Two popular fantasy sports sites suffered a major blow on Friday as a New York judge ordered that they be shut down in the state pending the outcome of a legal fight with New York Attorney General Eric Schneiderman.
The two companies, FanDuel and DraftKings, have pioneered a relatively new type of sports contest known as daily fantasy sports. Founded in 2009 and 2012, respectively, the companies have paid out hundreds of millions of dollars in prizes this year alone.
But in the past few months, the companies have faced a growing crisis that could threaten their continued existence. In the wake of an employee betting controversy that began in September, federal and state officials have been giving the site more scrutiny. Those officials started investigating whether the companies ran afoul of state and federal laws against online gambling.
The companies argue they've done nothing wrong, that daily fantasy sports isn't a form of online gambling. They insist that it's a game of skill, and that it qualifies for a fantasy sports exemption that was included in the 2006 law that banned online gambling. And they've vowed to fight the judge's ruling. "We are disappointed with the Court’s decision, and will immediately file an emergency notice of appeal in order to preserve the status quo," DraftKings said in an emailed statement.
The stakes are high. If the companies lose in New York, it could set a precedent for legal action in other states and at the federal level, jeopardizing the sites' very existence.
Daily fantasy sports sites look a lot like online gambling
Fantasy sports have been around for decades; the concept first became popular for baseball before spreading to other sports. And in the early days, fantasy baseball wasn't such a big business.
It worked like this: At the beginning of the season, you would assemble an imaginary team — a pitcher, catcher, shortstop, and so forth — using the names of real, active players. Then, over the course of the season, your fantasy team would rack up points based on the real-world performance of the players you've chosen. You might also be able to trade players in your lineup with others in your fantasy league midway through the season. At the end of the season, the contestant whose imaginary team earns the most points wins the league.
The concept caught on first in baseball thanks to the wealth of statistics available about baseball games. As the internet made it easier to find information about other sports, the concept spread beyond baseball — especially to football.
In the past five years, a variant called daily fantasy sports has become popular. The basic concept — choosing fantasy teams and racking up points based on players' real-world performance — is the same. But whereas conventional fantasy sports provided fun, low-stakes entertainment for a group of friends (albeit often with some money at stake), daily fantasy leagues look a lot more like conventional sports gambling.
The daily fantasy market is dominated by two relatively new companies: FanDuel (which has a partnership with Vox Media's sports site SB Nation) and DraftKings. Players might pay $5, $25, or $100 to enter a contest, and they can win prizes as large as $1 million. Rather than just competing against a few friends, people compete with thousands of strangers from across the country. Both companies have raised millions of dollars in venture capital, and they've said they would pay out more than a billion dollars in prizes in 2015.
Fantasy sports sites enjoy a special loophole in federal law
Major sports leagues lobbied for the ban on internet gambling Congress passed in 2006 that shut down internet poker and other online gaming. But they also convinced Congress to carve out an exception for fantasy sports leagues because they boost fan interest in watching sports. As a result, fantasy leagues are the only form of sports betting that's legally available to most Americans.
Companies like FanDuel and DraftKings have taken full advantage of the loophole. Today's daily fantasy sites feel more like professional gambling operations than a friendly office pool. And there's growing concerns that they've bumped up against the legal limit under federal law.
In the process, these companies have created an awkward situation for the NFL. In the past, it was easy for the NFL to argue that it should be in a different legal category from conventional sports betting. But daily fantasy leagues are blurring this line.
A DraftKings employee's big win on FanDuel created a PR headache for the industry
In October, we learned that DraftKings employee Ethan Haskell won second place in a fantasy contest hosted by DraftKings competitor FanDuel, winning $350,000. This caused people to wonder whether Haskell had used access to private DraftKings data to give him a leg up in the FanDuel contest.
Here's how that might have worked: Because the payouts in daily fantasy games go disproportionately to the top players, data about which athletes are most and least popular among other fantasy players can help a contestant boost the odds of winning. And while Haskell didn't have access to any data about FanDuel users, the DraftKings and FanDuel contests are similar enough that data about DraftKings players' bets should have provided a lot of insight about both sites.
However, DraftKings insists that nothing improper occurred. The company says Haskell didn't get access to DraftKings data until after the deadline for choosing his FanDuel team, making it impossible to use the data from one contest to influence his choices in the other.
In a brief joint statement released in early October, DraftKings and FanDuel insisted that they have strict policies in place to prevent employees from cheating on fantasy games. They also temporarily banned employees from playing on competing sites (employees were already banned from playing on their own sites).
Government officials are now probing FanDuel and DraftKings
While there's no proof Haskell did anything wrong, the controversy seems to have inspired government regulators to ask larger questions about the FanDuel and DraftKings business models. Daily fantasy sports sites seem a lot like gambling operations, and with only narrow exceptions online gambling is illegal.
Eric Schneiderman, New York's latest crusading attorney general, has taken this ball and run with it the furthest. He has sought to shut down the sites under New York's anti-gambling law. On Friday, a judge granted his request to halt the sites' operations in New York while the courts consider Schneiderman's case for shutting them down permanently.
If Schneiderman succeeds, FanDuel and DraftKings would still be able to operate in most other states. But losing in New York could also set a bad precedent for the companies and inspire public officials in other states to take a more aggressive approach. There's also a risk that federal officials could seek to shut down the sites nationally. In October, the Wall Street Journal reported that federal prosecutor Preet Bharara is probing the sites' legality and could decide that they don't qualify for the fantasy sports exemption in federal law.