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Why a potential DraftKings and FanDuel merger would make sense

TechCrunch TechCrunch 14/06/2016 Fitz Tepper

DraftKings and FanDuel are in talks regarding a potential merger, according to a new report from Bloomberg.

While the companies have been in discussions for a few months, the report notes that no final transaction has been agreed to and the deal may still fall apart. If a deal were to happen, it would make total sense.

Product wise, the companies’ offerings are essentially identical: both let you play short-term, daily fantasy sports games across nearly every sport; both spend insane amounts of money to advertise with professional sports leagues and stadiums, mainly to compete with each other; both operate in the same gray area and, at the time of writing, have pulled out of 11 U.S. states; and both are locked in legal battles with these states (and others) to convince them to pass legislation that legalizes the industry and firmly delineates daily fantasy sports from illegal sports gambling.

Identically ambiguous products

If you’ve never played daily fantasy sports, it’s hard to understand what makes DraftKings and FanDuel so similar. The two companies provide a product that is just like traditional fantasy sports, but instead of drafting players for a whole season, you just pick them for a daylong contest.

For example, on a given Sunday you’d pick a lineup of NFL players and be awarded a certain number of points depending on how those players perform that day.

So what makes this so different from traditional fantasy sports where you also draft players and are rewarded points based on their performance? Traditional fantasy sports occur over an entire season. And regardless of it being a 16-game NFL season or a 162-game MLB season, that elongated period tends to be a sufficient amount of time to eradicate the randomness of the sport.

For example, a rainy day may have a tremendous impact on a player’s performance if they are only being evaluated for one game. But over an entire season this shouldn’t matter, as it tends to all “even out.” It’s like if you flipped a coin two times or 200 times. It’s entirely likely that you could get two heads in a row, but after 200 flips it should even out to 50/50.

But since DraftKings and FanDuel run one-day contests, there is a greater possibility of some results being impacted by luck. But does this mean it is illegal? Not necessarily, but that is ultimately up to the individual states’ legislatures to decide.

A unified front

On the federal level, fantasy sports is legal, because the Internet Gambling Prohibition and Enforcement Act of 2006 included a specific carve out stipulating as much.

But most states have their own gambling laws that don’t include carve outs for fantasy sports. And the attorneys general in the aforementioned 11 states have publicly said they believe daily fantasy sports breaks their respective gambling laws.

While these decisions have caused DraftKings and FanDuel to pull out of certain states, the companies have made it clear they intend to lobby each state’s legislative branch to pass clear, non-ambiguous legislation that makes daily fantasy sports legal in each state.

So as much as DraftKings and FanDuel are rivals, most of their attention is dedicated to achieving the exact same thing – legalized daily fantasy sports in all 50 states. And while the pending legislative issues haven’t convinced either company to stop competing with each other in terms of advertising, they have worked together on lobbying efforts in various states.

Because at the end of the day, the two companies’ fates are seemingly intertwined. If legislation is passed outlawing one, the other is equally affected. And adversely, if one company is able to get legislation passed to legalize their offerings in a certain state, it will help the other just as much.

So why not just combine forces? And since both companies currently employ a small army of lawyers and lobbyists to help with their legislative and judicial battles (that essentially are doing the exact same thing), a merger would save the companies tens if not hundreds of millions of dollars in eventual legal fees.

No more insane ad spends

The final and perhaps most compelling reason it would make sense for the two companies to merge — at least from a financial perspective — is the insane amount of money they’re spending on advertising.

For some reason, a decision was made early on at one of the companies (and copied by the other) to implement an advertising strategy that consisted solely of expensive, in-your-face advertising. If you’ve ever been to a professional sports arena (or even watched a game on TV), you’ve no doubt seen traces of this exorbitant spending.

In the first eight months of 2015, both companies spent a combined $205 million just on television ads, according to CNN. And this doesn’t include the pricy on-location advertising both companies do at arenas around the country. This spending was so out of control that for a three-week period, the two companies spent more on TV ads than the entire beer industry.

The absurd spending contest is a total lose-lose situation. The companies are bidding against each other to advertise on the same sports channels, at the same arenas and to the same demographic. A combined company would be able to spend less on ads knowing there is no risk of customers defecting to the competition, and also save money by gaining the upper hand in ad purchases.

So what’s next?

Even though a potential merger seems like the obvious thing to do, there’s still a lot standing in the way of it actually happening. The first of which is deciding which CEO would run the show, since both companies are similar in size. Plus, there are logistical issues, such as where would the company be based, and even what would it be called.

While these seem like trivial issues when you consider the big picture, these are perhaps the ego-affecting things that could end up standing in the way when similar-sized companies decide to merge.

The last question is whether the FTC would even allow the deal to pass an antitrust review. Merging two companies that collectively control ~95 percent of the daily fantasy sports market seems like an instant red flag for regulators. But it’s not unprecedented.

Remember when Sirius and XM were two separate companies? After a long approval process, they were allowed to merge after agreeing to accept conditions that sweetened the deal for the consumer. We could see a similar situation with DraftKings and FanDuel, especially if the government thinks that consolidating the companies could help better resolve the regulatory uncertainty currently facing the industry.

So will a merger ever happen? It probably depends on how desperate the companies get. There’s no doubt investors are getting tired of seeing their funding poured into legislative and judicial battles, instead of actually growing the product. So don’t be too surprised if you soon start seeing DraftDuel on a stadium near you.

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