Empire Files Case Against PartyGaming in Gibraltar

Empire Online today filed the anticipated legal proceedings against PartyGaming in Gibraltar's High Court. Empire seeks substantial damages-- reportedly several hundred million dollars—as well as injunctive relief that could effectively reinstate a prior business contract between the two companies.

The companies once enjoyed an amicable relationship whereby Empire served as a "skin" partner to PartyGaming and paid a royalty on its players for being allowed to use PartyGaming's poker platform. Empire eventually grew so good at marketing to become a formidable rival to PartyGaming, or as financial group Smith Barney put it, "a troublesome child to PartyGaming, small but growing faster and taking more than its fair share of the budget."

By August 2005, Empire controlled about nine percent of the total global online poker market but contributed to only about four percent of PartyGaming's earnings since PartyGaming made less profit on Empire players than on players who come directly to its flagship site PartyPoker.com. Smith Barney estimated that PartyGaming's 2005 earnings before interest and tax could have been about 11 percent higher if Empire's players returned the same amount of profit as PartyPoker's players.

PartyGaming decided to address its growing problem with the "troublesome child" on October 12 by launching a new poker platform and excluding its skin partners from accessing it. Empire Online and the three other skins became no longer able to take advantage of the massive liquidity injected by PartyPoker.com's 9 million players who represented 80 percent of the aggregated network.

Liquidity is a major driver of new traffic and revenue for an Internet poker business, and as a consequence of operating with a smaller network it was only a matter of ten days before Empire Online issued a trading alert to warn investors that it would miss analysts' forecasts for year 2005 profits by 10 percent.

Empire's share price was at 179.5p when PartyGaming announced its plan to segregate the skins, and they quickly dove to an all-time low of 82p before rebounding off a positive PartyGaming financial report on Oct. 20. On November 3, as Empire shares were priced at 115p, the two companies announced that they had entered into negotiations for PartyGaming to acquire Empire.

Neither company was willing to discuss a sale price, but most analysts were in agreement that the figure was likely in the neighborhood of £400 million ($708 million), or about half of what Sportingbet had offered for Empire in early September when its share price was valued at 255p.

The two companies announced on November 21 that they were unable to reach a sale agreement, and Empire revealed that it planned to sue PartyGaming for damages "caused to it by the conduct of companies within the PartyGaming group."

Empire's filing with Gibraltar's High Court today represents the first step in the legal battle. An initial hearing is expected to occur before Christmas, but it is not easy to predict how long the proceedings will last.

Empire's complaint likely involves a claim that PartyGaming's segregation of the skins constituted a breach of contract. Reuters reports that a source close to Empire says the company is also claiming that PartyGaming breached contracts by marketing to Empire's best customers after it broke the alliance.

Analysts at investment bank Morgan Stanley have indicated that PartyGaming could be liable for close to £300 million if Empire is successful.

"On a simplistic basis, we assume that the maximum potential liability is the market capitalization of Empire that was directly eroded as a result of the platform split, plus reputational damage," states a Morgan Stanley report.

The report also notes that Empire's share price fell from 183p to 121p after PartyGaming's separation of the skins, and then to 86p after Empire released a profit warning. Thus, about £290 million of total market capitalization was eroded over the course of 10 days.

PartyGaming does not seem to be daunted, however. Communications director John Shepherd said the company remains confident of a successful outcome. He also stated, "If this legal action is in any way an attempt by Empire to bounce us into a deal, then they had better go back to the drawing board."

In addition to damages, Empire also seeks an injunction from the Court. It is thought that injunctive relief in this situation could entail forcing PartyGaming back into its contract to aggregate Empire players with PartyPoker players.

Empire online also noted today that it is engaged in confidential arbitration proceedings with WPC Productions, Inc, a subsidiary of PartyGaming.