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Understanding the Real Story Behind Fantasy Sports

By on November 25, 2015 in Fans on Tap

Understanding the Real Story Behind Fantasy Sports While We Wait for New York

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by Bernie Nicholls, Special to Hockey Pub

NEW YORK — The points below are intended to convey the basic elements of how Daily Fantasy Sports (“DFS”) and its arguments in the New York case can be rebutted. Many of these arguments are already covered here. The discussion below serves as a reminder of some of these arguments and begins to cover some new areas. We will not be developing full legal arguments in this discussion but instead will provide a high-level roadmap.

We read:

Based on these materials, here is what a hypothetical Q&A could look like.

Mr Boies. said in the Fortune discussion “the player doesn’t stake or risk anything.” What are your thoughts?

Really? Would Mr Boies advise his son, who is apparently playing DFS, to pay an entry fee of $5,300 on DraftKings this weekend, and every weekend thereafter? He should, because his son would not be risking anything after all.

It is clear that this can’t be true in a literal sense. This guy, for example, is ruining his life with DFS and lied to his parents to get gambling money.

But maybe they are just entry fees and the player is not risking something of value (from the DK and FD Oppositions)

We get it, what matters in the court is whether the person is meeting the risk definition in the gambling statute; but we wanted to show how wordsmithing can lead to strange conclusions and defy common sense. But let’s expand on this in more detail.

DFS mostly relies on Fallon and Humphrey. Here is the problem. Fallon is a 19th century case that cannot set a meaningful precedent, if taken literally, and Humphrey was decided with Traditional Fantasy Sports (“TFS”) in mind.

But Fallon says that “each party to the bet gets a chance of gain from the others, and takes a risk of loss of his own to them.”

It does, but let’s agree on one thing. This is actually bad for DFS. In substance, one DFS participant’s gain is somebody else’s loss. The fact that you have DFS in the middle, that prizes are fixed etc., doesn’t change this simple fact. So even under Fallon, the definition of a bet/wager is met from a substance standpoint.

Fallon also says “a prize or premium is ordinarily something offered by a person for the doing of something by others in a contest in which he himself does not enter.”

Ahh – the overreliance of DFS on the organizer not “entering” or not being a party. FanDuel sings the same song in its opposition:

“FanDuel has no stake in the contests’ outcome”.

“FanDuel is not like the “house” in a casino; players do not “bet” against FanDuel, and FanDuel does not stand to win if a player loses…. FanDuel is therefore indifferent as to the outcome”

Has anybody heard of Betfair, the P2P betting exchange? They are not a party to any bet and have no stake. Unlike a traditional bookmaker who is neutral to an outcome only if the book is balanced, a betting exchange is always neutral. If such neutrality is enough to escape gambling, Betfair will be delighted, because they can enter the U.S. market after this, something they have wanted to do for a long time.

But those “bets” are contingent on the outcome of a game, and not performance of the athletes.

Yes – DFS tries to make a distinction here that doesn’t exist. Then spread betting would be gambling but prop bets wouldn’t. Is that a reasonable conclusion?

But FanDuel says prop bets are binary and simplistic.

Ah ok. So let us select one QB, two RBs, three WRs, one TE, one kicker and one team defense. We’ll bet on each of them to “accomplish a particular statistical milestone” as FanDuel defines it. If that is too simplistic for you, we’ll “parlay” that into one big bet.

Now, if all of our players perform well on the field of play, we’ll get paid for our parlay prop bet right? Now, if we pick the same players and put them into a fantasy team (and assume we selected them in such a way that we are within our budget), and if we win, that’s not gambling. Does that make sense to you?

But those horses are still confusing me! DFS says it doesn’t have any of these:

  1. Bettors pay a wager of their choosing that is staked against the outcome of a horse race,
  2. The amount of the prize or “pool” and the odds of winning fluctuate up to the start of the race depending on how many bettors participate and how much they wager,
  3. Bettors’ wagers are returned to them (along with any profits) if they win, and
  4. A bookmaker’s cut depends how many bettors participate and how much they wager.

Let’s address these one by one.

  1. DFS participants risk something against uncertain outcomes. Don’t let the word “outcome” bother you, we can always design a special horse race where winnings are based on not which horse wins, but which horse was leading after 100 feet, or which horse took the most steps.
  2. If “fixing” the prize is the issue, that’s an easy fix. One can always fix the prize in horse races. Here is the point that people are missing. It is true that DFS fixes the price before each contest. But it is still based on the number of people and how much they wager. For example, DFS constantly changes its grand prize after evaluating the overlays and participation levels from the previous weeks.
  3. Well, how is this not the case in DFS? If we spend $10, and win $40, what happens? We get our money back with a $30 profit.
  4. True – DFS’ cut does not depend on how many people wager in a single event. But over the long term, their cut is a function of nothing but how many people participate and how much they wager. That’s why DraftKings and Fanduel are unicorns, and everybody else is a drop in the bucket. They have more participants on their platforms so their revenue is higher.

What about Humphrey? It said “As a matter of law, the entry fees for Defendants’ fantasy sports leagues are not ‘bets’ or ‘wagers’ because (1) the entry fees are paid unconditionally; (2) the prizes offered to fantasy sports contestants are for amounts certain and are guaranteed to be awarded; and (3) Defendants do not compete for the prizes.

All of this is indeed true for DFS. But remember this: the Humphrey Court looked at Traditional Fantasy Sports, and not DFS. In the TFS model, the entry fee is typically payments to TFS operators for hosting, statistical analysis, communication etc. In the typical workplace TFS pool, you use the website for tracking and not necessarily for betting.

But FanDuel is saying that even then the site is “promoting gambling”, along with the “commissioners” that are collecting entry fees and distributing prizes.

Let’s separate the two. Co-workers can collect money and distribute cash to the winners and they can choose to do the tracking manually like in the old days without the websites. That’s gambling. If those side wagers do not exist, what the website is doing is not gambling.

If providing statistics is promoting gambling, the leagues are promoting gambling, too.

So at least some traditional fantasy sites are just service providers not offering prizes.

Yes – and that is certainly not gambling.

But Humphrey covers the combination of entry fees and prizes.

True. But again, it has TFS in mind. There, the t-shirt you will award at the end of the season, or a flatscreen TV (both examples from the case) are truly independent from the number of participants. Can DFS make the same commitment for a contest nine months from now? We don’t think so. As explained above, that independence holds for DFS for one day, but not over the same term that TFS covers. That’s one key difference.

Broadly, this type of thing happens all the time in courts. One court looks at one case and provides some sort of “list”, inevitably somebody builds a business model around that “list” that leads to a very different outcome. Then another court has to step in and sort it out.

How can you call DFS gambling and TFS non-gambling, then? They seem very similar.

We didn’t. TFS is gambling under the New York law.

Wait what. That’s not what the NY AG is saying.

Correct, and while we believe NY has a pretty tight case overall, this is where their argument is less strong. Excluding the cases where the operator is truly a service provider not offering prizes, or the offering is free, the sharp distinction between DFS and TFS is simply not there.

What about skill?

That’s an interesting conversation. Does the short-term nature create more need for skill, or less? That’s up for debate. But it doesn’t matter.

Why not?

In both cases, something of value is staked, something of value is received, and there is dependence on a future contingent event that is not under someone’s influence or control.

Are there any differences between TFS and DFS?

Where they differ is with respect to the harms they cause. TFS is a social thing, and stakes are low. Risking $100 for a t-shirt or bobble head once a year is one thing, risking $5,300 in one day with the hope of winning a million is another thing entirely. DFS destroys lives. TFS doesn’t. It’s understandable that an enforcement agency may decide to selectively enforce its laws. Materiality could certainly impact enforcement decisions. That’s a fact of life. But materiality shouldn’t impact characterization, and TFS is gambling.

DFS is putting a lot of weight on that TFS/DFS similarity.

Yes. They saw an opening there. But what if the NYAG comes out and argues that TFS is gambling? Would DFS then agree that DFS is also gambling? Each case should stand on its own.

Interesting. Tell me more about event, performance and outcome.

This is wordsmithing on DFS’ part. A contingent event could be a game, or any of its subcomponents. DraftKings throws around this language around identifiable events but unless we missed it, that term doesn’t appear in the Penal Law. That an event should be identifiable is not a statutory requirement, but simply DraftKings’ own interpretation.

Even if it did appear in the letter of the law, let’s take the argument to its natural conclusion. Offer a chess fantasy game, where scoring is based on certain moves, and not the outcome. This wouldn’t be gambling? This doesn’t reconcile with the Practice Commentary.

The intent of the law is clear. Risk something of value on a future contingent event, and win something of value based on how the event plays out, including any and all subcomponents, and that’s gambling.

What about control and influence?

Glad you asked. The “event” in the law is the sports game itself and not the daily fantasy sports platform. This is clearly laid out in the Practice Commentary. And clearly DFS participants don’t have any control or influence over that.

What about Pete Rose?

That was an interesting remark, wasn’t it? DraftKings argued, without elaborating, what Pete Rose did (betting on his own team) would clearly not be gambling under NY law. Arguably this is because the event is under his influence (but probably not control). Well, the same argument can be made about Tim Donaghy, the infamous NBA referee who sometimes bet on games he officiated. By the same logic, an NCAA player would also not be charged in NY, if he “bet” in a game he plays.

MLB, NBA, and NCAA, what are your thoughts on this?

DraftKings gives this example to show what matters is the statutory definition and not necessarily the colloquial use. Maybe so, but it shows us something else. No matter how well-intended the lawmakers are, a good lawyer can always find some exception. So, it’s important to pay attention to the spirit of the law as well. Not that New York needs it in this case.

Mr. Boies is also keen on highlighting that DFS has been operating in NY for years now.

Yes, which obviously doesn’t matter at all. We gave the example of a speeding car and how this argument leads to the absurd conclusion how cars that are going at 90 miles/hour when the speed limit is 65 shouldn’t be pulled over if they have not been pulled over for five miles.

Fortune also pushed back on this and gave a very similar example: “Is that really the strongest argument—that it’s been around a while without being bothered? Lots of things exist for a while unbothered by the law until someone cracks down, whether it’s a certain drug, or, for example, people using bitcoin for illegal purposes.”

Yes, Fortune also saw that the time between the birth of an illegal act and the timing of enforcement is not a validation of the business as a legitimate enterprise.

Mr. Boies responded that it’s different because drugs are unlawful.

Well, whether DFS is unlawful is a legal determination that needs to be made. But the argument is circular. If DFS is unlawful, clearly the time gap does not matter. And if it is found to be lawful, the time gap cannot be one of the reasons, because by that logic, any illegal act that is not caught can impact the legality. So we don’t see the point there.

Mr. Boies said NYAG is changing the law.

No, NYAG isn’t changing the law. Arguably, the facts have not changed from a couple years ago. The law certainly did not change. What has happened here is that daily fantasy got so big, so fast that it caught someone’s attention. This is a fact of life in enforcement matters. The conclusion would have been the same three years ago, it just so happens that NY started to pay attention to it recently. So what? Illegal DFS gambling continues in New York even today (at least by DraftKings and a few others), and the Attorney General has no choice other than to intervene and enforce the law.

Think about a fraudulent tax return. If the fraud is for only 20 dollars, there is a pretty good chance that it will go unnoticed. If it’s for $2 million, it will likely get flagged and looked at. If the position is determined to be fraudulent, can the taxpayer argue that he has been doing it the same way for years and the IRS is simply changing the law?

Ok. Let’s talk more about future contingent events. FanDuel and DraftKings offer mostly the same arguments. But FanDuel mentioned something that DraftKings didn’t. They said “Were the Court to adopt the State’s sweepingly broad “future contingent event” theory here, the same logic would criminalize a wide variety of legitimate business activities that clearly do not amount to gambling—including insurance, investing, and trading in commodities futures or derivative instruments.”

It is true that financial markets have the characteristic of future contingent events. In fact, daily fantasy sports is really a market, not a game.

What? It’s not a game?

It’s not.

How do you define games?

Games are self-contained. Markets, on the other hand, are dependent on information provided by real world events. Ask yourself this: “Can we play this on Mars?” If the answer is yes, it is a game. Otherwise, it is a market no matter what you call it.

Chess? You can play chess on Mars if you have two people and a chessboard.

Poker? You need a set of players, a deck of cards, and nothing else. The same is true for all card games.

Football? You need some sort of field, a football, and a bunch of people. You don’t need anything else.

The key here is dependence or, dare we say it, contingency. Once you have your materials (a deck of cards, balls, etc.) and the people, who are able and willing to play the game according to a set of rules, you can be on Mars, totally disconnected from Earth, and that wouldn’t impact the game at all.

Hmm. I can’t play DFS on Mars, can I?

No. The New York Attorney General already gave us the obvious answer: “There is no winning or losing lineup, nor will there ever be, if the real games do not take place. Nor is it possible to identify the winning lineup without a tally of the final box scores. This is what it means for a wager to be contingent on a future event.” (emphasis original)

But what about being a game of skill?

Well. DFS may very well require skill. In fact, since markets are based on real-world information, there will always be an opportunity for the skilled person to process that information better than others, gain an edge and potentially make money. Let’s reflect on what started all this in the first place: Alleged insider trading by a DraftKings employee. Whether insider trading actually happened or not is beside the point. The fact it could happen is simply an artifact of having markets. There is no insider trading in chess, after all. Amazingly, FanDuel reportedly told its employees to ‘limit’ the exploit of inside information and not to win too much money on other sites.

And the “game” part?

Nobody is questioning it, but that’s where it all falls apart. DFS is not a game.

Does it matter for New York?

No. Lawmakers in New York had perfect foresight. Provided that something of value is risked and something of value is received, they saw that gambling can happen in two ways. Having a game of chance or having a ‘future contingent event’ (read: market) not under your control or influence. With that foresight, New York is bound to win this case.

What if NY wins on the future contingent event argument, but DFS prevails on the skill argument?

That’s certainly possible and that would lead to a very fragmented, inconsistent outcome. Here is a really fundamental question that nobody talks about. Why is daily fantasy sports a state matter?

If they are not games, maybe it’s not a state matter. But then, how should we evaluate them?

Certainly not by the skill standard. Again, by that standard theoretically any market requires skill. Instead the standard is purpose or public interest. DFS is a pure entertainment vehicle as their owners conceded many times. It doesn’t serve any purpose. Sports betting is on the same boat by the way.

So DFS and financial markets are vastly different.

Indeed. One can be reckless in any financial market and “gamble”. But overall, they are socially beneficial. Daily fantasy is a pure entertainment vehicle with no purpose.

FanDuel is correct that the definition of gambling creates some issues in terms of financial markets. Why are financial markets not “gambling” under the classic state definition? This is not a new problem, however. Courts struggled with this mightily. There is more than 100 years of case law on this very issue.

Where are we today?

Mostly settled. It is now well understood that state laws are generally preempted by federal laws when it comes to financial markets. There is a reason why securities and commodities are exempted from the gambling definition. They serve a purpose!

If DFS is a market, who has a say in this? Who decides whether it is gambling or not?

Certainly the SEC and CFTC have a say. They have seen all sorts of markets and have experience in these kind of matters.

Are you proposing that SEC and CFTC regulate daily fantasy?

Not at all. What we are saying is that they should have a point of view on it, and should arguably be the first point of determination. Almost certainly, they would characterize it as gambling. From then on, it becomes a public policy issue and America would need to decide how much sports gambling is wanted in this country.

So what is fantasy sports?

Fantasy sports is a temporary gap in our legal thinking. This happened because it went disguised for so long under the cover of a game that we actually forgot to question what it actually is. To further confuse the point, the UIGEA exempted fantasy sports alongside securities but left the door open for states who have their own gambling laws. The intention was never to create a gambling behemoth, but to provide relief to the relatively harmless (yet still gambling) kind – the traditional fantasy sports. Sensing the opportunity, daily fantasy sports entered the arena and is now using the skill argument to fend off all challenges that come its way.

In NY, the term ‘future contingent event’ takes care of business. More broadly, though, fantasy sports is a market, not a game. When the DFS employees chanted “game of skill”, they may have had a point on the skill part, but they were wrong on the game part. This shifts the power to federal regulators responsible for our financial markets. DFS, of course, will almost certainly be found gambling under federal law.

As for TFS…It is ironic that the success of TFS resulted in an exemption (UIGEA), which, in turn, created an unintended consequence in DFS, which, in turn, forced the issue and made us realize that some versions of TFS are also gambling. Yet, it is arguably one of the least harmful ways of gambling. That should certainly be considered as we define its future.

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About the Author:

Rick Stephens is the Editor-in-Chief of Hockey Pub..

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