Business Analysis: Bookmakers place their bets on a new age of virtual horseracing

William Hill turns to computer-generated games to offset losses from the real thing

William Hill said yesterday computer-generated horses, greyhounds, roulette wheels, poker matches and other virtual casino games account for one-third of its revenues, a sign of how far the betting industry has changed since the days of the back-street bookie.

The installation of Fixed Odds Betting Terminals (FOBTs), high-tech fruit machines that run computer-generated horse and greyhound races as well as virtual roulette games, has been a phenomenon for bookmakers, attracting bored punters who are readily parting with their cash while waiting for the next live race.

Revenues from these machines have grown from scratch in 2002 to about £420m last year. This has helped companies like William Hill weather bad results in live sporting events, and face down competition from other gambling sources.

This revenue stream has been especially important because, since the start of new football season, the punters' favourites, Manchester United, Chelsea and Arsenal, have kept winning. A spate of winning favourites in horseracing has also been bad news, and both Hills and Stanley Leisure, owner of Stanley Racing, have warned of poor results from their live sports betting division.

The less volatile results from FOBTs are providing bookies with a way of taking back some of these winnings from punters without them even leaving the shop. James Wheatcroft, of Investec Securities, said: "If punters are winning on live sports, it means they have more money in their pockets to spend on roulette machines." He is expecting FOBTs to account for around 35 per cent of William Hill's profits for 2004.

The machines are low margin, only about 2.8 per cent, but as Paul Leyland, of Seymour Pierce, said, this means the punter is kept entertained. A happy punter will keep gambling.

FOBTs are also a way for bookies to maintain earnings from their vast high street estates. There are nearly 9,000 betting shops in the UK, mainly in the hands of Hills, Ladbrokes, part of the Hilton Group, Coral Eurobet and Stanley Racing, and they have traditionally been perceived as dark, smokey, seedy dives. Betting shops are thought of as the preserve of flat-cap wearing middle-aged men who leave their whippet at the door, grubby banknote and betting slip in hand, for a flutter on the 2.55 at Doncaster. But that image, according to the bookmakers, is changing.

David Harding, chief executive of William Hill, said: "Until the 1960s, betting shops were illegal. When the Government did legalise them, bookies weren't allowed to do anything to encourage people to use them. Windows had to be blacked out, and televisions were only allowed in shops in the 1980s. It is only very recently that bookies have been able to change their shops to make them more customer friendly."

He said the biggest catalyst for change in betting shops business was the Government's change on betting tax in 2001. This took tax from bookmakers' profits rather than the punter, making betting instantly more attractive to customers. Then along came FOBTs. The betting shop of 2005 can have up to four FOBTs, which pay out a maximum prize of £500.

These machines have also helped the bookmakers fight back against the internet, which has threatened to make betting shops an irrelevant expense. Relaxation of the laws governing casinos has also put them in jeopardy. Under the Government's plans, when new laws take effect, casinos will be allowed to advertise, will be able to scrap the rule banning new members from playing less than 24 hours after they join, and will be able to have their own lucrative slot machines. Bookies have been modernising their estates to keep hold of customers who might be lured away.

Betting shops now have banks of flat-screen televisions, and some have moved screens to the back of the shop, so customers are immediately greeted by staff, rather than a wall of loitering clientele. For the ultimate example in betting shop chic, visit the Mayfair office of Victor Chandler. With granite floors, leather seats, chrome fixtures and waitress service, it has a very contemporary design that one could easily mistake for a swanky cocktail bar.

A recent survey by Mintel showed that men still outnumber women in betting shops by two to one. Toilets, for example, are only a recent luxury for some. As well as sprucing up shops, bookmakers have not been slow to the advantages of the internet. From basic beginnings in 1998, online gambling now accounts for 20 per cent of William Hill's business and the online gambling industry is expected to swell to more than £600m in the next five years.

But aside from mainstream online betting, there have been other technological advances that are posing a danger to the high street bookie. Internet betting exchanges have introduced a whole new element of competition. Using a betting exchange, punters match their own bets with each other, setting their own odds. Individuals can bet to win, but also bet to lose, as long as they can find another punter willing to take their bet. This technology has allowed sophisticated punters to bypass the margins made by traditional bookies. Betfair, the largest betting exchange, has seen its annual revenues grow to more than £65m in its four years since launch, and accounts for around 4 per cent of all bets made on horseracing.

How much business the exchanges are taking away from the traditional bookies remains to be seen. Paul Leyland, of Seymour Pierce, said: "Betting exchanges are still the preserve of sophisticated gamblers. As younger gamblers come through, they may start going. But it probably will only lead to an expansion of the market, rather than cannibalisation of it." They are undoubtedly squeezing the margins of high street bookmakers, who now have to offer punters more competitive odds.

FOBTs have also attracted a swell of criticism from live sports fans, who say virtual racing is killing off live horseracing. Live racing depends on funding from the betting industry. "FOBTS are a threat to racing," a spokesman for the British Horseracing Board said yesterday. For the time being, betting on live sports is growing. Mintel estimates that £32bn was staked on sports betting last year, up 370 per cent on 1997, and horseracing had a record year in 2004. But while FOBTs have brought phenomenal growth to bookies from a standing start in the past two years, most companies now have installed the maximum the Government is prepared to allow. Growth in revenues will stagnate, and the Department of Culture, Media and Sport has told the betting industry that FOBTs are on probation in regulatory terms. It wants to see them in action in their current numbers before allowing any more.

And with reports from gambling charities about the addictive nature of the machines, bookmakers may even find the numbers are cut back. GamCare recently told the Government that it was getting 50 calls a month from gamblers worried about their use of FOBTs. They may have brought some short-term relief to the betting shop model but internet gambling, in the longer-term, will surely prove an even greater threat.

Additional research by Rob Garrett