The rise of daily fantasy sports (DFS) has been nothing short of spectacular. In 2015, the industry attracted over $3 billion in player entry fees. In addition, the two dominant industry leaders, FanDuel and DraftKings, each secured over $300 million in venture funding at valuations over $1 billion from major media companies (Comcast, NBC Sports, Fox Sports) and professional sports leagues (MLB, NHL, MLS). Not too shabby for an industry that barely existed three years ago!
Much of this rapid growth can be attributed to game design choices made by both companies. However, many of these same choices have now put the future sustainability of the industry in serious jeopardy. Could this outcome have been avoided by prioritizing different design elements? And if so, would it have been practical for FanDuel and/or DraftKings to make these choices while also competing aggressively to become the market leader?
How Does It Work?
Traditional fantasy sports have long dominated American culture with 15 million players in 2003 growing to nearly 57 million players in 2015. In traditional fantasy sports, users form leagues on sites like Yahoo! or ESPN and draft player lineups to compete against each other based on the actual stats of those players over an entire professional season. At the end of the season, a league winner is crowned and money is typically exchanged between participants offline. While this set-up has existed for many years, FanDuel and DraftKings introduced a simple innovation that shook up the industry: a user-friendly platform where players could easily connect and compete on a weekly or daily basis. Instead of season-long commitments, players pay small entry fees to participate in short-term contests by drafting lineups subject to a fixed “salary cap”. Prices for players are updated daily by an algorithm based on statistical performance data with marquee players costing significantly more than mediocre players.
Example of a DFS lineup for Major League Baseball:
Two factors highlight why users have been so drawn to DFS:
- The platform is convenient to access and offers nearly instant gratification. Every day is a new chance to win which amplifies user engagement and excitement
- In addition to competing amongst friends, users can join “public” leagues with tens of thousands of others users for an entry fee as low as $3 and prizes as high as $50K or $100K. The thrill of having a daily opportunity to earn an outsized return for a small investment is highly appealing
What Went Wrong?
Just as dramatic as its rise has been the industry’s near collapse over the past few months. The very existence of DFS has always been tenuous. Since 2006, the Unlawful Internet Gambling Enforcement Act (UIGEA) has prevented Americans from gambling online. However, fantasy sports is designated as “skill-based” versus “luck-based”, therefore falling outside the parameters imposed on traditional sports betting. In addition, FanDuel and DraftKings tried to stay under the radar by creating a multi-sided platform that allows users to compete with each other, rather than acting as a bookmaker and competing directly against its users. Both companies take a 10% “cut” from the prize pool of each contest, but are otherwise indifferent as to the outcome.
However, in early October 2015, this clever system was called into serious question when the New York Times broke a story alleging that a DraftKings employee used confidential information to optimize his lineup in a FanDuel contest (he won $350K after placing second out of 229,885 entries). An independent investigation later cleared the employee of any wrongdoing, but significant damage had already been done in the court of public opinion. The once high-flying DFS industry now sits squarely in the cross-hairs of powerful regulatory constituencies. Over the past few months, there have been FBI investigations, class action lawsuits filed by hundreds of angry users, and state-level rulings reclassifying DFS as illegal gambling (including in major markets such as New York and Illinois).
Winning Line-Up of DraftKings Employee Highlighted in NYT Article:
Could This Outcome Have Been Avoided?
Despite standing on shaky legal ground, FanDuel and DraftKings opted to create highly open platforms that encouraged rapid user growth and frequent game play with few limitations. This created a culture based on aggressive competition, rather than one based on fairness and moderation. It also gave rise to a troubling “sharks-versus-minnows” dynamic that left many users feeling taken advantage of. A McKinsey study during the 2015 Major League Baseball season found that the top 1% percent of DFS players (“sharks”) paid just 40% of the entry fees while earning 91% of the profits at the expense of more casual players (“minnows”).
Alternatively, several of the design modifications below could have helped FanDuel and DraftKings create a more equitable environment for users. Greater control over game play could have also helped legitimize the industry.
- Ban employees: Restrict all employees from entering any contest featured on all DFS platforms to avoid conflicts of interest with users. It is amazing that it took FanDuel and DraftKings so long to adopt this policy!
- Contest limits: Limit the number of contests that individual users can enter in a given day and/or week. This promotes a healthier, less addictive environment and also protects against “professional” players that enter hundreds of contests to prey on casual players.
- Differentiated status: Designate users by ability level (“beginner”, “moderate”, “expert”) and restrict contest access to users with the same designation to level the playing field.
- Block users: Allow users to block certain players from challenging them or entering contests they create. Losing to friends is one thing, but being taken advantage of by strangers is much less desirable!
- Cybersecurity: Invest in technology that can detect and eliminate software tools used by players to bypass game controls (e.g. registering multiple accounts from different IP addresses) and/or gain a competitive edge over other users (e.g. automated programming scripts that optimize lineups across multiple contests).
In hindsight, these design choices seem simple and obvious. So why didn’t FanDuel and DraftKings adopt them from the beginning? The answer seems to be, at least in part, due to the aggressive pursuit of growth at all costs. Conversely, this is at odds with the design suggestions above which would have led both companies down a path of much more moderate growth in users, entry fees, and revenues. It would have also required a sacrifice of short-term growth for long-term viability. However, this prescription is complicated by the fact that DFS is an industry with strong network effects, clear first-mover advantages, and high potential for winner-take-all dynamics.
In a classic prisoner’s dilemma scenario, FanDuel and DraftKings would have been better served to “cooperate” and take a slow-and-steady approach to building acceptance to DFS. Instead, both companies choose to “compete” and engage in an all-out advertising arms race for market dominance. Both companies have spent a staggering $600 million combined on advertising, and were featured in national TV ads every 90 seconds for three consecutive weeks in September 2015. This drove staggering growth in users and revenues, but also brought significant attention to a fragile industry predicated on a loophole to anti-gambling laws.
Today, the fate of daily fantasy sports looks quite perilous. But regardless of the outcome, it is clear that explicit design choices made by FanDuel and DraftKings have had substantial implications on the past and future growth of the industry. On the one hand, I believe FanDuel and DraftKings could have avoided (or at least delayed) its current predicament by implementing more prudent design elements. On the other hand, I’m willing to cut FanDuel and DraftKings some slack as these would have been hard decisions to make in a high stakes industry with explosive growth potential. Unfortunately, users and politicians may not be so forgiving!