Trevor John, co-founder of Underdog Fantasy, on the business model of fantasy sports

If you think back to 2015, DraftKings and FanDuel were spending so much money. It's very similar to today where every other commercial is a sports betting commercial. I think as the businesses have evolved, they've gone from "this is something we can do with our friends" to "this is a business that can really make money."

It can still be fun for customers – obviously, it's a product people like to play, and it has to be. But as we're talking about the shift in the market and what products are doing today, you're seeing more focus on revenue generation. How do we make money from customers? How do we get them to play paid products? Even companies that started as free-to-play are moving into revenue-generating models.

Was there a key catalyst for this shift in the fantasy sports industry? Similar to how COVID and stimulus impacted retail stock trading?

I think it happened a little before COVID, when PASPA was overturned. If you remember, FanDuel and DraftKings were actually planning on merging. The FTC blocked that, and then a few months later, PASPA was overturned. In those moments, everyone realized how valuable fantasy product customers would be for sports betting.

The main focus of the industry became how to acquire customers and get them into sports betting and iGaming – products that generate substantial revenue. The question became how to acquire them cheaper than competitors. The monetization aspects of sports betting are well-established – it's been around for as long as there have been sports.

So fantasy sports acts as lead generation for more lucrative forms of gaming?

Definitely. That's why FanDuel has done so well. They had this huge database of fantasy customers, and then they were acquired by Flutter, one of the largest gaming companies in Europe. They had the technology to roll out immediately, whereas DraftKings had to build from scratch. DraftKings was running on a white-labeled product for a while before converting to their own technology.

FanDuel had all the pieces in place to capitalize on their customers and convert them from fantasy into sports betting.

What do you see as the key elements that make fantasy sports apps or game formats successful compared to others?

Right now, it's very hard to differentiate in the market. If you look at the products in each game category – FanDuel, DraftKings, Underdog, PrizePicks, Betr – the essential product is the same. There might be some features that people prefer on one platform versus another, but the core offering is similar.

That's where you have to figure out how to create loyalty with your customers. Whether it's through branding, marketing, partnerships – there are different approaches. Everyone these days is building a really solid product, but it's hard to differentiate yourself in that space.

That's where product innovations come in, but the challenging thing is all these companies have good engineering teams that can fast-follow. If they see something working on Underdog, pretty soon it's going to pop up on Betr and PrizePicks, and vice versa.

Could you break down the major revenue streams in fantasy sports?

Underdog offers essentially two games. There's the season-long fantasy product, which is great because you play it generally in the off-season. It's a big tournament that you're drafting all summer and it keeps you active in the app throughout the season.

Then there's Pick'em, which you can play every single weekend for football or every single day for baseball or basketball. These are in-game offerings that keep engagement high. That's also where the majority of the revenue comes from because you're getting more transactions versus the one big yearly transaction from season-long fantasy.

FanDuel and DraftKings have their weekly DFS contests, generating revenue on a weekly basis, plus nightly contests for other sports.

Underdog now has a sportsbook up and running in North Carolina, and they're figuring out how to launch across many states. It's all about upselling different customer segments – how do you get draft players into Pick'em? How do you get Pick'em players into sports betting? As customers move along that pipeline, they become more valuable.

Some numbers suggest companies spend $500-800 to acquire sports betting customers. But for fantasy, you can spend a tenth of that. If you're doing free-to-play, customer acquisition is cheaper, but then you have to figure out how to increase conversion rates to paid products.

Is there a "whale" dynamic in fantasy sports, where a small percentage of users generate most of the revenue?

Definitely. All these companies have VIP programs. If you spend a certain amount of money, you get better perks, maybe some swag, or invites to events like the Super Bowl. It's about creating loyalty from your highest-paying customers.

It's definitely a tough area to navigate. There have been some articles published recently in the New York Times about sports betting and their VIP programs creating terrible situations where people are spending their savings or hiding things from their spouses.

Fantasy has those same dynamics that you have to balance – what's good for the customer versus what's good for the business. With any product, whether it's fantasy sports, sports betting, or mobile gaming, these addictive behaviors can be problematic.

Is fantasy sports particularly popular with younger audiences, or is it spread across age groups?

It was always surprising that it wasn't as young as we might have thought. Part of that is just that when you're young, you actually don't have much money. The biggest demographic is certainly that 30-35 to 45 range where people have disposable income.

But there's always the question of when to acquire users. If you acquire them younger and have them in your ecosystem longer, that's better for your business.

Is there tension between designing social, fun experiences versus the business model imperative to move people into betting or other higher-value products?

Of course. Anytime you're building a business with multiple products or different aspects targeting different types of customers, you have to balance the needs and wants of the customers. How do you customize their experience so they're getting what they want, while sprinkling in suggestions like "if you haven't tried this, maybe you should"? How do you embed that into your product in a way that feels natural?

From a business perspective, even Daily Fantasy still makes money and generates revenue. If everyone is just sticking with the draft product or best ball product, the company will definitely push to get them into higher-revenue products, but the company can still exist and be successful even if conversion rates are low.

There are some smaller companies targeting specific underserved sports, and it's interesting to see if they can be successful in these niche markets.

All products face this challenge – if you come to Underdog for the best ball offering and that's really what you're interested in, you might get annoyed seeing constant pushes toward Pick'em. But that's true for basically every product out there these days. How many people are annoyed with Gmail trying to push you into Docs and Drive? It's part of the reality of growing businesses.

What do you think about prediction markets, which have been hot around elections and are now moving into sports? What advantages or disadvantages might they have against dedicated fantasy sports products?

They're certainly more competitive with sports betting than fantasy. Some states are obviously pushing back against sports prediction markets.

It's tough because if they actually can operate in all 50 states, that's a huge advantage – fantasy can't even operate in all 50 states. They're essentially offering the same product that sportsbooks are offering, probably with less regulatory oversight. Most states have quite a bit of regulatory compliance for licensed sportsbooks, not to mention tax reporting requirements.

It's unclear what happens in four years with the next election, or with potential changes at the CFTC. I can't imagine that states are happy these platforms are bypassing their gaming departments. It wouldn't be surprising to see more cease and desist orders.

Then there's the question of customer acquisition – do they start advertising like traditional sportsbooks? Or are they still trying to blur the lines by saying "we're a prediction market, not sports betting" and using terms like "trades"?

Every sportsbook is probably thinking about this space and whether they want to enter it. But if you're FanDuel operating a prediction market, regulators might start looking differently at your entire business. There's almost a benefit to prediction markets being off to the side.

The main prize that we haven't really talked about is iGaming and online casinos. Only about six states have legalized it so far. If we're talking about ARPU, casinos are the maximum – maybe only mobile gaming is higher. I don't see any big players really going in on it until there's more clarity around regulations.

What about Fanatics moving into betting? Do they have a right to compete with established companies?

They're just starting out still. I'd lump Fanatics in with Penn, which is using ESPN as their lead gen. It's hard to tell what's really working. Penn made the first bet with Barstool, which never really worked out, and then they pivoted to ESPN, which is definitely a bigger brand.

It's hard to say if the strategy works – if you're going to buy a jersey from Fanatics, does that make you more willing to trust them as a sportsbook? Or do you think of them as a sportsbook when you're trying to place a bet?

If I'm Fanatics, I'm trying it. It's probably not working as well as they want at this moment, but it’s growing. Over the long term, they could add a fantasy piece if desired. Then they'd have an offering that FanDuel doesn't have with all the merchandise. It's not a bad position – their merchandise is sustaining the business, so they can be patient with their sportsbook investment until it gains traction.

What’s the role of brand and consumer loyalty in the space?

It's clear that the conversion from daily fantasy to sports betting is such a well-trodden path. That's where it really sets up Underdog and maybe even Sleeper companies to have more success and be able to compete in the future, largely because they're more focused on the fantasy experience.

They're competing over the same customers at this stage with these products. If you can build up some brand loyalty—for example, if you're in Michigan and FanDuel is operating there, but in a year, Underdog Sportsbook comes out and you already love Underdog's fantasy product—it's natural to think: Why wouldn't I bet on Underdog Sports instead of FanDuel? There's one less app to manage, less overhead, and a single wallet.

I think the question is how do you chip away at that market? FanDuel has advantages in their technology and ability to offer basically every bet and be good about setting lines. If you're a professional bettor, you're going to be checking every line on every single app, but for most people, it's really just about: when I pick up my phone, what's the first thing I think of? How do you become top of mind or secure a spot on someone's phone home screen?

If everything goes right for fantasy sports companies, what does the industry look like in five years?

The pick'em space right now is interesting in that there's a difference in companies. PrizePicks has not raised venture capital, while Underdog and Betr have obviously raised funds. Then there are smaller products like Sleeper doing pick'em, but their main product is season-long fantasy.

Underdog seems to have the most ambitious vision – they're explicitly going after the sports betting market. I think all these companies can be successful if they just stay in the fantasy space. That's actually how good that business is. They won't be competing with FanDuel and DraftKings in terms of total market market cap, but they can be very successful businesses.

It's interesting to look at other players in the sports betting market like Caesars and MGM, or even Fanatics, who don't have fantasy products. Are they looking to add this fantasy component in five years? And then who knows what happens with prediction markets – if they suddenly become the next big thing, I can imagine many different types of products emerging from that space.

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