a format consistent with Host’s requirements, so as to produce common pari-mutuel wagering pools for the calculation of odds and the determination of payouts from such pools, which payouts shall be the same for all winning wagers irrespective of whether such wager is placed at the Host track or at the Guest facility. Guest shall be solely responsible for any and all totalisator interface fees resulting from wagers placed under the terms of this Agreement. Any additional charges that are charged to Host or Guest (including Guest’s Secondary Recipients) by their respective totalisator companies for the processing of wagering information shall be the sole responsibility of the respective Parties. (C) All odds and payouts on commingled wagers for the Races shall be computed in accordance with the data available for computation at the Host Track at the start of each Race or at the time each wagering pool closes, whichever is applicable. All payout computations shall be final regardless of mistakes in transmissions or failures to transmit or receive all wagers. Guest understands and agrees that it shall be solely responsible for all claims asserted in this regard for wagers placed with Guest or with Guest’s Secondary Recipients. (D) Guest shall offer wagering on the Races on the same number of betting interests in the Races as offered at Host Track, and shall offer and accept the same types of pari-mutuel wagers on the Races as are offered and accepted at Host Track. Guest shall offer and accept commingled wagers on the Races subject to the identical retention and breakage rates as pertain to the wagers at Host Track and subject to the rules of racing in effect for pari-mutuel pools in the Host’s state. Guest represents and warranties that applicable state and local laws in Guest’s state authorize such identical retention and breakage rates. 7. Simulcast Races Rebroadcast by Host to Guest Facility (A) Guest understands that Host Track may receive simulcast races from one or more other racetracks as part of Host’s live race program at the Host Track. Subject to the approval of the racetrack(s) hosting such simulcast races, Host may rebroadcast such simulcast races as part of its Signals, subject to any required terms of rebroadcast as set forth in Exhibit 3(D). (B) Guest Track may, at its option and subject to the approval of the host racetrack, choose whether to conduct wagering on such simulcast races and commingle such wagers into Host’s pari-mutuel pools, and shall communicate such choice in writing to Host. Host will use its best efforts to make available to Guest all relevant racing information, and to insure that such information is accurate and given in a timely manner; provided, however, that Guest agrees that Host shall not be liable for any inaccuracy or incompleteness of the information. (C) Guest understands that the fee percentage rate on such simulcast races may differ from the fee for Host’s Races. If Guest chooses to conduct wagering on such simulcast races by means of commingling into Host’s pools, Guest agrees to pay the simulcast fees contained in the simulcasting agreement between Host and the host track of such simulcasts, on all wagers placed on such simulcast races by the patrons of Guest or its Secondary Recipients. Guest further agrees

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to adhere to the terms of the simulcasting agreement between Host and such host track. Guest shall be responsible for paying all such fees and expenses associated therewith directly to Host, in a time frame such that Host will have received all funds from Guest in the allotted time for payment for such simulcast races, and Host shall remit such amounts to the host track as part of Host’s settlement process with that host track. 8. Compensation and Method of Payment (A) Commissions As Compensation for granting to Guest the right to receive the Signals and accept wagers on the Races as set forth herein, Guest shall pay to Host (in the manner set forth hereinafter) amounts as set forth in Exhibit 5 to this Agreement. (B) Payment Guest shall send to Host, within four (4) days after the running of the last Race for a given week (for purposes of this section the “Race week” being defined as ending on a Sunday) (i) a statement of the total handle of each of the Races at the Guest Facility or at any other facility at which the Signals are received by Secondary Recipients, as well as an accounting of the handle for each type of wager (in the form of the computer generated Liability Report printout) signed by an officer of Guest; and (ii) payment in full to Host, for the Races in accordance with the amounts specified in Exhibit 5. All payments shall be in United States funds, by method of payment set forth in Exhibit 5. Host reserves the right to withhold transmission of the Signals in the event of late or non payment of amounts owing under this Agreement. (C) Verification On or before the tenth (10th) day after the last day of each Racing Meet, Guest shall submit verification of the accounting of the handle certified by an officer of Guest. Guest shall maintain for a minimum of 24 months, at its offices, complete and accurate books and records relating to its conduct of pari-mutuel wagering on the Races, which records shall be made available to Host or its representatives upon request. (D) Limitation on Liability Host’s obligations under this Agreement are and shall be deemed to be satisfied in full by providing the Signals to Guest for reception at Guest’s track in accordance with the terms hereof. (E) Expenses Unless otherwise specifically set forth in this Agreement, each Party shall be solely responsible for all expenses incurred by it in the performance of this Agreement or the operations of its facility. (F) Money Room Adjustments The Parties shall reconcile their return to bettors’ accounts on a daily basis using information provided by Host’s totalisator contractor. All money room adjustments (as reflected in the liability and/or prices or equivalent report generated by Host’s totalisator company) owed to Host by Guest (and/or any Secondary Recipient) shall be due and payable by Guest within the earlier of (i) three (3) business days of written demand therefore by Host, or (ii) three (3) business days after the fifteenth (15th) day of each month and after the last day of each month.

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(G) Responsibility Concerning Secondary Recipients In addition to any other remedies available to it under this Agreement or in equity or law, and notwithstanding any provision to the contrary in any of the Secondary Recipient agreements, Guest shall be jointly and severally liable for any Commissions or Money Room adjustments owed to Host by any Secondary Recipient. 9. Compliance with Government Laws and Regulations, including Interstate

Horseracing Act (A) This Agreement is subject to the requirements of the Racing Commissions of the Host and Guest states. Any provision mandated by either Commission and required to be set forth herein, is specifically incorporated herein by reference. (B) Guest agrees that the Races that are Simulcast shall meet the requirements and comply with the rules and regulations of Guest’s Racing Commission. Guest agrees that it will satisfy all necessary requirements of the Interstate Horseracing Act of 1978 in the course of implementing this Agreement. (C) The Parties hereto, including any Secondary Recipients, shall comply with the provisions of all applicable Federal, State and local laws and regulations in connection with their performance hereunder. 10. Wagering System or Communications Problems (A) In the event of a Wagering System or communication failure after wagers have been accepted by Guest, Host shall accept - either through the System or through a “Manual Merge” - wagering information regarding the amount of wagers accepted by Guest on any given race, for at least 5 minutes past the actual start of the Race (or, in the case of multiple-race exotic wagers, for at least 5 minutes after the last Race of the group of Races is declared official.) Guest shall immediately transmit by fax the following information: (i) the wagering information regarding the amount wagered on the Win, Place and Show horse; (ii) the wagering information from such Race regarding the amount wagered in exotic pools on such horses (plus any other horses that figure in the payouts of an exotic pool for such Race);

(iii) the collective amount wagered in such Race, in each pool, on all other horses; and (iv) the amount wagered in such Race, in the Win pool, on each other horse. It is the intent of the Parties that the wagering information on all winning wagers be transmitted immediately so as to not unduly delay the commencement of the next Race, with the remaining information to be transmitted later that same day.

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(B) In the event a System or communication failure cannot be rectified within the aforementioned time frame, or if for any reason Host or its Racing Commission determines that the merging of pool data from the Guest site to Host’s pools may endanger Host’s pools or cause an unreasonable delay in scheduled post times, Host may elect to abort Manual Merge procedures resulting in, among other things, the option by Host to remove Guest’s partial wagering information from Host’s pools, with no obligation or liability on the part of Host or its Racing Commission. Host shall not be liable for any measures taken that may result in, or may be a result of, Guest’s wagers not being accepted in the commingled pool, and in such event such wagers shall become the sole responsibility of Guest. If Guest notifies Host in a timely manner that the System or communication failures have been rectified, Host shall not unreasonably refuse to accept wagering information from Guest through the System. (C) Host reserves the right to refuse to accept further wagering information if there have been intermittent System or communication failures. In such event, Host shall immediately inform Guest of its decision not to accept further wagering information through a Manual Merge so that Guest may taken appropriate action with regard to wagering at its facility. (D) If for any reason Guest’s (or any Secondary Recipient ’s) wagers cannot be commingled with Host’s wagers for the pools related to any Race, Guest shall at its sole discretion (and in accordance with the laws and rules of its state) either cancel such wagers and make appropriate refunds, or otherwise determine how the payoffs for such pools shall be made, and shall immediately notify Host of the manner in which it is proceeding. If for any reason beyond the control of Guest, commingling is not available between Host and Guest (or any Secondary Recipient) Guest may choose not to import the Races from Host, and shall immediately notify Host of this decision; provided, however, that all other terms of this Agreement shall be in full force and effect. (E) Guest agrees to adopt a policy to accommodate wagers excluded from Host’s

pools in the event of a System or communication failure. This policy shall be reduced to writing, a copy of which shall be provided Host, and posted in numerous conspicuous

places throughout the Guest’s facility. 11. Representations and Warranties In addition to the representations and warranties contained elsewhere in this Agreement, Host and Guest each represent that: (A) It is a corporation (or other entity as set forth otherwise on Exhibit 1 or Schedule A to this Agreement), duly organized, validly existing and in good standing under the laws of the State in which its facility is located;

(B) It has all requisite power and authority to transact the business it transacts and to enter into this Agreement and perform its obligations herein;

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(C) The execution, delivery and performance of this Agreement has been duly authorized by all requisite corporate or other action and this Agreement is valid and legally binding on it;

(D) Its operation is duly licensed to conduct pari-mutuel wagering; (E) It is in compliance with all applicable federal and state statutes, local laws and ordinances, and has obtained all requisite Federal and State governmental approvals to enter into this Agreement and perform its obligations hereunder; (F) It has obtained, or will obtain prior to the transmission of the Signals or wagering on the Races at the Guest Facility pursuant to this Agreement, the approval of its Racing Commission and other requisite consents to enter into and perform this Agreement in compliance with the Interstate Horseracing Act of 1978 (15 U.S.C. 3001 et seq.), and has satisfied all necessary requirements thereunder; and (G) No other consents of any other person, entity or governmental authority are required to permit it to enter or consummate the transactions contemplated hereby. 12. Indemnification; Liability (A) Guest hereby agrees, for itself and each and every Secondary Recipient, to indemnify, save, defend and hold harmless Host and its officers, directors, agents and employees, and the successors and assigns of the foregoing, from and against the full amount of any and all liabilities, obligations, losses, damages, injuries, penalties, claims, actions, suits, costs, expenses and disbursements, including attorneys’ fees, arising from or related to (i) the exercise by Guest and/or any Secondary Recipient of the rights conferred hereby and the use by Guest and/or any Secondary Recipient of the contemplated service; (ii) acts or omissions of Guest and/or any Secondary Recipient and/or their officers, directors, employees, agents or other representatives in connection with the performance of the Agreement; (iii) the reception, transmission or use of the Signals (and the information conveyed thereby) and other information, provided hereunder by Host or its contractors or sub-contractors, by Guest and/or any Secondary Recipient; (iv) the conduct of pari-mutuel wagering on the Races (including payouts thereunder) at any facility operated by Guest and/or any Secondary Recipient; (v) compliance by Guest and Secondary Recipients with all applicable federal, state, local and international laws and regulations, including without limitation the Interstate Horseracing Act of 1978; and/or (vi) Guest’s breach of any of its representations and warranties contained in this Agreement. The applicability of this Section includes all cases in which either a customer of Guest or a federal, state or local government or agency shall make a claim, file a suit, or issue a ruling.

(B) Host does not guarantee the accuracy or completeness of the Signals or other information supplied. Host shall not be liable to Guest (or its Secondary Recipients) or its patrons or other individuals or entities whose claims are based upon the running of or wagering on the Races, in the event that for any reason any of the Races are not run, any of the Races are delayed, wagering on the Races fails to occur or is delayed, or transmission of the Races or the

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Signals fails to occur or is delayed. However, Host agrees to use its best efforts to assure the reliability, accuracy and timeliness of the Simulcasts. The liability of Host hereunder, if any, shall be limited to the amount of the Commissions paid to it pursuant to this Agreement. 13. Force Majeure Host shall not be liable to Guest, or any third party, for failure to run, or delay in the running of, the Races, or in the event any equipment, service or transmission cannot be provided by Host or its contractors or sub-contractors due to an act of God, fire, epidemic, casualty, act or decision of a governmental authority, injunction, technical difficulties, failure of satellite or other communications or electrical or telephone power transmission lines or facilities, boycott, strike or labor dispute, or any similar or dissimilar cause beyond the control of Host or its contractors, sub-contractors, representatives and agents. In the event of such occurrence(s) Host may terminate this Agreement or suspend and defer its performance hereunder without incurring any further obligation or liability to Guest or entities or individuals whose claims are predicated upon the running of, or wagering on, the Races. If any of the above events occur at Guest Track and prevent Guest from Simulcasting the Races, Guest may terminate this Agreement or defer or suspend its performance hereunder without incurring any further obligation or liability to Host. 14. Inspection (A) Guest shall permit inspection of its simulcast facilities, books and records by a representative of Host or of Host’s Racing Commission at any time when wagering is offered by Guest or a Secondary Recipient on the Races; Guest shall provide in its contracts with its Secondary Recipients that the same rights of inspection shall apply to the simulcast facilities, books and records of the Secondary Recipient. (B) Host shall permit inspection of the totalisator facilities at the Host Track where Guest’s wagers are subject to commingling, and related totalisator books and records, by a representative of Guest or of Guest’s Racing Commission, at any time when wagering is being conduct by Guest on the Races. 15. Trademarks and other Intellectual Property (A) Host is willing to grant to Guest (and through Guest, to Secondary Recipients) a non-exclusive royalty-free license for the limited use of the trademarks and service marks of Host as set forth in Exhibit 6, as well as the trademarks and service marks for those of Host’s stakes races occurring during and which are subject to this Agreement (all trademarks and service marks hereinafter collectively referred to as “Marks”), in connection with Guest’s advertising of the Simulcasts at Guest’s facility, in Guest’s program, subject to the following terms and conditions.

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(B) At any time that Guest uses the Marks, Guest represents and warrants that it shall clearly indicate Host’s ownership of the Marks by use of an accompanying trademark designation, as appropriate, and/or any other statement or indication of ownership as set forth in Exhibit 6, or as Host may direct. (C) Guest understands that this is a limited license and that Guest is not permitted to and represents and warrants that it shall not use or authorize use of the Marks for any other purpose whatsoever without the prior written consent of Host, including but not limited to use in any promotion or use for any other commercial or collateral purpose such as souvenirs, T-shirts, or other items sold or sponsored by Guest. (D) Guest represents and warrants that it shall not use or authorize use of any other of Host’s logos, trademarks, service marks or copyrights without Host’s prior written consent. Guest recognizes the value of the goodwill associated with Host’s Marks, and marks which Host claims right to, and recognizes that such marks have secondary meaning in the mind of the public. Guest represents and warrants that it does not have any claim, right, title or interest in any logos, trademarks, service marks or copyrights to which Host claims rights, except as provided herein. (E) In the event that Guest has used or uses any logos, trademarks, service marks or copyrights in which Host claims rights at any time prior to or during or after the termination of this Agreement, Guest agrees that such use shall inure and accrue to the benefit of Host. Guest shall not be permitted to sublicense or assign its limited license of the Marks. (F) Guest represents and warrants that it will not take or fail to take any action which could impair Host’s or Host’s other licensees’ right in Host’s logos, trademarks, service marks and copyrights, and that it shall indemnify Host for any liability arising from Guest’s breach of this Section. (G) Host specifically reserves any and all intellectual property rights not specifically granted herein. 16. Termination

(A) This Agreement shall be automatically terminated upon the bankruptcy, insolvency or dissolution of either party, or upon the failure to obtain or withdrawal of any approvals required by any applicable laws as to the transactions contemplated hereby.

(B) Either Host or Guest may terminate this Agreement five (5) days after written notice is given to the other Party.

(C) Notwithstanding anything to the contrary contained herein, Host shall have the right to terminate this Agreement (i) five days after written notice to Guest of non-payment of any moneys due to Host hereunder, or (ii) immediately upon written notice to Guest, if Guest or Secondary Recipient materially breaches any other obligation under this Agreement; and Host

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shall be entitled to avail itself of any right or remedy provided to it under this Agreement or at law or equity.

(D) Any termination of this Agreement shall not affect any outstanding obligations or indemnities of the Parties hereto. 17. Miscellaneous (A) Breakage Breakage shall be allocated between Host and Guest (including Guest’s Secondary Recipients), proportionately, on the basis of their respective handles, calculated by multiplying total breakage by a fraction which uses Host’s or Guest’s handle as the numerator and the total combined handle as the denominator. (B) Minus Pools Minus Pools shall be allocated between Host and Guest (including Guest’s Secondary Recipients), proportionately, on the basis of their respective handles, calculated by multiplying the amount of the Minus Pool liability by a fraction which uses Host’s or Guest’s handle as the numerator and the total combined handle as the denominator. (C) Uncashed Pari-Mutuel Tickets After the close of the Host Racing Meet, Guest shall retain and cash “outs” tickets in accordance with the laws of Guest’s state. (D) Stop Wagering Guest (and Secondary Recipients) understands that it must stop accepting wagers on the Races on or before the start of the race. The start of the race shall be determined in accordance with the standard set forth in Exhibit 3. (E) Recovery of Expenses In the event of any litigation between the Parties to enforce any of the provisions of this Agreement or as a result of a breach of any representations and warranties contained in this Agreement, the unsuccessful Party to such litigation agrees to pay the successful Party all costs and expenses, including reasonable attorney’s fees and costs, incurred by the successful Party, all of which shall be included in the judgment in such litigation. (F) Governing Law This Agreement shall be deemed to have been entered into in the State in which Host is licensed (as set forth above), and the validity, interpretation and legal effect of this Agreement shall be governed by the laws of that State. The Parties consent and agree to the jurisdiction of the Courts of that State and the Federal Court located in that State. (G) Entire Agreement; Amendment This Agreement, including the Exhibits and Schedules hereto, contains the entire understanding of the Parties hereto relating to the subject matter hereof, supersedes any and all prior or contemporaneous agreements or understandings, either oral or written, and may not be changed or terminated orally. This Agreement may be amended only by a written Agreement signed by the Parties. (H) Captions The captions of the sections and subsections in this Agreement are inserted for convenience only and shall not affect the construction or interpretation thereof.

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(I) Counterparts and Duplicate Originals This Agreement and all amendments hereto may be executed in several counterparts and each counterpart shall constitute a duplicate original of the same instrument. (J) Severability Any provision hereof prohibited by or unlawful or unenforceable under any applicable law of any jurisdiction shall as to such jurisdiction be ineffective without affecting any other provision of this Agreement or the enfo rcement thereof in any other jurisdiction. (K) Waiver; Remedies A waiver by one Party of a breach by the other Party shall not be considered a waiver of any or all subsequent breaches by the noncomplying Party. The Parties hereto shall have all remedies for breach of this Agreement available to them provided by law and equity. (L) Third Parties Nothing in this Agreement, whether express or implied, is intended to confer any rights or remedies under or by reason of this Agreement on any person other than the Parties, the Host and Guest Racing Commissions, and their respective successors and permitted transferees and assigns, nor is anything in this Agreement intended to relieve or discharge the obligation or liability of any third persons to any Party to this Agreement, nor shall any provision give any third person any right of subrogation or action over or against any Party to this Agreement. However, whenever this Agreement requires or contemplates action by a third party, such action shall not be an obligation of a Party to this Agreement unless expressly stated herein, but only a condition of the obligations of the Parties hereto. (M) Time The Parties expressly agree that time is of the essence of the Agreement. (N) Assignment This Agreement and the rights of the Parties hereto may not be conveyed, assigned or transferred to any other person without the written consent of the Parties. (O) Notices Any notice hereunder shall be deemed sufficiently given by one Party to another if in writing and delivered at the addresses set forth on Exhibit 1 and Schedule A to this Agreement, or at such other address as any Party may furnish. Notice shall be deemed delivered (i) upon actual delivery, if delivery is made in person or by courier, or (ii) on the third day after deposit in the United States Mail if in a sealed envelope, registered or certified, with postage prepaid, addressed to the person to whom such notice is being given. 18. Further Assurances Each of the parties agrees to execute and deliver any and all further agreements, documents or instruments necessary to effectuate this Agreement and the transactions referred to herein or contemplated hereby or reasonably requested by another Party to perfect or evidence its rights hereunder. Each Party will promptly notify the other of any information delivered to or obtained by such Party which would prevent the consummation of any transactions contemplated by this Agreement, or would indicate a breach of this Agreement by any Party.

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Recommendations on Host Track/Horsemen Knowledge of SPMOs

Prepared by Thoroughbred Racing Protective Bureau

Before a contract for pari-mutuel access is completed or renewed with an SPMO, a host track and its horsemen should know the following:

• The identity and background of all owners, officers, directors, stockholders and operating officials of the SPMO;

• The name of the regulatory agency charged with licensing and/or oversight of the SPMO

to include auditing standards and requirements;

• Identification of the pool of bettors to be served or developed by the SPMO, (e.g., walk-up in local market, account wagering across the U.S. or internationally);

• Incentives offered to SPMO bettors (e.g., rebates, special services);

• All state and provincial jurisdictions from which SPMO account wagers will be accepted

(including immediate market area and state or province of the host track);

• Identification of all telephone numbers as well as Internet, e-mail and Uniform Resource Locator (URL) addresses that will be used by the SPMO for accepting wagers;

• Identification and description of all pari-mutuel equipment and betting devices installed

and in use at the SPMO (including a schematic overview of how all totalisator equipment at the SPMO is connected within the SPMO and to the wagering hub);

• Technical specifications of all betting devices not considered industry-standard terminals

or phone-wagering consoles;

• Identity of serial-data links (SDL), ITSP (data) or other totalisator data connections that supply near real-time odds, probables and pool runner amounts for any “computer” bettor wagering through the SPMO;

• The daily amount handled, the number of total wagers and the amount of cashed wagers

for each personal computer configured to serve as an individual betting device or device port through the SMPO;

• Identity of each individual user of any PC (and the physical location of the user in

relation to the physical local of the PC) that serves as a source of wagers delivered to the totalisator system; and

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• Identity of any IP address and the corresponding home page URL that is an address on a server located at, or administered from, any of the SPMO physical addresses. If any URL has a Secure Socket Layer (SSL) indicating an e-commerce engine, the SPMO must identify applicable URL(s), any IP addresses registered in which the host server is co-located at a different physical address and where the co- location facility is, as well as the physical address from which the SPMO’s personnel or vendor administers any of the URLs in the registered IP domain.

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APPENDIX C

PROPOSAL TO AMEND THE PROFESSIONAL AND AMATEUR SPORTS PROTECTION ACT, 28 U.S.C. §§ 3701 – 3704,

WITH NEW SUBSECTION 3705

Title 28, United States Code (USC) § 3701. Definitions For purposes of this chapter

(1) the term “amateur sports organization” means

(A) a person or governmental entity that sponsors, organizes, schedules, or conducts a competitive game in which one or more amateur athletes participate, or

(B) a league or association of persons or governmental entities described in subparagraph (A),

(2) the term “governmental entity” means a State, a political subdivision of a State, or an entity or organization, including an entity or organization described in section 4(5) of the Indian Gaming Regulatory Act (25 USC § 2703(5)), that has governmental authority within the territorial boundaries of the United States, including on lands described in section 4(4) of such Act (25 USC § 2703(4)), (3) the term “professional sports organization” means

(A) a person or governmental entity that sponsors, organizes, schedules, or conducts a competitive game in which one or more professional athletes participate, or

(B) a league or association of persons or governmental entities described in subparagraph (A),

(4) the term “person” has the meaning given such term in section 1 of title 1, and (5) the term “State” means any of the several States, the District of Columbia, the Commonwealth of Puerto Rico, the Commonwealth of the Northern Mariana Islands, Palau, or any territory or possession of the United States. § 3702. Unlawful sports gambling It shall be unlawful for

(1) a governmental entity to sponsor, operate, advertise, promote, license, or authorize by law or compact, or

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(2) a person to sponsor, operate, advertise, or promote, pursuant to the law or compact of a governmental entity,

a lottery, sweepstakes, or other betting, gambling, or wagering scheme based, directly or indirectly (through the use of geographical references or otherwise), on one or more competitive games in which amateur or professional athletes participate, or are intended to participate, or on one or more performances of such athletes in such games. § 3703. Injunctions A civil action to enjoin a violation of section 3702 may be commenced in an appropriate district court of the United States by the Attorney General of the United States, or by a professional sports organization or amateur sports organization whose competitive game is alleged to be the basis of such violation. § 3704. Applicability (a) Section 3702 shall not apply to

(1) a lottery, sweepstakes, or other betting, gambling, or wagering scheme in operation in a State or other governmental entity, to the extent that the scheme was conducted by that State or other governmental entity at any time during the period beginning January 1, 1976, and ending August 31, 1990;

(2) a lottery, sweepstakes, or other betting, gambling, or wagering scheme in operation in a State or other governmental entity where both

(A) such scheme was authorized by a statute as in effect on October 2, 1991; and

(B) a scheme described in section 3702 (other than one based on pari-mutuel animal racing or jai-alai games) actually was conducted in that State or other governmental entity at any time during the period beginning September 1, 1989, and ending October 2, 1991, pursuant to the law of that State or other governmental entity;

(3) a betting, gambling, or wagering scheme, other than a lottery described in paragraph (1), conducted exclusively in casinos located in a municipality, but only to the extent that

(A) such scheme or a similar scheme was authorized, not later than one year after the effective date of this chapter, to be operated in that municipality; and

(B) any commercial casino gaming scheme was in operation in such municipality throughout the 10-year period ending on such effective date pursuant to a comprehensive system of State regulation authorized by that State’s constitution and applicable solely to such municipality; or

(4) pari-mutuel animal racing or jai-alai games.

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(b) Except as provided in subsection (a), section 3702 shall apply on lands described in section 4(4) of the Indian Gaming Regulatory Act (25 USC § 2703(4)). Insert as new Subsection 3705:

3705. Provisions applicable to horseracing

(1) Additional Definitions. For purposes of this section

(A) the term “host racing association” means a person or entity who organizes, sponsors or conducts a horserace subject to wagering pursuant to a license or other permission granted by the State in which the horserace is conducted,

(B) the term “off-track betting system” means a person or entity which is in the business of conducting wagering on horseracing from or at locations, including racetracks, other than the place at which the horserace subject to the wager is run, which business is licensed or otherwise permitted by the State in which it is located, and

(C) the term “authorized wagering organization” means, with respect to horseracing conducted by a host racing association, (i) that host racing association, (ii) off-track betting systems located in the same State in which the horserace subject to the wager is run, and (iii) off-track betting systems located outside of the State in which the horserace subject to the wager is run that, in compliance with sections 3001 through 3007 of title 15, chapter 57 of the United States Code, conduct wagering on races conducted by that host racing association.

(2) Prohibition. It shall be unlawful for any person other than an authorized wagering organization to operate, conduct or make a market for any betting, gambling or wagering scheme based directly or indirectly on horseracing.

(3) Civil actions. Any person injured in his or her property or business by reason of the conduct prohibited in subsection (2) may bring a civil action against the perpetrator of such conduct in any appropriate district court of the United States, and may recover

(a) such temporary, preliminary and permanent injunctive relief and other equitable or declaratory relief as may be appropriate,

(b) actual damages or, to the extent such actual damages do not exceed $5,000, statutory damages in the amount of $5,000, and

(c) reasonable attorney’s fees and other litigation costs reasonably incurred.

67

APPENDIX D

[DATE] [Contact Name at Entity] [Entity Name] [Entity Mailing Address] Dear Sir/Madam: We represent [Racetrack]. We write regarding the [Race]. We understand that [Entity] has handled significant wagering on prior [Racetrack] events and intends to maintain a market for wagering on the upcoming [Race]. On behalf of [Racetrack], we hereby demand that [Entity] cease and desist from any and all activity that encourages, facilitates, operates or makes a market for wagering on the [Race]. We further demand that [Entity] cease and desist from any and all uses of any kind of the [Race] name and trademarks, including without limitation, the marks “[specific Race marks]” as well as the name of the [Race]. Additionally, we demand that [Entity] cease and desist from any and all uses of any names, descriptions, references, data or information regarding (i) [Racetrack], (ii) the names of or information regarding participating horses, riders, trainers, or owners, (iii) the wagering odds as established by entities properly licensed to determine such odds in the United States, or (iv) the final results or payouts of the [Race]. All of the foregoing items are hereinafter referred to as “[Racetrack] Properties.” [Racetrack] is the sole owner of all the [Racetrack] Properties and as such is the sole entity entitled to exploit the [Racetrack] Properties for commercial benefit. The use by [Entity] of all or any portion of the [Racetrack] Properties for commercial purposes violates, infringes and/or misappropriates [Racetrack]’s rights in the [Racetrack] Properties in contravention of numerous laws of the United States and the individual States of the United States. [Racetrack] intends vigorously to enforce its rights and will consider the pursuit of all appropriate remedies under the applicable legal regimes. The [Racetrack] is the subject of valid trademark registrations in the United States [and any applicable foreign countries]. A partial listing of [Racetrack]’s trademark registrations is attached to this letter. As you know, [Racetrack] is a licensed pari-mutuel operator in the United States and has been using these marks for over ___ years in connection with horseracing activities and related goods and services. [Racetrack] has acquired valuable consumer good will and trademark rights in its marks, and has invested substantial sums of money protecting those marks in the United States and in numerous countries throughout the world. The use by [Entity] of these marks without express authorization from [Racetrack] may subject [Entity] to a range of

68

penalties including, without limitation, injunctive relief, disgorgement of profits, treble damages, attorney fees and costs. We also believe that it can be demonstrated that activities conducted by [Entity] have sufficient contacts with or involve citizens and/or property of or within numerous States of the United States, such as [representative states] to subject [Entity] to jurisdiction in any of these venues. Please be advised that each of these States has substantial statutory and common law protections for rights holders whose proprietary rights are being exploited for commercial gain by entities that have no authorization to do so or who fail to compensate properly the rights holders for such commercial exploitation. A non-exhaustive listing of state law claims [Racetrack] may pursue against [Entity] includes common law misappropriation, unfair competition, deceptive acts and practices, dilution, tarnishment, and electronic trespass. The potential exposure under these state law claims ranges from disgorgement of profits, treble damages, attorneys fees and expenses, to in some cases, punitive damages. From a United States federal law perspective, the activities conducted by [Entity] expose [Entity] to claims of violations of the Lanham Act (infringement, false association, dilution and other claims), the Copyright Act, the Digital Millennium Copyright Act, and the Computer Fraud and Abuse Act, among others. As with the other laws discussed above, successful prosecution of claims under these United States federal laws can result in the imposition of significant liability/judgments ultimately enforceable against assets resident in the [foreign country in which Entity is based]. [Racetrack] intends zealously to protect the [Racetrack] Properties that are being improperly exploited by [Entity] without the authorization of [Racetrack]. We reiterate our demand that you immediately cease and desist, and henceforth refrain from using, the [Racetrack] Properties in any other manner or method in the absence of express authorization from [Racetrack]. We are amenable, however, to a discussion with [Entity] to discuss licensing options for the [Racetrack] Properties. Please contact the undersigned at your earliest possible convenience to discuss the matters raised in this letter. Very truly yours,

[RACETRACK] TRADEMARKS

69

APPENDIX E

Effect of Cash Receiver Organizations on the Revenue Base and Purse Pool Contribution of Racing Association “HostTrack1”

Prepared by Thoroughbred Racing Protective Bureau (TRPB)

The following tables, based on the TRPB’s analysis of nearly two million transaction records, provide a hypothetical model for removing CROs from the “HostTrack1” network, a large pari-mutuel association in North America. HostTrack1 has a representative range of the pari-mutuel guests that exist today. Figure 1 represents actual statistical data from HostTrack1. Figure 2 represents a hypothetical change to the Host’s and Rest of Network’s wagering, commissions, payouts and takeouts, absent Cash Receivers and assuming a “churn” rate of 7x. The data for HostTrack1 is taken from 2003 and includes a broad time range and live meeting dates. HostTrack1 has three constituent groupings of pari-mutuel locations participating on HostTrack1 live races: 1) Host Group; 2) Cash Receivers group; and 3) Rest of Network. The Host Group includes the live on-course wagering and any in-state OTB HostTrack1 live wagering if this/these OTBS are owned and operated by HostTrack1; and any in-state Account Wagering on HostTrack1 live racing if applicable.

Figure 1 – Wagering Network with CROs Present Host Group Rest of

Network Cash Receivers Totals

Wagering $199,947,824 $494,750,240 $71,416,216 $766,114,280 Commission $39,654,632 $99,467,828 $14,401,371 $153,523,831 Net Pool $160,293,192 $395,282,412 $57,014,845 $612,590,449 Payout $155,447,131 $389,385,134 $67,758,184 $612,590,449 Money Room Settlement

$4,846,061 $5,897,278 ($10,743,339) 0

Nominal Takeout

19.83% 20.10% 20.17%

Actual Takeout 22.26% 21.30% 5.12% Commentary The Host Group’s customers (on the HostTrack1 races) actually contributed $4,846,061 more to the payout pool (“Net Pool”) than they collected in winnings (“Payout”). This produced a surplus in the money room of this same amount. This surplus then goes to the locations that won more than their actual contributions to the payout pool. This surplus is called the Money Room Settlement.

70

The actual takeout for the Host Group on its own races for its own customers was 2.42% of handle more than the rate calculated for the entire HostTrack1 all-source network. The pari-mutuel “retail price” for the Host Group’s customers is therefore 12.25% higher than the nominal blended takeout would suggest (22.26%-19.83%)/19.83% = 12.25% The Rest of Network has a handle of $494,750,240 with commissions of $99,467,828 producing a Net Pool for payouts of $395,282,412. The Rest of Network has an actual payout on winning wagers of $389,385,134 incurring a surplus in their Money Room of $5,897,278. This actual takeout rate is 1.20% of handle higher than the nominal rate, translating to a retail price that is 5.97% higher. The Cash Receivers are owed a Money Room Settlement of $10,743,339 to cover their excess in winnings. The Cash Receivers’ actual takeout rate is one-quarter of the nominal blended rate. This means that their retail price of betting is a fraction of the network’s.

Figure 2 – Wagering Network After the Removal of CROs Host Group Rest of

Network Cash Receivers Totals

Wagering $199,947,824 $494,750,240 0 $694,698,064 Commission $39,654,632 $99,467,828 0 $139,122,460 Net Pool $160,293,192 $395,282,412 0 $555,575,604 Payout $158,512,334 $397,063,270 0 $555,575,604 Money Room Settlement

$1,780,858 ($1,780,858) 0 0

Nominal Takeout

19.83% 20.10% - -

Actual Takeout 20.72% 19.74% - - Commentary The theoretical removal of the Cash Receivers means elimination of their host fees at an assumed premium rate of 4.5% (equal to $3,213,730). Under this scenario, the former Money Room Settlement surplus of $10,743,339 would be distributed in proportional winnings to the Host Group customers and the Rest of Network customers. These additional winnings of $10,743,339 would effectively lower the Host Track customers’ takeout by 1.53% of handle, to 19.83%. Though this money churning back through payouts, this would generate an estimated $21,456,418 in Host Group handle for a commission of $4,255,342. The additional winnings would also lower the effective takeout for the Rest of Network’s customers by 1.55% of handle, to 19.74%. This would produce an estimated $53,746,955 in handle, thus resulting in additional Host Fees of $1,679,592. This would also result in retained commissions for the Rest of Network of $9,126,048

71

The net result for HostTrack1 is the loss of Cash Receivers host fees and the gain of on-course Commissions and increased Rest-of-Network host fees. The bottom line is an increase in HostTrack1’s revenue of $2,721,204 The overall change in HostTrack1’s all-sources handle is negligible, calculated here at a slight increase of 0.49%. The significant impact is on HostTrack1’s annual live pari-mutuel revenues for the operator and purse pool: an increase of 4.67% The elimination of the Cash Receivers from the HostTrack1 network is proportionate to results in a Handle “Even’’ - Revenues “Up” relationship.

The relationship between handle and takeout has been academically studied. The chart [blue line] shows the most established and supported relationship between handle and takeout, i.e., that a 10% decline in actual takeout (e.g., from 20% to 18%) produces an increase of 18% in gross wagering, all other factors holding constant. This analysis uses a more conservative estimate, i.e., a 1% decrease in takeout produces a 7% increase in handle [illustrated by the pink line]. Improved player tracking and account wager records make it easier to associations to determine their precise churn multiple as well as the effect of Negative Settlements on their customers at a micro-analysis level.

The relationship between increased handle due to decreased takeoThe relationship between increased handle due to decreased takeouts uts ––expressed as a range of values. The {1% decrease in takeout = 7 expressed as a range of values. The {1% decrease in takeout = 7 % increase in % increase in

handle} relationship is the most conservative and hence the prefhandle} relationship is the most conservative and hence the preferable erable measurement.measurement.

010000002000000

300000040000005000000

60000007000000

80000009000000

10000000

20 19.8 19.6 19.4 19.2 19 18.8 18.6 18.4 18.2 18 17.8 17.6 17.4 17.2

Actual Takeout

Incr

emen

tal H

andl

e

10% of Price method 1% of Handle method

72

GLOSSARY Breakage: The difference between the actual price calculated for a winning wager and the amount actually paid out once the $2 payoff is rounded off. Most states have $0.05 on the dollar breakage; therefore an actual winning $2 price of $6.76 will pay $6.70. The term breakage is also used to denote the total amount of money by race, day or year that is collected by the rounding off of calculated winning actual prices. Cash Receiver Organizations: Organizations that receive money from the Host Track to pay winning wagers even after consideration of the Host Track’s simulcast fee. Common Pool Wagering: The procedure typically used in simulcasting whereby the guest track or betting network merges its mutuel pool totals with the host track on whose races it is wagering, for purposes of determining the winning pari-mutuel prices. In this case the tote systems are linked between the host and guest. Also known as Commingling or Merged Pool Wagering. Daily Double: Selection of the first-place finisher in each of two specified contests. Effective Blended Takeout: The amount of statutory deduction for an event, derived as a percentage, from all pools with various takeout rates. In pari-mutuel wagering, by construction, the weighted average effective payoff rate overall equals the nominal payoff rate. Exacta: Selection of the first two finishers, in their exact order, of a single contest. Exotic Wagers : Wagers that contain three or more betting interests. The takeout rate for exotic wagers is typically higher than for “straight” wagers such as Win, Place or Show. Guest Track: The track facility or betting network that receives the live audio/visual signal from a host track conducting live racing. The guest facility’s patrons may wager on these races through several means: common pool (e.g., gross or net price), separate pool or net pool. A single facility can be both a host and guest track at the same time. Handle: The aggregate amount wagered on a particular race, race program or over a period of time. Host Track: The racetrack at which live racing is being conducted. The host can send out its live racing signal to any duly authorized guest track. A single facility can be both a host and guest track at the same time. Hub: A central processing site for a totalisator company at which the main computer system is installed with one or more remote locations/facilities linked to it by telecommunications equipment. Interstate Wagering: Wagering where the host and guest site(s) are in different states.

73

Intertrack Wagering: Wagering on one track’s (“the host”) live races at another track (“the guest”). Intrastate Wagering: Wagering where the host and guest are in the same state. Minus Pool: This is the result of “negative breaks” when the actual price calculated for a winning wager is below the minimum payout price set by statute. For example, an actual calculated $2 price of $2.03 must pay $2.10 in a state with nickel breakage. The additional money is added by the track, usually out of the positive breakage pool. The summated difference of 7 cents per all $2 prices would result in the Minus Pool. Negative Settlement: Occurs when a site’s winning tickets exceed the average of all other sites, therefore resulting in a net cash flow to the winning site. Nominal Blended Takeout: The blend of takeout rates established by racetracks pursuant to state law and/or regulatory policy. Off-track Wagering: Wagering conducted on live races of a host track at a facility other than a racetrack. Pari-Mutuel Wagering: Type of wagering systems used by racetracks whereby bets placed by participants are formed into a pool in which the participants are wagering with each other, not the racetrack. Money wagered, except for the takeout and breakage, is divided among those who choose the winning betting interests. Thus, under this system, the losers pay the winners. Payoff (Price): The amount paid to the wagers on the winning betting interest(s). They are typically based upon a $2 wager. Payoff Rate (or “win rate”): Total dollars paid out to winners at a wagering venue divided by the total handle wagered by that wagering venue. For example, if an off-track wagering location accepts $1,000,000 in wagers and its bettors win $800,000, then the payoff rate is $800,000/$1,000,000 = 80%. Pick Six (alt., Pick 4, 3, etc.): Wager in which the bettor selects the first-place finisher in each of a designated number of races, e.g., Pick Six, Pick Four, etc.. Place: Wager in which the bettor selects a runner to finish either first or second in a race. Pool: The total dollars on one specific wager. Primary Racing Associations: Organizations that conduct live racing and may also serve as simulcast wagering facilities.

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Satellite Association/Facility: Racing association(s) legally included under the wagering umbrella of another racing association (hub). Secondary Pari-Mutuel Organization (SPMO): An organization that does not conduct or facilitate live racing and whose primary business is wagering on simulcast races. Show: Wager in which the bettor selects a runner to finish first, second or third in a race. Signal Fee: The percentage of gross handle that is owed the host track by the guest facility for the right to wager on the host’s races. Simulcast: The simultaneous telecast of a live race or races for pari-mutuel wagering purposes at a remote location. Stop Betting Signal: Given immediately to all betting locations after the host track has closed all wagering into its pools for a given race or for pool(s) starting in that particular race (e.g., a Pick 4). The host track’s totalisator sends out the stop-betting signal. Takeout: The percentage held out by a racetrack from every dollar wagered that is used to pay other racetracks, state taxes, purse monies, breeders’ fund payments, etc. Takeout rates vary depending on the wager type and racing jurisdiction. Also known as a Commission. Totalisator (Tote/Tote System): The totalisator system consists of a network of computers and wagering terminals linked by modems and a frame-relay system, which electronically combines wagers into pools. Based on pool totals, the totes record and display changes in betting patterns and recalculate pari-mutuel odds and projected payoffs in timed intervals. Odds are established based on the proportion of money wagered into the pool on each horse. Odds change throughout the course of the wagering cycle and become final when the wagering pool is closed at the start of a race. When the results of a race are official, the tote calculates payoffs on all winning wagers and bettors can collect their winnings. Trifecta: Selection of the first three finishers, in their exact order, for a single contest. Win: Wager in which the bettor selects a runner to finish first in a race.

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SELECTED BIBLIOGRAPHY

Allen, Nick. “Champion Jockey Fallon Held in Race-Fixing Probe.” The Scotsman, Sept. 1, 2004. Bergstein, Stan. “Signs of a Sport in Distress.” Daily Racing Form, March 10, 2004. Cameron, Colin. “British Betting Exchanges Establish Trade Association.” Thoroughbred Times.com, Sept. 9, 2004. Crist, Steven. “A New Way to Bet – Or Cheat.” Daily Racing Form, March 10, 2004. Cummings Associates. “Analysis of the Data and Fundamental Economics Behind Recent Trends in the Thoroughbred Racing Industry.” Arlington, Mass.: Cummings Associates, 2004. Available online at http://www.nationalhbpa.com/resources/Cummings_report7-17-04.PDF. Drape, Joe. “Horse Racing’s Biggest Bettors Get Rich Rewards.” The New York Times, April 26, 2004. Dunbar, Frederick C. and Okongwu, Chudozie. “[Market] Timing Is [Not] Everything.” Wall Street Lawyer, v.7, no.5, 2003. Falcone, Marc; Hausler, Eric; and Ader, Jason N. The Global Account Wagering Industry: What Treasures Does It Hold? New York: Bear Stearns, 2002. General Accounting Office. Internet Gambling: An Overview of the Issues. Washington, D.C.: General Accounting Office, 2002. Hegarty, Matt. “Task Force: Limit Simulcast Outlets.” Daily Racing Form, August 15, 2004. National Economic Research Associates. Time to Deregulate: The Case for Thoroughbred Racing. White Plains, N.Y.: NERA, 2000. Guth, Louis A. and Shagan, Michael D. “Revisiting Regulation: Why the Reins Should Be Loosened on Thoroughbred Horse Racing.” The Milken Institute Review, Third Quarter 2001. The Jockey Club. Fifty-First Annual Round Table Conference on Matters Pertaining to Racing, (New York: The Jockey Club, 2003. The Jockey Club. 2004 Fact Book: A Guide to the Thoroughbred Industry in North America. New York: The Jockey Club, 2004. Kaplan, Darryl. “Facing an Invisible Enemy.” Trot Magazine, January 2004. Kaplan, Michael. “The High Tech Trifecta.” Wired, v.10, no.3, March 2002.

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Kelly Jr., J.L. “A New Interpretation of Information Rate.” The Bell System Technical Journal, July 1956. LaMarra, Tom. “High-Volume Shops Make Case as Wagering Study Continues.” Bloodhorse.com, May 27, 2004. Linnell, J. Curtis. “Observations on Totalizator Security and Recommendations for Standards.” Nov. 19, 2002. NTRA Players’ Panel. Position Paper/Policy Recommendations. Lexington, Ky.: NTRA, 2004. NTRA Wagering Technology Working Group and Giuliani Partners LLC. Improving Security in the United States Pari-Mutuel Wagering System: Status Report and Recommendations. Lexington, Ky.: NTRA, 2003. National Horsemen’s Benevolent and Protective Association, Inc. “Simulcasting White Paper.” Lexington, Ky.: NHBPA, 2003. Thoroughbred Racing Associations. Simulcast Procedures Manual. Elkton, Md.: Thoroughbred Racing Associations, 2003. ___. Racing Industry Uniform Simulcast Wagering Agreement. Elkton, Md.: Thoroughbred Racing Associations, 2000. Usher, Delamere. “Australian Board Unhappy Over Decision to Allow Betting Exchanges,” Thoroughbred Times.com, July 13, 2004.

NERA

Exhibit 1Total Number of US Thoroughbred Races

1980 - 2003

50,000

55,000

60,000

65,000

70,000

75,000

80,000

1980 1981 1982 1983 1984 1985 1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003

Sources: Data taken from the Jockey Club 2003 Fact Book.

NERA

Exhibit 2Total US Thoroughbred Handle

1980 - 2003

6,000

7,000

8,000

9,000

10,000

11,000

12,000

13,000

14,000

15,000

16,000

1980 1981 1982 1983 1984 1985 1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003

($00

0,00

0)

Sources: Data taken from the Jockey Club 2003 Fact Book.

NERA

Exhibit 3Total US Thoroughbred Handle Per Race

1980 - 2003

105,000

125,000

145,000

165,000

185,000

205,000

225,000

245,000

265,000

285,000

305,000

1980 1981 1982 1983 1984 1985 1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003

($00

0,00

0)

Sources: Calculated from data taken from the Jockey Club 2003 Fact Book.

From 1995 to 2003 total US Thoroughbred handle per race grew by 68.7%.

NERA

Exhibit 4 Total US Thoroughbred Purses

1980 - 2003

400

500

600

700

800

900

1,000

1,100

1,200

1980 1981 1982 1983 1984 1985 1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003

($00

0,00

0)

Gross PursesGross Purses Less Slot Contributions

Sources: Total Purses data taken from Jockey Club 2003 Fact Book. Data on contribution of slots to purses received from the Thoroughbred Racing Association ("TRA").

NERA

Exhibit 5Gross US Thoroughbred Purses Per Race

1980 - 2003

6,000

8,000

10,000

12,000

14,000

16,000

18,000

20,000

1980

1981

1982

1983

1984

1985

1986

1987

1988

1989

1990

1991

1992

1993

1994

1995

1996

1997

1998

1999

2000

2001

2002

2003

Dol

lars

Gross Purses Per Race

Purses (Less Slot Contributions) Per Race

Sources: Total Purses data taken from Jockey Club 2003 Fact Book. Data on contribution of slots to purses received from the Thoroughbred Racing Association ("TRA").

From 1995 to 2003 total US Thoroughbred Purses per race grew by 60%. Purses less slot contributions grew by 43%.

NERA

Exhibit 6US Purses as a Percent of US Thoroughbred Handle

1980 - 2003

6.0%

6.5%

7.0%

7.5%

8.0%

8.5%

1980 1981 1982 1983 1984 1985 1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003

Year

Perc

ent

Total Purses/Total HandleTotal Purses Less Slots/Total Handle

Sources: Total Purses data taken from Jockey Club 2003 Fact Book. Data on contribution of slots to purses received from the TRA.

Exhibit 7aDistribution of Horse Racing Handle1

in the United States1980 - 2002

Total Simulcast,Off-Track, Telephone

Year Live Racing and Inter-Track Total------------------------------------(dollars)------------------------------------

(a) (b) (c)(a)+(b)

1980 $ 11,218,028,761 $ N/A $ 11,218,028,7611981 11,676,652,881 N/A 11,676,652,8811982 11,887,898,027 N/A 11,887,898,0271983 11,732,573,700 379,036,464 12,111,610,1641984 12,028,011,675 415,439,593 12,443,451,2681985 12,222,343,267 405,451,545 12,627,794,8121986 12,420,676,291 690,366,502 13,111,042,7931987 13,122,240,180 697,204,615 13,819,444,7951988 9,469,704,033 4,142,098,864 13,611,802,8971989 9,024,133,263 4,830,250,482 13,854,383,7451990 8,722,750,930 5,605,706,471 14,328,457,4011991 7,983,686,124 5,922,751,266 13,906,437,3901992 7,071,360,141 7,006,340,899 14,077,701,0401993 6,055,658,676 6,661,726,687 12,717,385,3631994 5,481,883,751 8,661,345,327 14,143,229,0781995 4,486,323,033 10,105,630,173 14,591,953,2061996 3,800,000,000 1 11,102,300,000 14,902,300,0001997 3,600,000,000 1 11,620,400,000 15,220,400,0001998 3,500,000,000 1 12,060,600,000 15,560,600,0002001 2,586,812,749 13,425,028,114 16,011,840,8632002 2,484,682,278 13,574,557,298 16,059,239,576

N/A -- Not Applicable

Notes: Numbers for all forms of horse racing.1 Live Racing data for 1996, 1997 and 1998 is taken from a bar chart,

(1998 ARCI report) therefore these are approximate numbers.

Source: Association of Racing Commissioners International, Inc., "Pari-Mutuel Racing 1998, A Statistical Summary".Association of Racing Commissioners International, Inc., "Total Handle by Wager Type 1980-1995".Association of Racing Commissioners International, Inc., "Pari-Mutuel Racing 2002, A Statistical Summary".

NERA

Exhibit 7bExamples of States in Which

Live Racing Handle Did Not Decline1998 vs. 2002

Percent1998 2002 Change

Delaware $ 25,012,926 $ 29,902,024 19.55 %W. Virginia 45,038,885 48,064,660 6.72

Source: Association of Racing Commissioners International, Inc., 1998 and

2002 Reports.

Examples of States in Which Live Racing Handle Did Decline

1998 vs. 2002

Percent1998 2002 Change

New York $ 413,723,486 $ 381,179,389 (7.87) %Kentucky 188,556,172 1 166,153,096 (11.88) Florida 228,969,360 195,062,616 (14.81) California 540,541,406 446,762,525 (17.35) Texas 100,355,382 81,321,619 (18.97) Maryland 81,589,218 62,439,755 (23.47) Ohio 61,038,086 45,400,101 (25.62) New Jersey 124,177,734 87,980,115 (29.15) Pennsylvania 104,319,738 43,865,074 (57.95)

1 Excludes Breeders' Cup handle of $13,544,859.

Source: Association of Racing Commissioners International, Inc., 1998 and

2002 Reports.

Breeders' Cup figure taken from:

http://www.ntra.com/bc2003/images/money_wagering_odds.pdf

NERA

Exhibit 8aComparison of Total Consolidated Handle

and Track Revenue and Purses Percent Change from 2002 to 2003

Comparison Across 15 Thoroughbred Tracks

Track Revenue(Including Purses

Handle Net of Parimutuel Taxes)

On-Track - Live Racing (5.61) % (5.62) %

Export - Interstate 6.80 % 12.42 %

Export - Intrastate (3.67) % (4.15) %

On-track Imported Signals (3.28) % (4.43) %

Total Consolidated Handle 1.58 % (0.60) %

NERA

Exhibit 8bComparison of On-track Live Handle

and Track Revenue and Purses Percent Change from 2002 to 2003

Comparison Across 15 Thoroughbred Tracks

Track Revenue(Including Purses

Handle Net of Parimutuel Taxes)

Track A (8.93) % (8.58) %Track B (6.35) (6.25) Track C 4.15 4.20 Track D (7.61) (7.67) Track E Redacted RedactedTrack F (7.32) (6.02) Track G (10.30) (12.13) Track H (4.14) (3.98) Track I (3.70) (5.63) Track J (30.76) (27.54) Track K (56.96) (56.94) Track L (1.05) (1.36) Track M (14.68) (14.75)

Total (5.61) % (5.62) %

NERA

Exhibit 8cComparison of Interstate Export Handle

and Track Revenue and Purses Percent Change from 2002 to 2003

Comparison Across 15 Thoroughbred Tracks

Track Revenue(Including Purses

Handle Net of Parimutuel Taxes)

Track A 0.40 % 4.94 %Track B 4.98 11.71 Track C 16.18 17.67 Track D (5.26) (0.42) Track E Redacted RedactedTrack F 19.76 20.31 Track G 0.82 0.83 Track H (0.58) 4.59 Track I 0.14 5.06 Track J 8.35 9.69 Track K (44.76) (46.66) Track L 11.11 13.98 Track M 1.60 4.94

Total 6.80 % 12.42 %

NERA

Exhibit 8dComparison of Intrastate Export Handle

and Track Revenue and Purses Percent Change from 2002 to 2003

Comparison Across 15 Thoroughbred Tracks

Track Revenue(Including Purses

Handle Net of Parimutuel Taxes)

Track A (4.29) % (5.64) %Track B (4.11) (6.05) Track C 2.11 (0.08) Track D (4.77) (6.10) Track E Redacted RedactedTrack F 15.36 17.19 Track G (9.43) (13.38) Track H (3.79) (4.73) Track I (17.63) (10.11) Track J - - Track K (57.64) (19.92) Track L - - Track M - -

Total (3.67) % (4.15) %

Note: Intrastate Export handle for tracks J, L, and M is included in interstate figures summarized in Exhibit 8c.

NERA

Exhibit 8eComparison of Import Handle and Track Revenue and Purses

Percent Change from 2002 to 2003

Comparison Across 15 Thoroughbred Tracks

Track Revenue(Including Purses

Handle Net of Parimutuel Taxes)

Track A (1.79) % (6.20) %Track B (5.28) (6.65) Track C 4.43 (1.96) Track D (2.44) (3.46) Track E (1.25) (1.13) Track F (12.16) (8.62) Track G (3.87) (6.87) Track H - - Track I 7.10 11.64 Track J (9.06) (9.64) Track K (17.34) (18.95) Track L (3.35) (5.25) Track M (4.10) (4.11)

Total (3.28) % (4.43) %

NERA

NERA

Exhibit 9a Share of Total Consolidated Handle by Distribution Channel

Five Thoroughbred Tracks1990 - 2003

0.0%

10.0%

20.0%

30.0%

40.0%

50.0%

60.0%

70.0%

1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003

On-Track Live

Interstate Export

Intrastate Export

Import

Source: Data Provided by CHRIMS, Inc.

NERA

Exhibit 9bShare of Total Track Revenue (Including Purses Contributions)

by Type of Distribution Channel5 Thoroughbred Tracks

1990 - 2003

0.0%

10.0%

20.0%

30.0%

40.0%

50.0%

60.0%

70.0%

80.0%

1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003

On-Track Live

Interstate Export

Intrastate Export

Import

Source: Data Provided by CHRIMS, Inc.

NERA

Exhibit 9cTrack Revenue and Purse Contributions as a Percent of Handle

5 Thoroughbred Tracks1990 - 2003

3.9%4.0%4.1%4.2%4.3%3.7%3.9%3.9%4.1%4.3%4.6%4.8%5.0%5.2%

3.9%3.9%3.6%

3.8%3.7%3.9%

4.1%4.3%

4.5%4.6%

4.8%

4.0%4.1%4.2%

0.0%

2.0%

4.0%

6.0%

8.0%

10.0%

12.0%

1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003

Track Revenue Purse Contribution

Source: Data Provided by CHRIMS, Inc.

Exhibit 10Analysis of Composition of Interstate Export Handle

Sample of Representative Thoroughbred Tracks2001 - 2003

Category A: Locations Affiliated with Thoroughbred Racing Industry

2001 2002 2003

Track Locations $ 562,539 $ 592,696 $ 594,135 NY OTBs 131,468 133,422 140,182 Off-track Locations 107,808 125,749 130,605 Conn OTBs 14,735 13,488 14,993 Track Acct. Wagering 1,419 695 856

Subtotal $ 817,970 $ 866,049 $ 880,772 Percent of Total 81.80 % 76.42 % 72.43 %

Category B: Domestic Account Wagering Companies

2001 2002 2003

Domestic Account Wagering Companies 13,848 58,560 86,701 1.38 % 5.17 % 7.13 %

Category C: Unaffiliated Retail Locations

2001 2002 2003

Offshore $ 70,032 $ 94,861 $ 113,372 Onshore 25,252 33,251 49,157 Nevada & Casinos 63,118 67,503 70,797 Other 9,781 13,010 15,246

Subtotal $ 168,182 $ 208,624 $ 248,572 Percent of Total 16.82 % 18.41 % 20.44 %

Total Interstate Export $ 1,000,000 $ 1,133,234 $ 1,216,045

Note: Figures are masked to $1,000,000 in interstate export handle in 2001.

NERA

Exhibit 11Comparison of Blended Takeout Rates

Select States1998 vs. 2002

1998 2002 Difference---(Percent of Handle)---

(b)-(a)(a) (b) (c)

California 19.46 % 19.38 % (0.07)Delaware 20.81 20.84 0.03Florida 21.20 20.85 (0.35)Illinois 22.33 22.25 (0.08)Kentucky 19.60 19.60 (0.00)Maryland 20.37 21.42 1.05New Jersey 20.40 20.65 0.25New York 22.17 22.35 1 0.18Ohio 21.17 21.44 0.28Pennsylvania 22.00 24.44 2.44Texas 22.40 21.09 (1.30)W. Virginia 20.65 22.63 1.99

Notes: Blended takeout calculations for most states include both Thoroughbred racing and 'mixed' racing. Quarterhorse and harness racing are excluded from these calculations.1 NYRA reduced its takeout in 2003. The

calculated blended takeout rate for New York predates this reduction.

Sources: Association of Racing Commissioners International, Statistical Summaries of Pari-Mutuel Racing, 1998 and 2002.

NERA

Exhibit 12aChurchill Downs Incorporated

All OperationsAnalysis of Handle, Revenue, and Purses

2002 vs. 2003

Dollar Percentage2002 2003 Change Change

----------------------------------------($ in 000's)----------------------------------------(b)-(a) (c)/(a)

(a) (b) (c) (d)

Live RacingLive Racing Handle $ 649,130 $ 603,661 $ (45,469) (7.00) %Live Racing Revenue 77,442 72,041 (5,401) (6.97) %

Revenue/Handle 11.9 % 11.9 %

Interstate Export Simulcasting (CDSN)Export Simulcasting Handle $ 2,050,659 $ 2,189,640 $ 138,981 6.78 %Export Simulcasting Revenue 67,849 74,585 6,736 9.93 %

Revenue/Handle 3.3 % 3.4 %

All Other (Intrastate) Export SimulcastingExport Simulcasting Handle $ 842,586 $ 807,324 $ (35,262) (4.18) %Export Simulcasting Revenue 57,588 54,448 (3,140) (5.45) %

Revenue/Handle 6.8 % 6.7 %

Sum of CDSN and All Other ExportExport Simulcasting Handle $ 2,893,245 $ 2,996,964 $ 103,719 3.58 %Export Simulcasting Revenue 125,437 129,033 3,596 2.87 %

Revenue/Handle 4.3 % 4.3 %

Total Live Racing and Export SimulcastingLive and Export Handle $ 3,542,375 $ 3,600,625 $ 58,250 1.64 %Live and Export Revenue (LER) 202,879 201,074 (1,805) (0.89) %

Revenue/Handle 5.7 % 5.6 %

Gross Purses (GP) $ 158,716 $ 152,170 $ (6,546) (4.12) %

Adjusted Gross Purses in 2003 (Adj. GP) 158,716 157,070 1 (1,646) (1.04)

GP/LER 78.2 % 75.0 %Adj. GP/LER 78.2 % 77.4 %

Total Import SimulcastingImport Simulcasting Handle $ 862,026 $ 853,629 $ (8,397) (0.97) %Import Simulcasting Revenue 87,322 86,428 (894) (1.02) %

Revenue/Handle 10.1 % 10.1 %

Total Live, Export and ImportLive, Export and Import Handle $ 4,404,401 $ 4,454,254 $ 49,853 1.13 %Live, Export and Import Revenue (LEIR) 290,201 287,502 (2,699) (0.93) %

Revenue/Handle 6.6 % 6.5 %

GP/LEIR 54.7 % 52.4 %Adj. GP/LEIR 54.7 % 54.1 %

Other Revenues2 $ 46,634 $ 44,164 $ (2,470) (5.30) %

Total Wagering Revenue (LEIR + Other) $ 336,835 $ 331,666 $ (5,169) (1.53) %

Non-Wagering Revenue3 $ 106,232 $ 97,016 $ (9,216) (8.68) %

Total Revenue $ 443,067 $ 428,682 $ (14,385) (3.25) %

Race Days 578 570 (8) Average Daily Purses $ 275 $ 267 $ (8) (2.78) %

1 Purses at Hoosier Park decreased by $4.9 million due to a change in the Indiana riverboat admissions subsidy. See CDI 10-K for the year ended December 31, 2003.This $4.9 million is added back into total gross purses.

2 Other revenues includes source market fees from in-home wagering and otherstatutory racing revenues.

3 Non-wagering revenues are primarily generated from admissions, sponsorships, licensing rights and broadcast fees, Indiana riverboat admissions subsidy, concessions, lease income and other sources.

NERA

NERA

Exhibit 12bSources of Handle by Percent of Contribution

Churchill Downs Incorporated Select Years

35.6

19.316.2 15.4 14.7 13.6

24.2 23.421.6

19.2

62.459.6

61.263.7

18.3

27.0

67.3

37.4

0.0

10.0

20.0

30.0

40.0

50.0

60.0

70.0

80.0

1994 1998 2000 2001 2002 2003

Per

cent

age

of T

otal

Han

dle

Live Import Export

Exhibit 13New York OTB Payments to the Thoroughbred Racing Industry

2000 - 2003

2000 2001 2002 2003Handle from:

(a) In State Thoroughbred Tracks $ 820,025,452 $ 786,231,346 $ 788,749,789 $ 707,941,341 (b) Out of State Thoroughbred Tracks 762,465,464 823,145,729 837,574,831 963,980,331

(c) Total Thoroughbred Handle $ 1,582,490,916 $ 1,609,377,075 $ 1,626,324,620 1,671,921,672

Less Payments to:(d) Thoroughbred Breeders' Fund $ 9,418,852 $ 9,541,964 $ 9,692,406 9,947,469 (e) In State Thoroughbred Tracks 101,898,887 104,650,334 104,011,165 104,908,374 (f) Out of State Thoroughbred Tracks 17,377,771 18,786,224 19,194,409 21,522,738

(g) Total Thoroughbred Payments $ 128,695,510 $ 132,978,522 $ 132,897,980 $ 136,378,581

(h) [(g)/(c)] Total Payments to Industry Per $ of Handle 8.13 % 8.26 % 8.17 % 8.16 %

Source: Annual Report and Simulcast Report of the New York Racing and Wagering Board, 2000 - 2003.

NERA

Exhibit 14Aligning Costs with Cost Causing Factors

Cost Causation

Category Factor Comments

Live Racing a. Consolidated Contractual agreements link main

Handle cost component, purses, to all

elements of Consolidated Handle

Live Wagering a. On-Track Handle Costs of having and operating on-

track parimutuel wagering system

used by Guest patrons

b. Consolidated Contractual agreements link main

Handle cost component, purses, to all

elements of Consolidated Handle

[A considerable portion of these

costs may be caused by number

or wagers and number of patrons,

rather than by on-track handle]

Guest Services On-Track Handle This amount net of direct revenues

net of direct might also be considered

revenues: overheads to be recovered through

Programs pricing structure

Admissions

Parking [A considerable portion of these

Advertising costs may be caused by number

Other or wagers and number of patrons,

rather than by on-track handle]

Overheads Overall Operations This amount net of direct revenues

to be recovered through

pricing structure

NERA

Exhibit 15Analyzing Average Incremental Costs

of a Thoroughbred Racetrack

Live Racing per $ of Consolidated Handle $ 0.053

Wagering Systems per $ of On-track Handle $ 0.024

Guest Services (net of revenues) per $ of On-track Handle $ 0.028

Subtotal Guest Attendance and Wagering $ 0.105 1

G&A Overheads $ 0.110

Current Average Takeout $ 0.110

Notes: This cost figure does not recover overheads and return on capital. NERA analyzed the cost structure for 8 tracks. Live racing average incremental costs ranged from approximately $0.050 to $0.063 per $ of consolidated handle.

NERA

Exhibit 16aEvidence of Persistent High Payoff Rates in 2003

Payoff Rates by Location on Each Track's Live RacesThoroughbred Track Location A Location B Location C Location D Location E Location F

Track A 92.8% 93.9% 91.4% 88.4% 97.6% 84.3%Track B 99.0% 97.3% 103.9% 95.2% 153.8% 75.4%Track C 95.1% 104.1% 93.9% 87.0% 86.7% 106.5%Track D 94.9% 92.2% 96.7% 92.2% 96.9% 147.6%Track E 103.1% 103.4% 102.7% 105.7% 93.9% 91.3%Track F 87.4% 326.2% 98.3% 103.3% 79.0% 77.4%Track G 94.1% 89.0% 97.0% 99.5% 80.1% 91.4%Track H 94.7% 93.6% 98.0% na na naTrack I 117.7% na 110.1% 106.2% na naTrack J 94.4% 81.5% 103.4% 99.0% na na

Track K 95.0% 94.4% 96.7% 94.1% na 77.3%Track L 109.4% 87.6% 113.6% 85.5% 120.7% 101.3%

Track M 95.7% 68.5% 104.4% 94.6% 79.4% 96.4%Track N 91.9% 89.2% 98.4% 94.5% na 84.4%Track O 101.4% 84.1% 114.9% 102.8% 95.0% 20.3%

Total Handle Wagered 415,262,643 169,571,224 132,638,176 83,017,070 15,988,986 8,197,952 Total Payouts to Winners 399,395,232 160,740,833 132,033,601 77,893,659 15,761,154 7,438,791

Weighted Average Payoff Rate 96.2% 94.8% 99.5% 93.8% 98.6% 90.7%

Notes: na = not applicable, all of the locations listed above did not wager on all of the tracks in sample.These 6 locations account for roughly 7-8% of the total handle wagered on US Thoroughbred Races.Although 15 tracks are listed here, there are 19 total tracks in this sample. Some observations actually include multiple tracks.

NERA

Exhibit 16bEvidence of Persistent High Payoff Rates in 2002

Payoff Rates by Location on Each Track's Live RacesThoroughbred Track Location A Location B Location C Location D

10 26 34 18

Track A 99.8% 115.6% 114.7% naTrack B 102.1% 102.2% na naTrack C 98.5% 103.2% 105.8% naTrack D 91.5% 100.3% 95.3% naTrack E 103.2% 83.9% na 93.5%Track F 85.4% 101.6% na 114.3%Track G 93.7% 90.4% 114.0% 89.2%Track H NA NA NA NATrack I 98.4% 97.2% na 93.5%Track J 87.2% 99.0% na 93.9%

Track K NA NA NA NATrack L 89.5% 87.1% 108.7% 108.2%

Track M 94.8% 103.0% 111.4% 68.0%Track N 91.1% 100.0% 96.3% 86.4%Track O 100.5% 94.6% 117.0% 96.9%

Total Handle Wagered $ 177,214,824 $ 78,679,986 $ 25,531,902 $ 14,505,387 Total Payouts to Winners 166,718,412 77,024,297 27,062,332 14,121,367

Weighted Average Payoff Rate 94.1% 97.9% 106.0% 97.4%

Notes: NA = Not Available, data were not available for two tracks. na = not applicable, Locations C and D did not wager on all tracks in sample.These 4 locations accounted for roughly 2-3% of the total handle wagered on US Thoroughbred Races.

NERA

Exhibit 17aTakeout Rate Effects In Analysis of All Sites

Betting $25,000 or More Into Pools Over a Full Racing SeasonFor One Thoroughbred Track's 2003 Season

Number of Mean "Takeout" Host "Takeout" Sites with "Takeout"Type of Pool Sites and Rank and Rank >9% and Gap

Win/Place/Show 173 16.79% 18.71% 166(120th Entry) (86th Entry) (next 2.5 points lower)

Daily Double/Exacta 170 18.71% 22.10% 166(132nd Entry) (79th Entry) (next 1.8 points lower)

Exotics 174 24.52% 28.67% 166 (122nd Entry) (79th Entry) (next 7 points lower)

NERA

NERA

Exhibit 17bEffective Takeout Rates for Win/Place/Show Pools

All Locations Wagering More Than $25,000One Thoroughbred Track's 2003 Season

22

82

1 26

7

53

0

10

20

30

40

50

60

70

80

90

< 9% 9% - 15% 15% - 20% 20% - 25% 25% - 30% 30 - 35% 35% - 40%

Takeout Range

Num

ber

of L

ocat

ions

NERA

Exhibit 17cEffective Takeout Rates for Daily Double/Exacta Pools

All Locations Wagering More Than $25,000One Thoroughbred Track's 2003 Season

9

39

41 2 1

34

4

76

0

10

20

30

40

50

60

70

80

< 9% 9% - 15% 15% - 20% 20% - 25% 25% - 30% 30 - 35% 35% - 40% 40% - 45% 45% - 50%

Takeout Range

Num

ber

of L

ocat

ions

NERA

Exhibit 17dEffective Takeout Rates for All Other Pools (Exotics)

All Locations Wagering More Than $25,000One Thoroughbred Track's 2003 Season

3

39

15

6

1 1

28

8

55

18

0

10

20

30

40

50

60

< 9% 9% - 15% 15% - 20% 20% - 25% 25% - 30% 30 - 35% 35% - 40% 40% - 45% 45% - 50% 50% - 55%

Takeout Range

Num

ber

of L

ocat

ions

NERA

Exhibit 18aIllustration of a Professional Handicapper's Percentage Advantage

0.0

0.1

0.2

0.3

0.4

0.5

0.6

0 1 2 3 4 5 6 7 8Odds 'True Odds' True Odds Median/Mode Parimutuel Pool Odds Parimutuel Odds Median/Mode

Advantage

'True Odds' Estimated by Professional Handicappers Parimutuel Pool Odds

NERA

Exhibit 18bIllustration of a Professional Handicapper's Percentage Advantage When the Pari-

Mutuel Pool Odds are More Uncertain

0.0

0.1

0.2

0.3

0.4

0.5

0.6

0 1 2 3 4 5 6 7 8 9Odds

''True Odds' True Odds Median/Mode Parimutuel Pool Odds Parimutuel Median/Mode

Advantage

'True Odds' Estimated by Professional Handicappers

Parimutuel Pool Odds

Exhibit 19aChange in Woodbine's Handle and Commissions

Wagering on Woodbine's Live RacesBy Source of Wagering

2003 vs. 2004

Handle Commissions(a) (b)

(a) Woodbine Facilities (2.80) % (2.70) %

Export Locations Wagering on Woodbine's Races

(b) Location 1 (100.00) % (100.00) %(c) Location 2 (100.00) (100.00)(d) All Other Export Locations 6.81 7.51

(e) Total Export Locations (6.54) % 4.70 %

(f) All Locations (5.06) % 1.62 %

Notes: Locations 1 and 2 did not wager in Woodbine's pools in 2004.

Source: Analysis of comparable 43-day racing period for Woodbine's live races.

NERA

Exhibit 19bShare of Total Handle, By Type of Wager

By Wagering LocationWoodbine's Live Races in 2003

Export Locations Wagering on Woodbine's RacesAll Other All

Woodbine Off-track Export AllFacilities Location 1 Location 2 Locations Locations1 Locations

(a) (b) (c) (d) (e) (f)

Win 29.6 % 25.2 % 24.1 % 24.4 % 24.4 % 26.5 %Exacta 17.1 39.3 36.5 27.9 29.2 24.4Trifecta 23.9 28.6 20.7 25.4 25.5 24.8Place 11.8 1.0 10.4 9.5 8.8 10.0Show 6.2 0.5 7.1 5.6 5.2 5.6Superfecta 3.3 1.3 0.0 2.9 2.6 2.9Daily Double 1.9 3.1 0.8 1.4 1.5 1.7Pick 3 2.9 0.4 0.4 1.9 1.7 2.2Pick 4 3.4 0.5 0.1 1.1 1.0 2.0

Total 100 % 100 % 100 % 100 % 100 % 100 %

Notes: 1 All Export Locations includes locations 1 and 2 as well as all other off-track locations (cols. (c), (d), and (e)).

Source: Analysis of comparable 43-day racing period for Woodbine's live races.

NERA

Exhibit 20Change in Oaklawn's Handle and Effective Takeout Rates

Wagering on Oaklawn's Live RacesBy Source of Wagering

2003 vs. 2004

EffectiveHandle Takeout

(Percentage---(Percent)--- Points)

(a) (b)

(a) On-Track 3.62 % (0.60)

(b) 3 Locations Cut Off (100.00) NA

(c) All Other Off-track Locations 3.04 (1.64)

(d) Total Off-track Locations (11.09) % 0.29

(e) Total (7.96) % 0.158

Note: Total handle per starter decreased by less than 1%.Source: Data provided by Oaklawn for a 20-day period in

March 2003 and March 2004.

NERA