ICOs, Gambling DApps and Gaming Regulation on the Blockchain: Why Blockdraw and D2W are Different

On our speaking tour last summer, we have been preaching about the challenges that all current gambling DApps that either don’t follow current gambling regulations OR were financed by ICOs will face, in attempting to get future mainstream regulation. The importance of this issue cannot be understated as it goes directly to the value of the business. Herein we will explain the reasons why regulation of this new type of gambling businesses remains crucial, why consumers should care, and why regulators will object to many of these business practices.

Recently in one of my telegram chats, an ICO told me that the UKGC (United Kingdom Gambling Commission) is just cryptocurrency unfriendly when we mentioned that one well known ICO, Funfair, had apparently failed to gain a licence (they voluntarily withdrew the application, which in regulatory ‘speak’ is a failure, usually to allow an applicant a way to save face). Because I worked as the Deputy Director of Licencing at the Alderney Gambling Control Commission, I had a very different take on that matter, and on the “friendliness or un-friendliness” of the UKGC towards cryptocurrency projects.

Let’s start at the beginning. Gambling regulation was born initially out of a need to root out corruption and illegal activity. It’s no coincidence that mobsters loved gambling as a wonderful money laundering tool for decades before regulation ultimately pushed them out. But having mobsters control gambling tables also meant that sometimes games were rigged against players — the house edge was manipulated further in the operators’ favour.

And this is the first aspect of regulation, probity checks.

It’s a reasonable assumption that if a potential operator does not have a business record of cheating people, criminal activity or business practices that involve deceiving people for anything, then it is somewhat reasonable to assume that he has a higher probability of not cheating people in his gambling business. It is the regulators’ first line of defence for protecting players interest s — and perhaps the most important.

As regulation became more professional, it became obvious that relying just on an operator’s background wasn’t enough. Ongoing regulation was required to check business finances, test games (both online and offline), ensure the security of servers (for online), test random number generators (online and offline), and ensure that the operator remained a fit and proper person (financially able to support the business with legally acquired funds, legally able to operate, and a person of good moral character).

The heart of all this was player protection from fraud, game manipulation and security of their player funds. All of it is and remains important.

It should now be obvious that a regulator wouldn’t want to be criticized for accepting any application that might carry a future risk of a probity failure, even if on the surface the applicant appeared to be otherwise qualified.

So now that you understand the basics, it is time to understand how all this relates to DApps and ICOs involved in the Gambling business.

First of all, while there is a burgeoning area of ICO regulation blooming in far-flung offshore havens such as Malta, Gibraltar and other localities, 90% of these gambling ICOs got done before any ICO regulation existed. Even for some ICOs which are located in those countries today, the regulatory processes, were, at best, new and untested in 2018. But in most cases, regulation didn’t really exist. Even post ICO, what regulation now exist can’t hope to protect token buyers prior to regulation. So herein lies the challenges they face, since they ran unregulated (or regulated “lightly”) ICOs: a gambling regulator has to look closely at probity. Why? Because if in the future that ICO gained public attention for something it did in the ICO, then that regulator will be held accountable — and most regulators simply do not understand the Blockchain community enough to take that risk. Does this mean that a regulator who rejects ICO funded businesses is cryptocurrency unfriendly? Not at all, not if an operator can meet the existing server-based standards, comply with age verification, meet local AML/KYC laws and provide generally all the same features that current online gambling business operates under. In fact, you would find that these regulators would love to see quality Blockchain operators successful, for they hate the losses of player funds occurring under their watch (from fraudulent operators who skipped past regulators checks, to failed operators they didn’t catch and operators who were unable to control employees from cheating players). But back to ICOs: what are just some of the things that could go wrong or have gone wrong?

• Deceptive Practices used to Sell Tokens (which could just mean failing to omit information that might impact their Token in the future, such as implying that the token would be the gambling currency when the plan was to also run on ETH;
• Not doing proper KYC/AML on the token buyers (how does the regulator know who gave them the money?) — what if some came from North Korea or Iran during sanctions, for example;
• The Token later being declared a security, but was sold as a utility token — which could create regulatory sanctions from a future regulator;
• Significant loss of value for Token holders, with the ICO using the proceeds to build a profitable business. Whether litigation was possible or not, this question goes right to the heart of probity — if the operator did the ICO solely to garner funds, with no concerns for the Token holders, is it morally right for him to hold on to these funds at the expense of the Token holders? Besides, the regulator doesn’t need either the negative publicity or customer complaints (or even litigation) that are sure to follow.
• ICO tokens being later deemed to be player funds. This is something every ICO needed to avoid. But if the ICO later makes markets in that token using some of the proceeds to buy back tokens, then some might argue those funds were either partially or totally player funds. That means that the operator is responsible for playing them back on demand (based on certain circumstances). It would obviously mean that those monies could not have been used for funding the project. Now, this isn’t a legal distinction, it’s a regulatory one, meaning that ICO token purchasers couldn’t recover in a lawsuit on this basis, but that won’t matter to the gambling regulator.

These are just the highlights of some of the problems a gambling ICO faces when getting regulated in the real world. We think that if you did an ICO and hoped to gain a future license with a 1st tier licensing body, like say the UKGC, it will arguably be difficult or impossible. Will Alderney, Malta and Curacao take these companies business, in some cases? Yes; but these licensing bodies don’t really cover the best-regulated countries nor do they all offer the highest standards of player protections; and even with them, a lot needs to be right before the regulators will take the risk.

So why should you, the player care? Well if the ICO was willing to deceive its ICO investors, even slightly, what does that say about their business practices? They promise to use the Blockchain to deliver fair games; but are you a programmer, and even if you are, or have a full team that goes over the code, why should you trust this review or better yet, the company who was willing to deceive ICO investors? The idea behind programmable Blockchain projects in gambling that they are totally trustless is nonsense. Even ETH smart contract gambling DApps are not totally trustless, because they all rely on third-party random number generators which are potential vulnerabilities. There is no such thing as perfect trustlessness when programming on the Blockchain in gambling. Cryptocurrencies like BTC get about as close as you can come, but programmable games are almost sure to contain some vulnerabilities, so it still remains important to trust the operators. Then there remains the issue of game testing and software security. It will help when testing companies are required by regulators to test these new types of software. The Blockchain community is full of open-source projects that were hacked months or years after their development — you cannot rely on open source to protect your interests or other people to test the games.

Your first line of defence is the same as for regulators: can you trust the operator?

So if you trust those anonymous smart contract games, do so at your own peril. If you play on websites that were funded by ICO money, do a little due diligence and ask yourself: did they attempt to deceive their ICO token purchasers? Where is the token price today? What have they built? The answers are available in telegram chats and blogs, and the evidence is there to find.

What about so-called trustless DApps? In most of these cases, they offer anonymous gambling and have no regulation. You can find them on ETH and EOS. Some are not even DApps but are designed to deceive players to believe they are entirely trustless. There are some that are regulated by Curaçao and do run proper businesses, but those are few and far between. It’s the wild west of gambling in this sector. If you support these anonymous sites, you are likely to be supporting underage gambling and assisting businesses to evade normal business practices that have protected the player for decades. Security breaches of online gambling sites are rare so there is no need to hide your identity. These sites make no effort to weed out problem gamblers, cheats or kids gambling. Haven’t we seen enough fraud in the ICO space? Just because it’s possible, are the advantages of anonymous gameplay really worth the disadvantages? It’s for you to decide, but there are other alternatives.

So where is the future going?

The future is going to live on the Blockchain, but it will be owned by operators who didn’t do ICOs and built software designed under the well tested current server-based framework that regulators understand and trust. There are decades of experience in this area and there is no reason why Blockchain projects cannot take advantage of these technologies and still provide all the benefits and promises of the Blockchain.

This is why we at Blockdraw didn’t do an ICO; we understood it would kill our chances at real regulation as well as player trust. It’s also why we chose to run our Blockchains on private servers and use SHA-256 cross hashing (LEAP protocol) against a public blockchain to ensure the integrity of our chains — this means we could offer regulators and businesses real security and still give players the verifiability that the Blockchain affords. Finally, instead of using third party random number generators, we developed a system using mathematics and cryptography (Golle algorithm) for players to work together to securely generate random outcomes that even we cannot see; one that used as its inputs industry standard tools for generating entropy for the game.

There is no other operator on the Blockchain like Blockdraw that a) didn’t do an ICO; and, b) isn’t operating in the dark with anonymous smart contracts; or, c) follows industry standard procedures for registering players for KYC and age verification.

And why is this important?

Unregulated and fraudulent ICOs did plenty of damage to the “value” of the Blockchain, but its benefits remain. Users who are given a choice between a trustless regulated Blockchain system and the current server-only trusted third party model that exists in online gambling today will eventually beat a path to our door . Not only that, but regulators will actually prefer it and encourage operators to move further in our direction. Regulators are frustrated by player fund loss risks. Blockchain gambling has the real potential to remove two big risks regulators face: game manipulation and protection of players funds.

We have been preaching these topics for nearly 2 years now and if you look closely, all the DApps that are attempting to mainstream themselves are now moving in our direction. We understood how this was going to workout because we were regulators. The industry is coming to us.

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