Gambling on China
Macau isn’t the only game in town for passionate Chinese playersFriday, 01 October 2010
Casino gambling is illegal within the borders of the People’s Republic of China. But the official definition of what constitutes commercial betting activity in other areas of Chinese life could best be described as a work in progress.
Gambling-type behaviour occurs in so many activities and via so many media in China that were the authorities to turn more attention to policing it, they would probably not have time to do anything else.
So if the Chinese government’s position is essentially one of containment of its citizens’ gambling impulses rather than blanket prohibition, how liberal could that containment policy be? Could the model be stretched to include a facility somewhere inside China that walks like a casino duck and quacks like a casino duck but in fact goes by another name? That pattern has already been seen in Vietnam, where some holiday facilities are given three-line titles that mention just about every leisure activity known to humanity except the ‘c’ word. The foreign media covering China certainly got excited about the possibility of casino-type activity in other parts of China aside from Macau when, in January this year, details of a 10-year-plan for tourism development on the southern holiday island of Hainan were revealed.
The English preamble to Hainan’s 21st century ten-year-plan stated it would “explore ways to promote local lottery and gaming industries”. The use of that phrase ‘gaming industries’ was what got some analysts and commentators jumping up and down.
Seasoned China-watchers will not be surprised to learn that this apparently amber signal changed abruptly back to red in March. “Hainan will not follow Macau’s road. Our target is to turn into an all-season garden for people across the world,” Tan Li, the Vice Governor of Hainan province, told Chinese news agency Xinhua. Hainan apparently went from embryonic gambling hub to international garden centre either in one swift Beijing slap down or one hasty retranslation.
This position seems to be consistent with what’s been happening in the state lottery sector in China. Gaming that looks like casino slot machine gaming has been on the wane in officially sanctioned outlets, while sales of conventional lottery products are on the up. In February 2008, China Lottery Online’s video lottery terminal (VLT) halls were put on shorter opening hours, lower returns to player, and a daily limit per player on the amount of money bet. It quickly showed in the figures. VLT sales were down 96% in the first four months of 2009, according to data from the China Welfare Lottery Issuance Centre (CWLC), the main lottery operator alongside the smaller China Sports Lottery Administration. The fact that VLT machines outwardly look a lot like casino slot machines (the crucial difference being that the ‘brain’ for VLTs is centralised, rather than being in each unit, and prize issuance is centrally programmed) might have something to do with the negative attitude of officials toward the product category.
By contrast, the sales of more conventional lottery products—draw tickets and scratch cards—have been soaring. In the first four months of 2009, sales of sports scratch cards rose 387% due to national expansion of the point of sale network that had covered only nine provinces in 2008.
Cherries on the Cake
Alternatives to casinos for gaming investors in China
The possibility of the tide moving back in favour of pseudo-casino gaming within China, and that in turn having an impact on Macau, can’t be ruled out entirely. There is, though, a lot of non-casino gaming fruit hanging much lower down the tree in China that could potentially be picked by domestic and foreign companies interested in making money.
As we reported in the December 2009 edition of IAG, at one end of the spectrum is online computer role-playing games where participants compete for access to virtual treasure and virtual currency. While superficially this doesn’t look like what the casino industry would traditionally think of as gambling, players do arguably exhibit gambling-like behaviour, such as a desire to beat the ‘house’ or other players by spending large amounts of time and money to achieve dominance in the game.
Then there is the manifestly legal state lottery system. The Welfare Lottery was founded in 1987 and donates money it raises to more than 80,000 community projects across China. Welfare lottery sales (turnover) alone exceeded RMB70 billion (US$10.44 billion) in 2009, according to CLWC. In the same period Macau’s gross casino revenues were MOP119.4 billion (US$14.95 billion) according to figures from Macau’s Gaming Inspection and Coordination Bureau.
In May this year, the Chinese media reported the combined sales of the two lotteries had reached RMB34.62 billion (US$5.07 billion) in the first quarter of 2010—an increase of 24.5% compared to the equivalent period a year earlier. In the same period, the gross revenue of Macau casinos was MOP40.95 billion (US$5.13 billion), a 57.3% increase year-on-year.
Gaming investors and equipment suppliers might reasonably assume they are on safe ground if they were to put their money and their efforts into chasing the officially sanctioned state lottery market. China has an official population of 1.3 billion people. In 2007, 49.5% of them were in the most economically active 15 to 44 age group, according to estimates by the United Nations. That’s a huge number of potential lottery customers. In practice, as with so many things in China, the situation—including risk management—is more complex.
First, the good news. Unlike the command and control economy experienced in the first three decades of China’s communist revolution, private enterprise has permeated all aspects of the economy, including the lottery. Companies—including ones based in Hong Kong and even overseas suppliers—tender on a city-wide or province-wide basis to provide lottery services such as point of sale kiosks or mobile phone applications for delivery of lottery tickets and services.
Now the not-so-good news. By the government’s own admission, China has a lot of corruption. Any business generating the sort of volumes of cash created by lottery sales will be a target for the bad guys. One big problem used to be lottery consolidators purchasing blocks of official tickets anonymously, reselling them to the public and then failing to honour winning tickets. The government stamped down on this practice when it introduced the first national regulation for the state lotteries in May 2009. The new rules also involved a complete re-tendering process for the existing lottery service providers and a provision for new, higher levels of registered capital for the bidders.
Raising registered capital requirements is a technique the Chinese government typically uses if it wants to stamp out unruly or illegal commercial activity. It has the twin benefits of screening out the fly-by-night operators and of guaranteeing compliance with the government’s wishes by the bigger companies. Failure to comply could result in the freezing of the guaranteed start up capital, which effectively acts as a bond. In theory, this system should actually work to the advantage of larger Chinese and foreign companies.
This level of political risk would probably be acceptable to investors in China’s official lottery system, were it to end there. But it gets more complicated. China is governed in a less centralized way than many foreigners tend to assume. The state lotteries are administered on a provincial and even city level in the bigger urban areas. This means deals with suppliers are also done at that subsidiary level. That’s fine as long as the central government is comfortable in broad-brush terms with the way they are being administered. If problems come to its attention, the central government can unilaterally cancel agreements at local or even national level. The possibility that government defensive action against corruption causes collateral damage for investors playing by the official rules is ever present. This does not amount to a counsel of despair with regard to foreign investor involvement in China’s official lotteries, but it does point to the importance of having a local partner with insight of the potential pitfalls.
An example is the regulatory turbulence experienced recently by the Sports Lottery. The Sports Lottery is authorised to take bets on foreign soccer matches and NBA basketball games (though not ‘in play’ betting during live match broadcasts—one of the most popular betting formats among Asian gamblers). The problem is that the sports lottery has been dragged into the corruption scandal facing Chinese domestic soccer in China, including allegations of match fixing and even the purchasing by players of places in the national squad. While it cannot automatically be assumed that corruption in the governing hierarchy of domestic soccer extends to the administration of the Sports Lottery, the central government appears to be acting as if it assumes that to be the case. A moratorium was recently placed by the central government on the use of mobile phone applications enabling betting on the Sports Lottery. That was despite the fact that a number of companies had already concluded deals to supply such applications to Sports Lottery managers in several provinces.
In mid-September, China Daily—an English-language newspaper normally thought to have good access to official government thinking—reported that an investigation into a former vice-chairman of the Chinese Football Association (CFA) and two other officials “has fuelled widespread suspicion that the former CFA was deeply involved in match-fixing and soccer gambling”.
The newspaper added tartly: “The development has also confirmed the general belief that the chaos in Chinese soccer is not a matter of one rotten egg spoiling the whole pudding. The sport here is rotten to the core and only a full operation can remove the problem.”
Chinese entrepreneurs are creative in offering alternatives to baccarat and other casino pastimes
There’s more to commercial gaming within China than just the state lotteries. There are physical parlours and arcades in many towns and cities offering customers games that can look to an outsider remarkably similar to casino gaming. These ventures are probably too rich a brew for foreign investors to savour and are likely to carry much higher regulatory risk than would involvement in the state lotteries. They may, however, be of interest to Hong Kong or Macau-based investors or those seeking indirect exposure to the sector via some of the gaming equipment suppliers based in the PRC that have sprung up in the last few years to serve this grey market.
The games in these venues range from the technically clever but probably legally compliant—such as pseudo baccarat video games played in arcades for token prizes; to the downright illegal—underground slot parlours using video slot machines imported from Russia or produced domestically and offering cash prizes.
An executive with extensive knowledge of mainland China’s commercial gaming market told Inside Asian Gaming: “There are a lot of game parlours and amusement with prizes arcades in China, but it’s a grey area of the law. A lot of the games are actually baccarat-type games just using different names for ‘player’ ‘banker’ and ‘tie’.
“The government tends to regulate by the name of a game. If it’s called ‘baccarat’ it’s considered gambling. It’s different in Hong Kong. There the definition of gambling is if you are playing for real money rather than tokens. That’s why in Hong Kong in the video arcades you have baccarat and blackjack machines and they are legal. They are very similar to the gaming machines in Macau casinos. The difference is that in Hong Kong you can only play them for tokens, not cash. The arcade owners in Hong Kong actually won a lawsuit against their government a few years back to clarify the definition of gambling. But in China they have it written down somewhere that if it’s called ‘roulette’ it’s illegal, if it’s called ‘sic bo’ it’s illegal and if it’s called ‘baccarat’ it’s illegal. That’s why in China you see a lot of games that are very similar to baccarat, but have different names and use different symbols. So, for example, on a baccarat type game you can’t call the betting options ‘player’ and ‘banker’. You have to call it something else such as ‘Betting on the Flowers’. There’s one version of baccarat known in China as ‘Three Sisters’. There’s a blonde-haired girl and a black-haired girl representing ‘banker’ and ‘player’, and another girl representing a ‘tie’.
“Roulette can be ‘Betting on the 12 Animals’. That’s a very strange version of roulette with a wheel based on the 12 Chinese astrological signs. It looks like a kids’ game, but it’s still roulette.
“Video parlours with these technically ‘legal’ games need two licences—one issued by the local police and one by the Ministry of Culture. The local Public Security Bureau office is responsible for overseeing these operators.
“Occasionally, the police will put one of these substitute games on a ‘banned’ list. But then the vendor simply calls the game something else. Also, it’s difficult for the police to supervise every venue all the time. Sometimes in one of these parlours, in a corner or a back room, you will see they may have some other casino-type machines paying cash prizes. Everywhere you go in China you can see recycled slot machines from Russia. And then there are some venues that are totally underground, with illegal casino table games and illegal slot machines.”
Officials tend to take a softer line on video or online versions of games that are distinctively Chinese, says the insider.
“If it has ‘mahjong’ or the words ‘choh dai di’ in the title, for example, that’s generally okay because they are perceived as games rooted in Chinese culture that are often played for fun rather than for money,” says the source.
“Even in Hong Kong there are choh dai di machines and mahjong machines. There are about 300 arcades with such games in Hong Kong. It’s similar to playing on a home computer, but you can put money in.
“Mostly the play on the baccarat-style games in parlours or arcades in China involves paying cash to play against the machine. Most of the venues offer tokens as rewards that can be redeemed for noncash prizes. In some places if the management knows and trusts the player, they may even be willing to exchange the tokens for money. It’s obviously risky for managements, however, as the authorities stamp down pretty hard on that kind of thing when they find out about it,” adds the source.
Getting players is easier than getting their money
The danger with having physical gaming inventory in a real location in China is if the authorities take exception to it they may confiscate it and you can lose the family farm. That happened almost literally back in 2001. Hong Kong businessman Cheng Yun Pung reportedly invested the best part of US$100 million setting up a Beijing Jockey Club, stocking it with some of the finest bloodstock money could buy, only to be told eventually by the authorities to turn his horses into pet food. One halfway house solution produced by gaming entrepreneurs in some cities in China is to operate a physical location offering virtual casino-style gaming.
“There are places that look like ordinary Internet cafés that actually have an area where people can play casino-type games online for money either on a peer-to-peer basis or against the house. The games against the house will typically use live dealers with the video streamed from a studio somewhere—it could be inside or outside China.”
Online casino gaming for cash prizes is not officially tolerated by the Chinese government. But the operators of such services either officially renounce the targeting of Chinese citizens (if they are reputable companies with public profiles internationally) or adopt a ‘catch me if you can’ attitude if they are less reputable, changing domain names on a daily or even hourly basis to beat the attentions of China’s Internet censors.
As any online gaming operator with customers in the PRC will tell you, the challenge is not so much getting players, but in getting access to their money. Challenges include affiliate fraud, and more centrally the difficulty in collecting and banking player payments. China recently clamped down on the agents that funnel money from online players to service providers. Even more significantly, the government has also clamped down on payment processing companies involved in facilitating payment by credit or debit card for cross-border services including online gambling. Starting this month, any company wishing to be licensed as a payment processor in China must put down a capital deposit of RMB100 million (US$14.9 million). That’s a significant chunk of change to risk if you incur the displeasure of the authorities.
“The whole of the online payment industry is being re-regulated now,” says a source with knowledge of the online industry.
“From 1st October, online payment companies are required to have RMB100 million registered capital in order to have what’s known as a third party payment gateway licence. The registered capital requirement used to be between RMB5 million and RMB10 million. There used to be several hundred online payment processors serving
China. Many of them were funded by international venture capital firms. The big guys think the new system is a good thing because they can afford to put up the money. But the small guys are going to have to get out of the business.”
“Whenever the Chinese government sees a problematic area, they try to regulate it by raising the financial bar. So you need to have huge amounts of capital deposited in a designated account. That means if something happens the government doesn’t like, it can lock up your money. Essentially they don’t want small participants in the market that they don’t know and can’t easily control. The government wants businesses to register with it, show it they have anti-money laundering and internal control procedures in place, and send transaction reports to the government every month. It’s actually a pretty effective way of regulating market activity in gaming and in other sectors.”
Were this tactic to be used against the sometimes-unruly video parlour and gaming arcade sectors in China, it could quickly bring them to heel. The history of pachinko in Japan, however, shows that today’s ‘grey’ operator can soon turn into tomorrow’s gaming elder statesman. Don’t bet against one of China’s gaming arcade owners one day becoming a billionaire.