Why Daily Fantasy Sports Could Get Sacked By A Weak Legal Protection Scheme

January 18, 2016

Since its creation in 1962, fantasy sports has seen a significant growth in both popularity and variation.  Throughout the years, these games have been based on a consistent model, whereby individuals pay a single entry fee to draft a team and compete against other teams over the course of an entire professional sports season. In 2007, Daily Fantasy Sports (DFS) introduced an accelerated variation to fantasy whereby participants can pay multiple, varying entry fees to compete on a weekly or daily basis. Over the past few years, DFS has exploded into a major industry with significant revenue. Although two companies have monopolized the market, FanDuel and DraftKings, with each boasting an estimated value of over $1 billion, powerful investors, financiers, and other organizations are moving quickly to garner a share of the market. Although DFS operators had initially been able to fly under the radar of lawmakers and regulators, their rapid rise in popularity and profitability has been met with increased criticism and skepticism, as many claim the game constitutes illegal, unregulated gambling.

Generally speaking, gambling is regulated at the state level, and the legality of games like DFS–those that require an entry fee and pay out cash prizes–currently varies by state. Five states have already banned DFS as an illegal form of gambling.  Critics have also speculated that it would be illegal in eight additional states if it were regulated as other forms of gambling are. DraftKings and FanDuel block individuals from playing who reside in states that banned DFS as an illegal form of gambling. Only two states, Kansas and Maryland, have legalized DFS, leaving the majority of states in limbo. Given the success of DFS hinges on the volume and frequency of participation, if more states ban residents from participating in DFS, it could cause player participation to plummet into a death-spin.

The unraveling of the industry may already be in motion.  On November 10, 2015, the New York Attorney General, Eric Schneiderman, issued a cease-and-desist order to DraftKings and FanDuel, arguing that DFS was illegal under state law. Schneidermann characterized DFS entry fees as being “wagers” on a “contest of chance,” where winning or losing depends on numerous elements of chance to a “material degree.” In their rebuttals, DraftKings and FanDuel claimed DFS to be a game of skill, wherein a participant’s choice of players represents its “control or influence” over the outcome. The court rejected these assertions, however, finding that participants are ultimately “relying on someone else’s skill” to determine an outcome. Thus, whether DFS survives at the state level is likely to hinge on the perception of DFS as more a game of skill, rather than chance.

In an effort to avoid legal and financial uncertainty, DFS operators argue that the federal Uniform Internet Gambling Enforcement Act of 2006 (UIGEA) creates an express exemption for fantasy sports games, and therefore state gambling prohibitions do not apply. Contained in the UIGEA is a provision that excludes “any fantasy or simulation sports game” from its definition of an unlawful “bet or wager.” DFS operators claim that, based on this single provision, fantasy sports by definition do not involve an unlawful wager. This argument is unlikely to hold water, however, as the UIGEA also requires certain conditions to be met, including that the game “reflect the relative knowledge and skill of the participants.” Thus, even if DFS operators successfully argued the provision regulated all fantasy games, they would still need to show how DFS, unlike poker or traditional sports gambling, is a game of skill and not chance. Furthermore, even if the UIGEA applied, it would not likely immune them from state law, as the statute expressly states “[n]o provision…shall be construed as altering [any] State law…prohibiting…gambling.” This alone would seem to leave intact any and all state prohibitions on fantasy sports, leaving DFS operators without a federal exemption and therefore subject to a minefield of state-by-state regulation.

DraftKings, FanDuel and other DFS operators have built a billion-dollar industry whose legality rests on a single, obscure statutory provision. Without an overarching federal exemption, DFS operators may be subject to the whims of state court proceedings. Despite mounting uncertainties as to the future legality of these operations, DFS continues to explode as a money-making industry. Investors have injected large investments into DFS operators, including NBC Sports Ventures recent $70 million financing of FanDuel. Similarly, several high profile organizations, such as Major League Baseball, USA Today, and Sports Illustrated, have recently launched proprietary or co-branded daily fantasy sports offerings. If these major industry players are unable to secure Congressional support for DFS through lobbying and/or bankrolling of a grassroots campaign, DFS could end up nothing more than a popped bubble.