Party's Over for Online Gambling

With Congress' passage of a new bill cracking down on Internet gambling, sites are scrambling for markets to fill the void left by the U.S.

by Kate Norton

Investors in online gaming companies folded their cards and pushed back their chairs on Oct. 2 after the U.S. Congress passed a bill over the weekend that will effectively outlaw Internet gambling in the world's largest market. Shares of Gibraltar-based PartyGaming, the world's biggest Web poker company, nosedived 58% in one day, while 888 Holdings, a specialist in online casino and card games, lost more than a quarter of it value.

Sports betting site Sportingbet, which gets 50% of its unique visitors from the U.S., according to researcher comScore, fell a stomach-churning 64%. "That these sites depend on the U.S. for so much of their traffic certainly leaves them vulnerable to significant revenue loss if U.S. banks and credit card firms will no longer process payments to their sites," says Bob Ivins, managing director of comScore Europe.

The unexpected passage of the legislation, which President Bush has indicated he will sign, is prompting some gambling sites to abandon the U.S. entirely. Both 888 Holdings and PartyGaming said in statements on Oct. 2 that they will walk away from the U.S. altogether when the law takes effect. That means customers trying to enter their sites from U.S.-based Internet (IP) addresses will be blocked, and the companies will no longer accept bets placed via credit cards with U.S.-based billing addresses.

POTENTIAL DEVASTATION.

The move will take a heavy toll. At 888, which gets about half of its revenue from the U.S., pulling out will have a "material adverse impact," the company said in a statement. PartyGaming says it will now fall well short of its financial targets for this year and next. Neither company was available for comment.

With U.S. punters accounting for about half the $5.9 billion gambled online last year, the U.S. lawmakers' move is potentially devastating for the entire industry. European Internet gaming companies were already scrambling to reduce their exposure in the U.S. in favor of Europe and Asia (see BusinessWeek.com, 5/15/06, "Britain Bets on Internet Casino Games").

The new U.S. law ups the ante, as they seek to cushion the blow to sales and earnings, industry watchers say. "This is a bomb for American-facing betting companies," says Professor Leighton Vaughan Williams, director of the Betting Research Unit at Nottingham Trent University.

WAYS TO CIRCUMVENT?

They can't say they weren't warned. Storm clouds have been gathering in the U.S. since the summer, when BetOnSports chief executive David Carruthers was arrested in July for alleged illegal interstate gambling. Last month, Sportingbet's former chairman also was detained on similar charges and released Sept. 29 by a New York court.

While there had been talk this year of a national bill outlawing online betting, few actually expected Congress to go through with the measure, which was tacked onto unrelated legislation for port security. "The fact that it actually happened is a surprise," says Tej Randhawa, a leisure analyst at Evolution Securities in London. The bill chokes off online gambling by making it illegal for banks and credit card firms to process bets made via the Internet.

Industry experts say some diehard U.S. gamblers may find ways to circumvent the new rules and gamble online anyway, though it's not yet clear how. But for many, the risk or hassle will be too great, and offshore purveyors of casino and card games, as well as sporting bets, could wither.

LOOKING FOR OPTIONS.

Where's that likely to lead? Non U.S.-facing gaming companies such as Luxembourg-based Gaming VC may be scooped up more quickly by bigger industry players looking to shore up revenue without U.S. exposure. Smaller gaming companies with a predominantly U.S. presence could fold, however, says Evolution's Randhawa. Both 888 and PartyGaming, which are among the largest firms in the business, say they will continue to expand their businesses into new markets.

Vaughan Williams says Asia "is a massive and relatively untapped market." But at $2.1 billion last year, it was only about one-third the size of the U.S. business. It won't fill the gap overnight: Asian online gambling isn't expected to match last year's U.S. total until 2010 (see BusinessWeek.com, 8/21/06, "Online Gambling Hedges Its U.S. Bets").

One sticking point: Asian consumers don't yet use credit cards or electronic payments as widely—a critical ingredient for online gambling—though cash alternatives are growing quickly. Government regulation is also a concern, especially in China, which has forced some Internet service providers to block sites.

Europe isn't a cure-all, either. Poker is very much a U.S. game, though it has proven popular in Scandinavia. And cash-strapped European governments are more likely to regulate the business as they seek to protect state-run monopolies and/or snare new tax revenues from online bettors and sites.

A SMALLER POND.

They're also not averse to stringent law-enforcement actions of the sort carried out in the U.S. since the summer. The co-chief executives of Vienna-based Bwin Interactive Entertainment, for example, were arrested last month in France and accused of violating the country's gaming laws.

Despite the growing challenges, online gambling appears likely to survive. Researcher Vaughan Williams argues that the industry's infrastructure and marketing remain intact. But firms pinning their hopes on the U.S. have to look elsewhere—and fast.

Norton is a BusinessWeek.com correspondent in London.