Instead of bemoaning the us ban on online gaming, let's look for the positives, says Alex Tanner.

Saturday September 30, 2006, is a date that will live long in the memory of many involved with the online gambling industry, directly or indirectly. For it was on this day that Senator Bill Frist tagged the Unlawful Internet Gambling Enforcement Act onto a totally unrelated port securities bill, making it illegal for financial institutions to process payments going to or from US citizens to operators of online gambling firms, regardless of whether they fell within US borders or not.

The decision by the US Senate to legislate against online gambling was almost unique in that it was both expected and a surprise in equal measures. It was, in one respect, expected because for years both operators and investors knew they were dabbling in grey waters; with the exception of a handful of states, online gaming was neither legal nor illegal, and while some government department representatives declared that it was illegal, there seemed to be little framework in place to support that declaration.

So how could it be a surprise? Prior to closing its session for the mid-term elections, the Senate had a huge workload. Banning internet gambling seemed way down the list of priorities. Who, then, would have expected the legislation to be tagged on to an anti-terror bill at the 11th hour?

The reaction was nothing short of catastrophic for some companies, notably those that had floated on the London - and other - stock exchanges. All the major players, including 888 Holdings, PartyGaming and Sportingbet, subsequently saw their share price plummet, with no sign of a short-term recovery.

The response from certain sections of the media was almost unanimous; this was apparently the end of the online gambling ‘boom.’ In fact, it was - and is - nothing of the sort.

To fully understand the ramifications of the bill, and debunk some of the currently held wisdom on the subject, we must first take a snapshot of recent history, unravelling a string of events that appear, at the first instance, to be connected.

The first shot across the bows came in early July 2006, when Congress - the US government’s lower house - passed the Goodlatte/Leach Bill by a landslide vote of 317-93. This bill aimed to make gambling on the internet illegal, unless it concerned lotteries or horse racing, by preventing the processing of payments. It was essentially the same legislation Congressman Jim Leach had tried to tag on to the Patriot Act, which was passed in the wake of September 11 to prevent terrorists laundering funds.

This marked the first anomaly in this series of events, as, following the news of the bill’s passing, shares in publicly listed companies actually went up. The reason was that the City had been waiting for Leach and Goodlatte to make their next moves in their crusade against online gambling. If this was it, the industry appeared safe: the legislation was badly written, making it hard to enforce. It ultimately seemed doomed before it had even got off the ground, as it still had to pass through the Senate, which appeared ambivalent on the issue so close to crucial mid-term elections.

The second event came a week later when David Carruthers, chief executive of online sportsbook BetonSports, was arrested in the US as he was connecting flights. The assumption was that the Department of Justice was flexing its muscles, and - following Congress’ approval of a ban - was letting the world at large know its intentions. Internet gambling was illegal, period, and company executives would be prosecuted in the US, regardless of whether they were US citizens or not, and regardless of whether their operations were situated beyond US jurisdiction or not.

The City reacted accordingly: BetonSports’ shares were suspended and other operators took yet another heavy hit on the stock markets.

Over the next two months, the situation seemed to calm down. Carruthers - now sacked by his employers - cooled his heels in a St Louis complex awaiting trial, but the wave of prosecutions that many expected failed to materialise. Until, that is, the chairman of Sportingbet, Peter Dicks, was arrested under a Louisiana State warrant while attempting to fly out of New York. Now it was the turn of Sportingbet, a billion dollar company, to have its shares frozen while the City picked up its gloves to give gaming shares another going over.

The illusion covering these three events is that they were connected when, in fact, they were not. Goodlatte and Leach had been plotting their next move against online gaming for some time, and their timing was perfect. They, at least, could now turn to the puritans in their constituencies and say: “Look what we did!” This was only to be expected.

Carruthers’ arrest, meanwhile, had nothing to do with this development. BetonSports had been targeted by the Department of Justice since it drove a bus across the US encouraging visitors to bet on sports - a clear violation of the country’s existing laws on sports betting. Many operators may have been taking bets from US customers, but only BetonSports stuck its chin out for the roundhouse delivered by the DoJ. There were also allegations that its chairman, Gary Kaplan, had connections with organised crime. Kaplan fled to Costa Rica after attracting the attention of the authorities for running an illegal sportsbook in New Jersey back in the early 1990s.

So what of Peter Dicks? Surely this was evidence of a large-scale, co-ordinated operation against online gambling? Not exactly. Dicks was arrested under a warrant issued by Louisiana’s state police - a warrant that the courts in New York subsequently failed to enforce. The police claimed that this was part of an operation that had been running for months, internet gambling being expressly forbidden under its state laws. But the cognoscenti believe this action was caused, bizarrely, by Hurricane Katrina.

Following the devastation of the states surrounding the Gulf of Mexico, many Louisiana residents received thousands of dollars in reparations. According to local research, many of the recipients then spent this money on gambling, but not at any of Louisiana’s legal gambling outlets but illegally on the internet.

Was this a veiled government conspiracy to crack down on internet gambling then? Probably not. In fact, it appeared to be more of a confluence of unrelated events.

Regardless, the conspiracy theorists believed they were proved right when the Senate, against all the odds, passed the ban. To do this, Senate Leader Bill Frist, another anti-gambling Republican, pulled off a political masterstroke of Machiavellian proportions. Frist tacked his UIGEA policy onto the Port Securities Act, the latter of which was designed to channel $2bn a year into better protecting US ports against terrorist threats.

It was a classic piece of pork barrel politics. Virtually none of the senators voting for the Port Securities Act knew the ramifications of the UIGEA, and even if they did what could they do? Vote against a key plank of anti-terrorism legislation with mid-term elections around the corner and no time left on the senate clock? Unlikely.

This, then, was the big one. Or was it? Certainly for the publicly listed companies the effects were felt instantly, with yet another battering to the share price. Market leaders, including PartyGaming and 888, withdrew from the US immediately, while Sportingbet followed suit somewhat later.

But the reasons for those withdrawals are slightly more opaque than it first appears. Directors of listed companies tend not to stick with the same firm for life, and instead move on to other pastures new. It is their ability to run a large company and keep the City happy that counts, not necessarily their experience in a particular business sector.

This meant not only that operators would find it difficult to secure top-level personnel in the future, but also that their current board members would face prosecution in the states were they to visit, regardless of whether they worked for, say, PartyGaming or Unilever. And the City does not like instability at board level.

The directors of these companies must also have become increasingly frustrated at the inability of their impressive financial results to drive share price. For years, 888 et al had been posting phenomenal growth figures and profits, and yet the City - bar hedge fund traders - have been reticent to lump on (and those hedge fund traders that did quickly sold). The spectre of a US ban was always in the background, threatening their future prospects. With the US issue finally put to bed, then, the City would now be able to concentrate purely on performance and not some unspecified threat from overseas.

Others, however, have chosen to continue to take bets from US customers, begging the question: “why take the risk?”

For privately owned operators the risk/reward ratio of operating in the US is now huge, due to the following reasons. First and foremost, the UIGEA may well be a damp squib, either impossible to enforce or liable for significant change at a later date.

The act doesn’t make it illegal for citizens to gamble, so online gamblers are not individually breaking any federal laws under the new regime. Meanwhile, the major institutions processing transactions - Visa and MasterCard, for instance - already refuse to deal with gambling companies, as does payment processor PayPal (owned as it is by the US-listed online auction site eBay). But payments can still be made by cheque under the new laws, while the pure-play payment processors such as NetTeller, Citadel and the like are based outside US jurisdiction.

Then there is the small issue of poker. Following the disastrous mid-term elections, the Republicans have now been forced to cede control of both Congress and the Senate to the Democrats. The more left-wing of the two major parties is likely to look at the UIGEA’s concessions to lotteries and horse racing, and then look at the 23 million US voters who regularly play poker online, and extend that concession to poker too.

The only parties this ban has had a negative effect on then are the publicly listed companies - who may now be relieved that their fortunes on the exchanges are not dictated by US policy - and the American gambler who may well be forced to turn to unregulated operators to have a punt (although non-US punters that have seen the liquidity drop in their poker games may also argue that they have suffered too).

Conversely, the act has actually been good news for the major poker sites that have confirmed they will continue to operate in the country. Following Party’s withdrawal, both PokerStars and Full Tilt have seen their player base grow enormously.

Other beneficiaries will be gambling information sites pointing at a European or Asian audience. Prior to the ban, both 888 and PartyGaming, among others, were pumping tens of millions of dollars in marketing across US-facing sites in a bid to lure American gamblers to their sites. Now Europe and Asian sites will get a bite of that not insignificant cherry.

Certainly, these have been interesting days for the online gambling sector. But while the fat lady might have taken a pause, it’s only for a breath. Far from being the end of the song, this is really only the start of a new verse.