The Valve effect: Washington State and skins wagering

While the dismissal of a skin betting civil lawsuit in early October is a small victory for video game developer Valve, it leaves several critical issues unresolved, compounded by the Washington State Gambling Commission's cease and desist order, write Jason Bacigalupi, Glenn Light and Karl Rutledge of Lewis Roca Rothgerber Christie.

ESports, and also the secondary markets related to eSports, have enjoyed exponential growth over the past few years. One such secondary market — skins wagering — is no different.

The estimate of the handle for the first half of 2016 was $1 billion, and one industry expert estimated the skins wagering market would reach $20 billion by 2020. However, much of this market is, at least indirectly, dependent on the Valve Corporation.

The skins that are wagered are used in Valve’s popular game, Counter-Strike:Global Offensive (CS:GO), and they are transferred using Valve’s Steam marketplace product.

This creates a unique situation, as Valve not only owns the currency being wagered, but also the only marketplace that can transfer this “currency.”

This also creates a highly volatile market, as actions taken by or against Valve can have immediate and substantial ramifications.

For example, over just the past few months, beginning in July 2016, actions taken by and against Valve, have caused those $20 billion skin-wagering market projections to fall approximately 90%.

This article will explore the events that likely contributed to this massive decline, analyse those events in greater detail, and also provide operators and others involved in eSports and the online gaming industry insights into potential pitfalls and issues that will likely arise as a result. 

I. Civil lawsuits involving Valve
Over the past few years, Valve and third-party skin wagering sites have faced several federal class action lawsuits, in multiple jurisdictions, that were consolidated into a case filed on August 4, 2016 in the US District Court for the Western District of Washington (Case No 2:16-cv-01227-JCC) (“Class Action”).

The class action included named plaintiffs from 27 different states, and among other claims, alleged violations of state gambling laws, state consumer protection laws and the federal Racketeer Influenced and Corrupt Organizations Act (“RICO Claims”).

The class action was unlike other typical online gambling lawsuits that usually come down to whether virtual currency or virtual property is a “prize” under state gambling laws.

Instead, the class action alleged that Valve “knowingly allowed an illegal online gambling market and has been complicit in creating, sustaining and facilitating that market” by “allowing millions of Americans to link their individual Steam account to third-party websites, of which there are hundreds… and by allowing third party sites to operate their gambling transactions within the Steam marketplace.” 

There was no question that Valve knew that its co-defendants (and others) operated online gambling sites that accepted wagers of CS:GO Skins.

The class action plaintiffs were arguing a novel theory — that Valve, regardless of having no actual connection to the skin wagering sites, could face civil (and possibly criminal) liability by merely offering the Steam marketplace. 

Today, this remains an open question. One day prior to the Washington State Gambling Commission (“Commission”) publishing its October 5, 2016 press release (discussed below), the class action was dismissed.

However, the dismissal was based on a jurisdictional issue, which did not address the merits of the underlying state law claims.

Specifically, the court determined the plaintiffs lacked standing to pursue their RICO Claims because they failed to (and could not) sufficiently allege the required “injury” element under the RICO statute.

In making this determination, the court noted that “[a]lthough there does not seem to be a case dealing with this issue in the competitive video gaming context, the case law in the Ninth Circuit is clear: gambling losses are not sufficient injury to business or property for RICO standing.”

While the dismissal of the class action is a small victory, it leaves several critical issues unresolved. First, the plaintiffs will likely file an appeal of the decision to the Ninth Circuit, which could take a number of years to provide useful direction.

Second, since the dismissal did not address the underlying state law claims, the plaintiffs could also choose to pursue those claims in state court.

II. Valve’s actions prior to receiving the Commission’s cease and desist letter
In July, Valve issued cease and desist letters to more than 40 skin gambling sites, including the largest operators — CSGO Lounge, CSGO Lotto and CSGO Diamonds.

Valve informed the sites that the use of their Steam CSGO community website for commercial purposes, including exchanging skins for cash, violated Valve’s Terms of Use.

Valve gave the sites 10 days to cease any commercial use of Steam, after which Valve would pursue all of its available remedies, including terminating the accounts.

Valve likely sent these letters in an attempt to distance themselves from the issues and allegations in the class action, including the skin wagering sites.

Tellingly, Valve spokesperson Erik Johnson issued a statement that Valve wanted to correct “false assumptions” about their involvement with these sites: that Valve had “no business relationships with any of these sites… never received any revenue from them… and does not have a system for turning in-game items into real world currency.” 

While the letters and statement did show some affirmative acts taken by Valve to counter the fallout from the class action and skins wagering issues, the Commission’s  subsequent actions answered the question of whether the affirmative acts were satisfactory (at least in their opinion). 

III. Commission’s cease and desist letter and October 5 press release
On September 27, 2016, the Commission sent Valve a cease and desist letter, and followed that with their October 5, 2016 press release.

The letter, signed by Commission director David Trujillo, ordered Valve to “cease violating Washington State gambling laws” and “immediately stop facilitating the use of ‘skins’ for gambling activities through its Steam Platform.” 

The letter continued: “Valve Corporation must take whatever actions are necessary to stop third party websites from using ‘skins’ for gambling… including preventing these sites from using their accounts and ‘bots’ to facilitate gambling transactions.”

The Commission set an October 14 deadline for Valve to respond, including providing “supporting evidence” showing compliance with Washington’s gambling laws.

Then the Commission would determine whether it would “exercise its authority under state gambling laws,” which “could include: seizure and forfeiture of any property related to illegal gambling activities; forfeiture of Valve Corporation’s corporate charter; and possible criminal charges against employees for facilitating… illegal activities.” 

While the press release included less-threatening language than the letter, it provided some useful background of past interactions between the Commission and Valve.

According to the press release, the Commission had contacted Valve back in February 2016 regarding the alleged use of skins in online gambling activities in violation of state gambling laws.

Since then, the skins had continued to be used as consideration for illegal gambling activities on third-party sites. 

Washington State Gambling Commissioner Chris Stearns concluded: “[I]n Washington, and everywhere else in the United States, skins betting on eSports remains a large, unregulated black market for gambling. And that carries great risk for the players who remain wholly unprotected in an unregulated environment.

“We are also required to pay attention to and investigate the risk of underage gambling which is especially heightened in the eSports world. It is our sincere hope that Valve will not only comply but also take proactive steps to work with the Commission on future measures that will benefit the public and protect consumers.”

IV. Valve’s response
Valve responded to the Commission on October 17, 2016. Valve argued that it is conducting lawful commercial services, it has taken reasonable actions to curb any known and identifiable skins gambling activity, and that shutting down its Steam marketplace would punish the company, nearly 10,000 third-party game developers that use Steam to distribute their lawful products, and customers who use Steam for legitimate activities. 

The response stated unequivocally that “Valve is not engaged in gambling or the promotion of gambling, and we do not ‘facilitate’ gambling.” Valve was “surprised and disappointed that the Commission chose to publicly accuse” the company of conducting illegal activity and threatening its employees with criminal charges while having “no factual or legal support” for the accusations.

The response went on to provide an overview of CS:GO, and detail how 'skins' are just in-game items that are common features in computer games, which can be purchased or randomly awarded during game play. 

Valve acknowledged that skins gambling sites “appear to use” two Steam services in connection with their operations. First, they use Steam’s “exchange” service that allows its users to trade virtual items with other users (“Steam Trading”) and also purchase virtual items from other users (“Steam Marketplace”).

Valve receives no compensation for facilitating Steam Trading, and a very small transaction fee (in Steam Wallet funds) for Steam Marketplace transactions.

Second, Steam offers authentication services through an open internet standard known as OpenID, which allows a Steam customer to confirm their identity on third-party sites, without having to use their Steam credentials. This is similar to Facebook and Google, who offer OpenID to their customers as well. 

Valve categorically denied that any of its activities are illegal in Washington or any other jurisdiction, and that it does not understand the “legal or factual reasoning supporting” the Commission’s threats of criminal prosecution.

Valve also attempted to demonstrate its diligence on this issue — noting that it followed its cease and desist letters by shutting down the Steam accounts for the identified sites.

However, Valve claimed that it is virtually impossible to regulate every potential site, and that it can only enforce its user agreement when it can identify the site and corresponding account.

Thus, Valve purported it was doing its best to identify offending parties, and asked the Commission for assistance with identifying and shutting down such sites. 

V. Potential effects/issues
In the majority of jurisdictions in the United States, unlawful gambling is defined as: (1) the award of a prize; (2) determined on the basis of chance or a future contingent event outside of the contestant’s control; (3) that requires the payment of consideration.

If, however, any one of these elements is removed, the activity is generally lawful. 

Most online gaming operators that use skins, and other forms of virtual currency or property, offer various methods of obtaining the skins.

For example, players can earn skins through game play, purchase them directly, and also pay money for the chance to win skins based on a result of random chance.

Typically, this model satisfies the elements of consideration and chance.  Therefore, to remain lawful, operators must focus their efforts on eliminating the prize element.

Recent court decisions that have addressed the issue of “prize” and virtual items, although they did not involve a skins wagering model, have noted that virtual items that have no independent value (i.e., purely “bragging rights”) strongly support an argument that the virtual items have no monetary value, and are not a prize under state gambling prohibitions. 

While these decisions are relatively consistent, the Valve situation definitely complicates the issue.

For example, these relatively consistent decisions do not address the issue of whether an operator which permits (or indirectly facilitates) a secondary and illegal market for such virtual items may be exposed to liability.

Certainly, as will likely be explored further in Valve’s case, there is an argument that companies who are directly or indirectly connected to illicit activities should face potential liability.

The degree and type of liability will ultimately depend on a detailed analysis of the facts and circumstances, e.g., whether the company allowed, facilitated, or was complicit in illicit activities conducted by third parties, and if so, did they: (i) do so willfully; (ii) enjoy economic benefits as a result (and to what extent); and (iii) have policies and procedures in place, and provide training, to avoid such circumstances.

Just as in any other case, this will involve a careful evaluation of potential mitigating and aggravating factors that will sway a decision one way or the other.

Given the unresolved state of the law, the complicated nature of the foregoing analysis, and the serious ramifications at stake, we recommend that anyone operating, or planning to operate in this realm, engage knowledgeable and experienced gaming counsel who can navigate and provide sound advice in this rapidly evolving landscape.

Jason Bacigalupi is an associate in Lewis Roca Rothgerber Christie’s Gaming Practice Group. Glenn J. Light is a partner in Lewis Roca Rothgerber Christie's Gaming Practice Group. Karl F. Rutledge is a partner in the Gaming Practice Group.