Wed, Dec 8, 2021

Crypto and Sport: The Blockchain Is Changing the Landscape of Sport as We Know It

The cryptocurrency sector has proliferated in recent years, with a multitude of new platforms and systems expanding the availability and accessibility of cryptocurrency as a legitimate environment for mainstream investment. Consequences of this rapid growth include the uptake of sponsorship agreements between cryptocurrency businesses and sports teams, the issue of fan tokens, the selling of non-fungible tokens (NFTs), and the application of blockchain technologies in areas such as ticketing and marketing.

Partnerships with crypto firms are becoming more common, in part a result of changing regulations regarding the advertising of gambling companies, but also due to the financial upside presented to clubs by prospective crypto sponsors and the use of blockchain technology in generating income. For example, clubs are looking to “fan tokens,” a digital share in low-end decision-making processes at a club which can be bought by fans, as an alternative revenue stream. This opportunity for fans to interact with the club, beyond buying a shirt or attending a game, first took root in the American sports market. It is now beginning to gather momentum in Europe and elsewhere, with fan tokens offered by football clubs around the world, including PSG, Arsenal, Aston Villa, Everton, Leeds and Manchester City.

NFTs represent another opportunity for clubs to increase revenue through the digitization of their brand. An NFT is a “one of a kind” asset in the digital world, authenticated on a blockchain, which can be bought and sold but have no tangible form of their own, a certificate of ownership for virtual or physical assets. This year, NBA Top Shot, the licensed video highlight collectible brand, has made over USD 450 million in sales of NFTs in the form of 5- to 10-second in-game clips. Another example is Virtually Human Studio, a Sydney-based company that has developed a virtual NFT horse racing game called Zed Run. In this game, users buy NFTs (horses) and can win money by winning races, breeding horses and selling horses on secondary markets. As a gauge of the potential value in selling NFTs, one of these digital horse assets was sold for AUD 120,000.

Collaboration with crypto businesses also has implications for the clubs themselves. The rapid growth of a poorly regulated crypto sector inevitably incentivizes bad faith actors to enter the market. Differentiating between legitimate companies and fraudulent schemes, a prominent example of which is the scam, is difficult to achieve without conducting thorough due diligence. The failure to verify that the company is legitimate could have significant financial implications; therefore, it is important to undertake thorough due diligence of prospective commercial partners.

Recently, Binance, one of the world’s largest cryptocurrency exchanges, entered a €30 million sponsorship deal with Lazio, despite being banned from operating in the UK by the FCA and facing several probes from U.S. authorities, including financial regulators, for money laundering and insider trading allegations. This is not an isolated case. For example, Chatex, a crypto currency exchange, was recently placed on the U.S. sanctions list following an investigation into allegations of money laundering that found that more than half of deposits into the exchange came from illicit or high-risk activities such as darknet markets, high-risk exchanges and ransomware. The techniques used to better understand Chatex’s customer base and the source of their funds are all made possible by the public nature of the blockchain and are, unfortunately, often neglected when conducting due diligence.

A timely example of the need to conduct effective and meaningful due diligence in this sector is Manchester City’s suspension of its commercial agreement with 3Key, a cryptocurrency business. Manchester City signed the deal last week, and a review of 3Key’s digital footprint found no evidence of the kind of information that would be expected of a credible company operating in the crypto space. The lack of any discernible profile, including key personnel, is the kind of red flag that even basic due diligence can identify and sends a warning to other clubs exploring similar partnerships that the world of cryptocurrency and its digital offshoots must be approached with necessary caution.

Beyond the more visible brand associations that come with sponsorship deals, clubs should also be cautious of the risks posed by fan tokens and the crypto businesses providing the infrastructure to host those tokens on a blockchain. As with the trade of in-game currencies and tokens in the eSports industry, fan tokens present serious money laundering risks. Wherever digital tokens can be purchased and sold for fiat, bad actors see the opportunity to launder proceeds of crime, either on fan platforms themselves or on secondary markets. With the exception of a few online platforms, most marketplaces for the trade of digital tokens do not carry out any know your customer (KYC), anti-money laundering (AML), sanctions or broader compliance checks on their users.

The success of NFTs and fan tokens has been a remarkable sideshow in the ongoing sponsorship boom of crypto in sport. As the Manchester City case demonstrates, all too often due diligence is a necessary safeguard preventing ill-advised partnerships, from both a financial and reputational standpoint. The commercial potential derived from engagement with crypto businesses is undeniable; however, this consideration should not supersede the need for due process. Clubs need to ensure that they understand the risks presented by the rapid growth of blockchain technologies and how this modern-day gold rush can be a magnet for opportunists looking to exploit counterparties attracted by the lucrative commercial potential of the crypto market.

We apply the full range of Kroll’s services to the crypto and blockchain industry, its customers and regulators. We assist businesses and individuals with the need for investigations, asset recovery, regulatory consulting due diligence, insolvency and cyber security. Using our traditional skills, proprietary technology tools and best-in-class assistance from partners, we have a uniquely broad and deep engagement with the crypto ecosphere, both on and off the blockchain.

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