Betfair: Turf war victors

The World Cup will be the biggest gambling bonanza ever, and online betting exchange Betfair is already giving high street bookies a run for their money.

by Steve Barrett
Last Updated: 09 Oct 2013

It's the first race on the opening day of the Cheltenham horseracing festival earlier this year. The packed crowd watches intently as the hot favourite storms towards the line. But soon the horse is fading. Cries of anguish ring out from the stands as it is pipped at the post by a fast-finishing outsider called Noland. Favourite-backers tear up their betting slips and head off to the bar to drown their sorrows.

Seventy-five miles to the west, a punter in Pontypridd, Wales, sits in front of his computer celebrating the biggest win of his life. And he hadn't even placed his bet until halfway through the race.

Noland was way behind and available at long odds. But that was before it sprouted wings and flew across the finishing line. With one click of his mouse, the South Wales punter had taken a £20 chance and won £20,000.

Welcome to the world of internet betting exchanges ... and welcome to Betfair - the first and biggest exchange.

These exchanges differ from traditional bookmakers in that participants bet on odds set by their fellow punters rather than by a bookmaker. All bets on Betfair are placed by users who either want to bet (back) in the normal way or offer odds (lay) to other punters. Betfair matches people with opposing views and takes up to 5% of the profit from the transaction, regardless of who wins or loses.

Punters can bet on a horse to win, but they can also back it to lose.

The man in Pontypridd took advantage of another punter's offer of 999-1 on Noland winning the race from its seemingly hopeless position. The losing punter paid out the £20,000, not a bookie.

Betfair's emergence has scared fixed-odds bookmakers, who previously had a monopoly on prices: now there are tens of thousands of 'bookies' out there - 99% offering a better deal. On average, punters get 20% better odds on Betfair than they do with traditional bookies such as Ladbrokes and William Hill.

'Their prices are high because they have to build in a fat margin for the times they get the risk wrong,' claims Betfair managing director Mark Davies. The firm takes no risk and so requires a much smaller margin.

The ability to bet while an event is in progress has livened up horserace betting, but it is even more suited to sports such as football, cricket, golf and tennis, which last much longer. Betfair's biggest turnover comes when there are lots of sports to bet on - such as Grand National weekend, which coincided with the US Masters golf and big Premiership football matches.

Betfair's origins are inextricably linked to Cheltenham. It was while working on contract to GCHQ in the Cotswolds town in 1998 that software developer and former professional gambler Andrew Black had his eureka moment. Away from his family with time to kill, he paced around the room 'inventor-style'. Black, who was familiar with the workings of the stock market from his time in the City, wondered why punters couldn't come together online to cut out the bookmaker middleman and trade odds instead of shares.

'A stock exchange revolves around a price, but with a betting exchange you have an odd instead,' he explains.

Black developed his idea and showed it to his brother's best mate - JP Morgan broker Ed Wray. Betfair was born. The format appealed to a new breed of gambler, younger and more upwardly mobile than betting-shop devotees.

These punters, at home on the stock market, latched on to the concept fast. From humble beginnings, the company grew exponentially, from a turnover of £480,000 in 2001 to £6.1 million in 2002 and £107.1 million in 2005.

Fast-forward to 2006 and Betfair matches as many as five million bets a day. In just seven years, Black's eureka moment evolved into a business that handles vastly more transactions than the London Stock Exchange that inspired it. This kind of turnover persuaded Japanese technology firm SoftBank to take a 23% stake in the company for £355 million.

Betfair's co-founder sees the SoftBank deal as the first step towards flotation. 'It values us at £1.5 billion and that's the sort of amount we should float at.'

The Japanese interest has propelled the Betfair proprietors into the Sunday Times Rich List, published in April, putting Black and Wray at equal 266th position, worth £230 million each.

Like the Stock Exchange, Betfair relies on the buying and selling of an underlying commodity. But there the similarity ends. Whereas the Stock Exchange is associated with established big business, Betfair is preoccupied with gambling, racing and the sporting life, the seedy undertones of which still suggest rogues and vagabonds.

Davies doesn't buy it: 'People get very sniffy about horseracing, as if the whole thing is a punt and they get holier than thou about stocks and shares, as if that is scientific. But if you study the form you can make money in the same way as studying balance sheets, income statements and price-earnings ratios.'

Betfair's success is reflected by Black's inclusion in this year's MT Top 100 Entrepreneurs list. The company was fourth in the Sunday Times Fastest Profit Growth Firms list. It won the Queen's Award for Industry in 2003 and was CBI Company of the Year in 2004 and 2005 - the first company to retain the title.

Davies says Betfair is the most exciting company in the UK, if not the world. He likens it to another internet business success story: Google.

'There isn't quite a verb "to Betfair", but it isn't far off,' he says.

'We have become synonymous with our product. It is a fantastic execution of a very simple idea.'

Betfair may have changed the face of gambling, but there's no need to feel sorry for the traditional bookies. Ladbrokes posted pre-tax profits of £240 million in 2005, redistributing £4.2 billion to shareholders as it split from its owner, Hilton Group. And William Hill made a pre-tax surplus of £176 million on turnover of £10.7 billion in the same period.

Says Black: 'Betfair has carved a niche for itself among sophisticated punters, but a lot of those people are winners. We have taken a lot of winning customers away from the traditional bookies, which has to be good for them.'

Ladbrokes and William Hill have significant online arms to their businesses.

This may be why John O'Reilly, managing director of Ladbrokes e-gaming, believes initial hostility to betting exchanges has been replaced by a 'growing symbiotic relationship between Ladbrokes and Betfair. Some fixed-odds customers use exchanges to get better prices,' he says. 'But those punters also use exchanges to lock in their profit, so they lay bets on the exchanges and back with Ladbrokes at fixed odds.'

The prices referred to are the odds at which punters strike their bet.

If a horse wins at 5/1, the punter gets £5 for every £1 staked. A few minutes before a race, the market opens at every betting shop and internet operation. The starting price is the odds of each horse at the start of the race, which since the '60s have come from the betting market on the racecourse. Ladbrokes and William Hill would participate in this market and bet on horses on which they had big liabilities, moving the market so the starting prices reflect those liabilities. But the big bookies now lay with Betfair rather than the betting ring on course.

'The racecourse market was a cul-de-sac, and the (on-course) bookies took the money,' says O'Reilly. 'Now, on an average race, 5% of the market will be on-track, 95% will be off-track.' The on-course bookies ended up putting the money on Betfair as well - they weren't making the starting prices any more. These are now a function of the off-course market and betting exchanges.

Says Davies: 'The big bookies fought hard to keep us out, but they are showing record profits and Betfair is a fantastic risk-management tool for them. They realise we aren't the death of them - we sit nicely alongside them.'

Along with the British Horseracing Board (BHB), the bookies thought the Government would impose a tax on betting exchanges. But chancellor Gordon Brown took the view that it might force them offshore. Ladbrokes, William Hill and other traditional bookies already operate from tax-friendly offshore havens such as Gibraltar and Malta. Betfair acquired a licence in Malta last May in case a punitive tax regime was introduced in the UK.

Ladbrokes' O'Reilly accepts that the arguments about tax and legality have largely been played out. 'We've had the discussions,' he says. 'We didn't win, so let's move on.'

For his part, Betfair's Davies is surprised that Ladbrokes hasn't launched its own exchange. 'If rumours are true, it is debating whether it should launch the exchange everybody says it has ready and waiting.'

O'Reilly says it would be wrong if Ladbrokes weren't ready for all eventualities, but isn't about to switch on a betting exchange. He adds, a touch disingenuously, that the market may 'border on a natural monopoly'.

The racing establishment too took time to warm to Betfair. Greg Nichols, chief executive of the BHB, has a vested interest in bookies' results, as racing receives a share of their profits to put back into the sport.

But the emergence of Betfair caused bookies' margins to narrow, as exchanges offer better prices.

Although betting turnover has gone up by 5% to 7% per annum, profits have remained static. The money that goes back into racing to run the sport - known as the Levy - has been stuck at between £95 million and £100 million for the past three years.

'Margins have been squeezed by the exchanges, which pay 10% of their commission back to racing,' says Nichols.

He believes this is inappropriate compared to the 10% of gross profits contributed by bookmakers. 'Exchanges are paying a third of what bookmakers would pay for the same turnover.' But he is clear that if the revenue issue is sorted, the exchange phenomenon will be good for racing. 'It provides new brand appeal and attracts younger punters with a different psychology.'

Betfair represents only about 5% of the UK horseracing market. But an increasing amount of the company's turnover now comes from football and the World Cup in Germany this summer is set to be the biggest betting event in history, with a value estimated at £1 billion.

'The world of betting is changing fundamentally,' says Davies. 'Fifty per cent of first bets placed are on football and the fastest-growing sports are things like tennis.'

So Betfair is here to stay. 'Our product will become increasingly popular and populist,' predicts Davies. 'Betting is moving online. We will drill down to an audience that has traditionally gone to the high street.'

Even the high-street bookies have started taking bets while races are in progress. But for punters like the man in Pontypridd, taking his chance on Betfair via one click of a mouse is a more attractive proposition than scribbling on a betting slip in a shop, rushing to the counter and hoping there isn't a queue that might stop him winning thousands of pounds.

HERE COMES THE HENDON MOB, RED-HOT POKER BOYS

For the past five years, online poker has been booming and it's now one of the biggest internet business success stories around.

For experienced poker pro Joe 'The Elegance' Beevers, this presented both a challenge and an opportunity.

One of a group of four players known as the Hendon Mob, the 38-year-old started playing seriously 15 years ago. The Mob - Ram 'Crazy Horse' Vaswani, Beevers, Barny Boatman and his actor brother 'Rocky' Ross - played a regular game in Hendon and travelled to tournaments across Europe. Whenever they arrived in their dark suits and shades the cry would go up: 'Here comes the Hendon Mob.' The name stuck.

The Mob made a reasonable living before the online poker boom, but they had no idea how much the internet was going to change their lives. Between them, they've now won nearly $5 million in tournament prize money. The Hendon Mob is among the biggest brands in poker, its website one of the top poker portals (www.hendonmob.com), and they've formed an alliance with US site Full Tilt Poker.

Online poker players tend to be males in their twenties or early thirties.

Beevers believes the web has attracted new players who would previously have been intimidated by live play. 'Going to a casino for the first time is worse than joining a new school,' he says. 'And it's much faster playing online: you can get a year's live experience in a month.'

The mystique surrounding poker is disappearing. People used to be hugely impressed when Beevers told them he was a poker pro - now there are players everywhere, many of them on PartyGaming, the number one website in the online poker marketplace. It dealt a billion hands of real-money poker in 2005, producing wagers of $46 billion. After floating on the London Stock Exchange in June 2005, it made pre-tax profits of $324.9 million on revenue of $977.7 million. Earnings of $342 million for the first quarter of 2006 were 54% up on the same period last year.

PartyGaming started in traditional casinos in 1997 and moved online in 2001. Its 12 million registered customers come from 180 countries. The number of active online poker players increased by 40% over the past year to 873,000, 75% of them from the US and 6% from the UK.

As with Betfair, IT is crucial to PartyGaming, with its proprietary technology and comprehensive customer service operation. The scale of such a young business is impressive. It employs 1,300 people, 100 in IT. It handles 4,000 calls and 7,500 e-mails a day.

Says John Shepherd, director of corporate communications at PartyGaming: 'People want an answer quickly when they're playing online.'

Shepherd accepts that online poker's astronomical growth can't continue for ever. PartyGaming's shares fluctuate wildly due to the regulatory environment in the US, where gambling is illegal in many areas. Even so, 12.5 million Americans play poker online. 'I'm satisfied that what we do is not illegal. It's the national pastime in the US, so you need a large profile there to be big in poker,' he says.

The online poker boom has spilled into traditional casino poker. There are likely to be 10,000 entrants to the World Series of Poker this August.

'The chance of one of the Mob winning the world championship is low now,' says Beevers, who recently helped Great Britain to victory in the Poker Nations Cup. 'But overall, the money is much better. There are now hundreds of players making a six-figure annual income playing poker.'

HOW THE NUMBERS STACK UP FOR THE GAMING EXCHANGE

Betfair handles up to five million transactions per day, dwarfing the 292,000 record for daily average trades on the London Stock Exchange.

At peak times, Betfair will take about 300 bets every second.

In the year to April 2005, Betfair's revenue was £107m and pre-tax profits were £23m - it expects to hit 'aggressive' growth targets this year.

Betfair has gone from eight staff at launch to 720 now, in two offices, with a third about to open in Hobart, Australia. It is also eyeing South Africa, Asia and other territories.

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