THINGS THAT MAKE YOU GO…

Hmmm…

THE BLAME GAME, PART 1

(ADW = Advanced Deposit Wagering. This is the wagering done by telephone or computer through an ADW platform such as TVG, EZ Horseplay, etc.)

We received a comment to a post recently that suggested Colonial Downs was at fault for the ADW quagmire in Virginia.

This is not an uncommon position and not entirely untrue. However, while I too don’t hesitate to criticize my friends over at CLN, I want to point out that CLN and all the Virginia stakeholders have done the right thing when it comes to ADW and Source Market Fees (SMFs) even though, at the moment, it probably doesn’t seem that way to some fans, ADW customers, horsemen and breeders.

Simply put, a lot of people have blamed the ADW mess on the wrong folks, and here's why.

Yesterday, five ADW companies renewed their licenses in Virginia for 2010. In doing so, all agreed to pay the legislatively mandated 10% source market fee (50% to CLN and 50% to VHBPA purse account) and 1% to the Breeders Fund (as much as $400,000 annually in new money). There were some legal arguments and some caveats, but the bottom line is the ADW companies – Twin Spires, YouBet, XpressBet, EZ Horseplay and TVG will be taking wagers and making a meaningful contribution to both the purse account and the Breeders Fund.

The purse account contribution may not be 5% on every wager as some ADW companies have existing contracts for slightly lesser amounts and others are seeking to negotiate agreements with CLN and the VHBPA to slightly lower the mandated rate. All are considering litigation, but, after all, that is what lawyers do. It appears to me that CLN and the VHBPA are willing bend on this matter in return for certain concessions such as showing CLN on television more or maybe resolving the signal boycott/withholding situation which has been ongoing for the past year.

All of that is good news.

When the racetrack, horsemen and the breeders passed the ADW bill that mandated the source market fee and Breeders Fund contribution a lot of people other than the ADW companies were angry – including some Virginia Racing Commissioners (VRC), horsemen and breeders.

After, the ADW companies complained about how unfair it was and retaliated with boycotts and withheld signals, it seemed like the legislation might have been a bad idea. However, truth be told, the legislation to date has accomplished exactly what was intended.

Colonial Downs president Ian Stewart spent a portion of his report at several VRC monthly meetings explaining the ADW market in Virginia and why the bill was needed to preserve live racing here in the Commonwealth. Now, I’ll give it a try.

Virginia got a bit sideways with the ADW companies when it first required the companies to be licensed in Virginia. The ADWs operate with little or no regulation in the overwhelming majority of the markets where they conduct business. Obviously, in that purely entrepreneurial/capitalist way, that is their best case scenario.

However, Virginia requires a license and to get that license, the ADW companies had to negotiate an agreement on SMFs with CLN and the VHBPA. This was fraught with obviously pitfalls, not the least of which was CLN has their own ADW platform.

However, out of these negotiations came a very important component of Virginia’s pari-mutuel wagering system. The process redefined SMFs in a way that has been ultimately beneficial to live racing and purses here in Virginia. It also gave both parties a mechanism to negotiate and effect certain concessions as needed (like now).

Typically, a source market fee protects the home racetrack and horsemen’s purse account from “cannibalism” of the primary local market. It is typically defined as some pre-determined measurable circle around the racetrack in question. In Virginia, thanks to the efforts of the VRC, CLN and the VHBPA, the source market area is the entire state. This makes sense since Virginia is an import state that only races 40-ish days a year and raises purse and Breeders Fund dollars via simulcast wagers in OTBs the other 325 days.

No doubt, this didn’t sit all that well with the ADWs, but it created something very important to the viability of our live racing. When the smoke cleared, the contribution to both the track and the purse account from an ADW wager was (and thankfully remains) almost the same as a wager made from a traditional OTB. That means that as more and more people bet via ADW the cannibalism of the OTBs (which is both happening and predictably inevitable) won’t cause purses and the Breeders Fund to decline. In this day and age, with more and more people wagering on-line, and with their being no OTB in Northern Virginia (3 million people), this is a critical component of the future of Virginia racing.

This system of licensing and agreements worked out well for awhile – until the price of simulcast signals started to escalate. With the standard takeout being in the 20% range a simulcast signal sale price of 3% was a sensible number. Certain special events (KY Derby) and certain meets (Saratoga) were more expenses, but the 3% number worked well in the existing business models.

Then various racetracks and horsemen’s groups in export states starting raising the price of their signal – in some cases as high as 8% – and that extra cost is coming out of CLN’s hide and the Virginia purse account.

Here’s some quick math. CLN and the purse account split expenses on simulcast wagers, so any increase in costs hits both groups’ pocket. For example, if Virginia bettors wager $20 million a year on Racetrack A and the signal fee is 3%, that makes the signal cost $600,000 -- $300,000 each. If the signal fee is 8%, the cost is $1.6 million split between CLN and the purse account – or $800,000 each.

Live racing in Virginia averages $180,000 a day in daily purses. If the signal fee moves from 3% to 8% on Racetrack A, the extra cost ($800,000) eliminates 4.4 days of live racing, and that is exactly why the stakeholders in the Virginia racing industry sought a legislative solution. If we didn’t, the percentage of each ADW wager going to purses was going to continue to shrink and negatively impact our already limited live racing program. Virginia’s stakeholders simply had no other way to create any leverage for the ongoing negotiation of ADW licensing agreements.

Had we stood by and let the ADW companies determine (using all their various points of leverage) the source market fees based on the signal costs set by yet another third party, the money available to purses would decline drastically and live racing in Virginia would be seriously threatened.

Add to that, over $100 million was wagered through ADW in Virginia from 2005 to 2009 without one penny being contributed directly to the Breeders Fund. Only CLN, the bad guys in many folks’ eyes in this fight, has ever made an ADW contribution to Virginia breeders. Obviously, we needed a legislative solution to resolve that since none of the other ADW companies were interested in voluntarily complying with the mandate of our enabling pari-mutuel legislation – promote, sustain and grow the native industry.

So the reason for the bill and the legislative mandate for SMFs and Breeders Fund contributions was to give lil’ ol’ Virginia (a small import state) some leverage in the battle with both the ADW companies and the racetracks and horsemen in larger export states with year-around racing. The object of the exercise is simply to keep them from pricing states like Virginia out of the live racing business.

At least one other state has sought legislative change to help with this, but they chose to cap the amount that could be paid for a simulcast signal as opposed to mandating the SMF amount. It’s just a different way to skin the cat since those two items are the key variables in the ADW equation. Controlling one or the other simply keeps states like Virginia from getting crushed like the investors on Wall Street so recently and infamously were.

Yesterday, Virginia called the ADWs bluff at least temporarily. The industry’s stakeholders gambled that the ADW companies would not walk away from $50 million worth of Virginia ADW wagers annually and that they would find a way to make a deal for SMFs with which all parties can live. We seem to be heading down that road – all threats to the contrary aside - for now. There were a lot of phrases bandied about like “undue burden on interstate commerce,” but nobody turned in their license and went home.

Whether or not the legislation ultimately leads to time-consuming and money-burning litigation remains to be seen. Whether or not it helps resolve the boycott of CLN signal and the withholding of signals to CLN’s EZ Horseplay ADW platform and the stalemate with the Mid-Atlantic Coop is also still up in the air. But heck, it’s the holidays, a guy can hope.

I’d like to think the ADW companies and the exporting racing state’s horsemen and racetracks haven’t thought this through all the way since the market forces seem to shift on an almost daily basis (and, they have a few other things to worry about as well). I like to believe that they haven’t careful considered the negative impact their pricing can and will have on live racing in an import state like Virginia if SMF fees aren’t tightly controlled or sensibly negotiated.

When those signal fees go up, it comes out of somebody else’s slice of the pie. Seems logical that such price increases should be shared across the board and not crammed down the throat of the horsemen and racetrack in the state where the wager originates while a state with year-round-racing stockpiles purses and track revenues and ADWs generate bigger profits. I realized that is contrary to my pro-capitalism/free market nature, but I have my reasons – survival, being the first that comes to mind.

To the principals of the companies that don’t want mandated source market fees, I say look at the big picture. What is better for your business long-term? A) Having “control” of the ADW market and negatively impacting live racing in Virginia and other states or B) Finding a sensible solution that will cultivate more and better customers for your core business? Seems like the answer (all egos and control issues aside), is pretty obvious.

Tomorrow, in The Blame Game Part 2, I’ll dive into ADW and the big picture while wondering who will ultimately defend live racing and breeding industry as the wagering life-line shifts more and more power and money to the ADW companies.

If every state copies Virginia and creates a regulatory environment that keeps purse and Breeders Fund contributions from ADW wagers similar to what comes out of other traditional wagers, live racing and breeding might survive. Such a scenario is exactly what the biggest ADW and racetrack owner in the U.S. seems to want desperately to avoid. If they get their way, live racing and Thoroughbred breeding nationwide is in even more trouble than we already know it is.

As always, all comments are welcome. – Glenn Petty

(Note: The opinion stated above is that of the author. It does not reflect the position of the Virginia Thoroughbred Association or the Virginia H.B.P.A, their board of directors or their members individually or collectively.)