Penny Auctions: Auction, Gambling,or Entertainment Shopping?

Victor Cobb

INTRODUCTION

Throughout history it has been difficult

to precisely define what gambling entails. Forexample, there has been a continuous cycle of draft-ing laws and regulations to prohibit certain forms ofgambling seen as contrary to public interest, only tosee those games slightly changed to avoid beingconsidered illegal. There have been argumentsover topics as diverse as whether pinball machinesare gambling devices and whether a best-lookingbaby contest is an illegal lottery.1 Today, a newissue has arisen in the form of the penny auctionsfound on hundreds of websites. Once again, theage-old question is asked: ‘‘Is it gambling?’’

A key distinction among penny auctions exists be-tween those that offer a ‘‘buy now’’ feature and thosethat do not. Websites operating penny auctions thatdo not offer a ‘‘buy now’’ feature appear to be walkinga thin line in regards to the legality of their businessesunder current laws relating to auctions and lotteries.Moreover, even the more-reputable penny auctionsites that offer a ‘‘buy now’’ feature are walking athin line regarding their marketing and advertising,and should be subject to some oversight, just as areauctions and lotteries.

I. HOW DO PENNY AUCTIONS WORK?

There are three basic steps to penny auctions.First, all auctions begin at $0.00 with no minimumreserve price. Second, every bid restarts a count-down clock. If no new bids are placed before thetimer runs out, the auction is sold. Third, every

bid costs somewhere around 60 cents, and beforeyou can participate, you must purchase bids.2

Consider the following illustration of a pennyauction for a 50-inch flat screen TV with a retailvalue of $1,000. In order to participate in the auc-tion, you must first purchase a bid package fromthe website. These bid packages range in size,with each bid costing somewhere around 60 cents.A timer that runs off the website’s servers willbegin, sometimes days in advance; once the count-down begins, you may bid. However, it is often abad idea to bid early, because it is almost certainthat someone else (or several, or often many, peo-ple) will bid before the timer hits zero, trumpingearlier bids. In most cases, in fact, as the timergets close to zero, the pace of the action will pickup, as numerous people attempt to get a good deal.

Each time a new bid is placed, the timer will startover at around 20-seconds, giving others a chance tobid. This process of what feels like placing pennybids can last hours. In the end, one bidder will re-main, who wins the right to purchase the item for,say, $30.00. This means 3,000 penny bids wereplaced, each costing around 60 cents. This resultsin $1,800 in bids, plus the $30.00 final price,going to the auction website. Assuming the websitebought the item at retail price, this would be a profitof $830.

The winning bidder wins the TV for $30.00—plusthe amount of money spent on bids (and don’t forgetshipping). This could be a good deal, or just a break-even situation, depending on how many bids the win-ner had to spend to win the auction.

Victor Cobb graduated from the University of MississippiSchool of Law in 2012.

1Valentin v. El Diario La Prensa, 427 N.Y.S.2d 185 (N.Y. Civ.Ct., 1980) and McKee v. Foster, 347 P.2d 585 (Or. 1959).2How Does It Work?, DealDash, < http://www.dealdash.com/page.php?id = 13 > .

GAMING LAW REVIEW AND ECONOMICSVolume 17, Number 5, 2013� Mary Ann Liebert, Inc.DOI: 10.1089/glre.2013.1755

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So what happens if you do not win the auction?

Here, an important distinction needs to be made be-tween penny auctions that offer a ‘‘buy now’’ featurefrom those that do not. If you do not win the auction,websites that offer a ‘‘buy now’’ feature will allowyou to take the money spent on bids used in a losingauction and put it towards buying the item you wereattempting to win at retail price. For example, if youplaced 400 bids attempting to win the 50-inch TV,then you can take the amount spent on those 400bids (400 · $0.60 = $240) and put it towards buyingthe item at retail price.

By allowing you to buy the item at retail price, dis-counted by the amount of money spent on bids, the‘‘buy now’’ feature allows you to participate inpenny auctions relatively risk free so long as you arewilling to buy the item at retail price. If there is no‘‘buy now’’ feature, however, the money spent onbids used in a losing auction is not refunded and is sim-ply lost. Without a ‘‘buy now’’ feature, the risk is ex-tremely high, bringing about a considerable elementof chance. There is a significant potential to lose agreat deal of money fast, with nothing to show for it.

II. PENNY AUCTIONS NOTAUCTIONS AT ALL

An auction is the ‘‘sale of property to the highestbidder.’’3 Furthermore, an auctioneer is ‘‘a person le-gally authorized to sell goods or lands of other per-sons at public auction for a commission or fee. Theauctioneer is the property owner’s agent up to themoment when a purchaser’s bid is accepted, whenthe auctioneer becomes the purchaser’s agent.’’4

The question then becomes, whether penny auc-tions are really ‘‘auctions’’ that require registrationand a license. To answer this question, compare thepenny auction model to that of a well-known onlineauction site, eBay. In a traditional auction, such aseBay, the items are sold by third parties, with eBayacting as an agent who collects a fee for their service.On the other hand, with the penny auction model, themerchandise is being sold by the owners of the web-site, not third parties.5 This is a big difference whichhas major implications on whether penny auctionsact as auctioneers or something else.

‘‘An auctioneer is ordinarily compensated bymeans of fees or commissions pursuant to a contractbetween the auctioneer and his or her principal.’’6

With a traditional auction, the auctioneer is making

money from the seller, through entry fees orcommissions. With the penny auction model, how-ever, the so-called ‘‘auctioneer’’ does not make itsmoney from sellers, but instead from buyers whomust purchase bids to participate. At no point dothese penny auction sites act as an agent for thebuyer; instead, they act as an agent for themselvesthe entire time. Essentially, penny auction sites aresimply selling merchandise using a creative methodto increase their profits. On the other hand, auction-eers act as agents for buyers and sellers, which doesnot appear to be the case with penny auctions.

It seems clear that the penny auction model is dif-ferent from traditional auctions, and thus falls outsideof the regulations relating to auctions. At this point,we are presented with a model that offers more op-portunity for abuse than traditional auctions—andyet there is essentially no oversight.7

III. DO PENNY AUCTIONS CONSTITUTEILLEGAL LOTTERIES?

A lottery is a well recognized evil and mischiefregardless of the name it may be called, or themanner in which it operates. The fact that thename of a gambling device may be changed ornew forms of games invented, probably neverseen nor heard of by the framers of the constitu-tion, does not change the law. All such similarcontrivances and devices, by whatever namethey may be called, or however operated, in avast majority of cases submitted to the courtsof last resort have been held to be lotteries.8

‘‘The vice of various gambling games or projectslies in the payment of money for the opportunityto win more money by a scheme of chance. It is

3Black’s Law Dictionary.

4Id.5John McCarthy, Penny Auctions Promise Savings, OverlookDownsides, USA Today (Feb. 6, 2011), available at < http://www.usatoday.com/tech/news/2011-02-06-penny-auctions_N.htm > .67 Am. Jur. 2d, Auctions and Auctioneers x 77.7But note that it is common for auctioneers to act for them-selves, for example, when the US government auctions oiland gas leases, e.g., 25 U.S.C. x 396b, and telecommunicationlicenses, 47 U.S.C.A x 309.8State v. Village of Garden City 74 Idaho 513, 522, 265 P.2d328, 332 (1953).

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not simply the winning of prizes that the statutesagainst lotteries seek to inhibit.’’9 In order to be con-sidered a lottery, three essential elements must besatisfied: 1) consideration, 2) chance, and 3) aprize.10 If these three elements are present, thenthe scheme is most likely considered illegal gam-bling, because federal and state lottery laws prohibitprivate parties from running lotteries. If however,one of these elements is not present, then it is notconsidered to be a lottery or illegal gambling.

A. Consideration

The first element of consideration requires thatthere be a payment of something of value for the op-portunity to participate. Consider a basic promotionalsweepstakes, which is not considered illegal gambling.With a sweepstakes, the elements of chance and prizeare obvious; however, sweepstakes are not consideredillegal lotteries because you do not have to pay any-thing to participate (i.e., consideration is absent).

Consider some popular sweepstakes. PublishersClearing House, which operates numerous sweep-stakes, makes it very clear that there is ‘‘no purchaseor fee necessary’’ and that ‘‘a purchase won’t im-prove an individual’s chance of winning.’’11

Another well-known sweepstakes is The Price is

Right on CBS. Once again, it is made quite clearthat ‘‘The Price is Right ticket is complimentary.’’12

With penny auctions, there are no such warnings,however, and therefore it seems evident that themoney spent to purchase bids constitutes consider-ation. Thus, further analysis is necessary to deter-mine whether the elements of chance and prizeare present in order to determine whether pennyauctions should be considered illegal gambling.

B. Prize

The third element of a lottery is a prize, or the abil-ity to win something of value. Under some defini-tions of a lottery, a prize must be of greater valuethan the amount hazarded.13 Penny auctions un-doubtedly offer the opportunity to receive somethingof greater value than what is hazarded—that is, if youare able to win. Sites that offer a ‘‘buy now’’ feature,would argue that since they also offer the items beingauctioned for sale, and since the value of the productis not actually more than what you pay for it, thevalue of the price and the amount paid are the same.

The argument, therefore, is that the ‘‘prize’’ is nota prize, but instead simply a purchased item. This

may be the case under some narrow definitions ofprize; however, under most definitions, it is mostlikely the case that prizes are in fact being offered.Those sites that do not offer a ‘‘buy now’’ feature,however, do not even have this argument; therefore,it would be very difficult to make a case that theyare not offering prizes.

C. Is the outcome determined by chance or skill?

The second element requires that winners be de-termined primarily at random (by chance). For ex-ample, it is not illegal to offer contests where anentry fee is required (consideration) and a prize isoffered if the results are determined not by chance,but by skill. Games can involve chance, skill, or acombination of the two. If a player can increasehis or her chances by becoming more proficient,the game is most likely one of skill rather thanchance. Of course, even with games of skill, luckcan play a part, as it may be impossible to controlevery detail.14

There are two different tests when determiningwhether a game consists of skill or chance. Underthe ‘‘English Rule,’’ a game is one of chance onlyif chance entirely controls the outcome. The ‘‘Amer-ican Rule,’’ however, considers a game one ofchance if the outcome is predominantly determinedby chance.15 Most states use the American predom-inance test, where the court will make a factual in-quiry into whether skill or chance plays a greaterroll in determining the outcome.16 ‘‘The court willinquire, not into the name but into the game, how-ever skillfully disguised, in order to determine if itis prohibited or if it has the element of chance.’’17

939 Am. Jur. 2d, Gambling x 183.10Ex parte Ted’s Game Enterprises, 893 So. 2d 376 (Ala. 2004);Dalton v. Pataki, 5 N.Y.3d 243, 802 N.Y.S.2d 72, 835 N.E.2d1180, 27 A.L.R. Fed. 2d 633 (2005).11

Publishers Clearing House, < http://www.pch.com > .12Tickets, The Price Is Right, < http://www.priceisright.com/tickets > .13McKee v. Foster, 347 P.2d 585 at 591 (Or. 1959).14

Robert M. Jarvis, Shannon L. Bybee, Jr., J. Wesley

Cochran, I. Nelson Rose, and Ronald J. Rychlak, Gam-

ing Law Cases and Materials 51 (1st ed. 2003).15Id.16Gabriel H. Karp, Complying with State by State Requirementsin Online Sweepstakes and Contests, in Information Tech-

nology Law Institute 2009: Web 2.0 and the Future of

Mobile Computing, at 139, 146 (PLI Intellectual PropertyCourse Handbook Ser. No. G-962, 2009).1738 Am. Jur. 2d, Gambling x 5.

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With this in mind, are penny auctions games ofchance or skill? Consider the following statementfound in the terms and conditions of a more reputa-ble penny auction site: ‘‘[e]very auction is uniqueand the results of all auctions offered on QuiBidsdepend on the number of users participating insuch auctions and the skill of the users participatingin the auctions; precise odds of winning are there-fore unavailable.’’18 This statement seems to indi-cate that the results are determined by both skilland chance, but the question remains: does skill orchance predominate? This is the major issue to bedecided, and the answer will likely determinewhether penny auctions constitute illegal gambling.

There is no doubt that strategy plays a part in hav-ing a successful experience with penny auctions. Forexample, any experienced penny auction user knowsthat playing at certain times of day increases thechance of success, due to decreased internet traffic.There are also certain types of items that attractless attention and offer better opportunities for suc-cess. While a basic strategy and past experiencemay be helpful, does it predominate the outcome,or does chance remain as the deciding factor? Oper-ators of these sites claim that they offer games of skilland that the element of chance is not present, since ifthis were not the case, then it is likely that penny auc-tions constitute illegal gambling because the three es-sential elements of gambling would be present.

Those auction sites that offer a ‘‘buy now’’ featurehave a stronger argument that chance does not pre-dominate, because at the very worst, you can buyan item at retail price. Granted, there may be an ele-ment of chance in getting a good deal, but if you arewilling to buy the item for retail price, then thechance of losing money is close to zero becausethe retail prices listed on these sites are close to mar-ket value. Those auction sites that offer a ‘‘buy now’’feature therefore have a good argument that whatthey offer is entertainment shopping, not gambling.A solid strategy may help in getting a good deal,but chance does not predominate the outcome iflooked at in terms of losing money.

On the other hand, for those sites that do not offera ‘‘buy now’’ feature, trying to make the argumentthat chance does not predominate is extremely diffi-cult. When bidding on sites without the option to‘‘buy now,’’ you can spend a great deal of moneyduring the course of an auction—even more than re-tail price—and still not win the auction, thus losingeverything.

With the ‘‘buy now’’ feature, you can quit bid-ding and buy the item once you have spent enoughon bids to cover the retail price. On the other hand,if there is no ‘‘buy now’’ feature, you can spend bidsequal to the retail price while still not being guaran-teed to win the auction. At this point, you have tokeep bidding until the very end if you don’t wantto lose everything. This could lead to people biddingagainst each other to see who will pay more thanretail.

There is also the chance that you could bid on anitem for hours, only to have someone log on late inthe game to bid on the same item. If there is a ‘‘buynow’’ feature, this would not be the end of theworld: while you may not get the best deal, youcan at least continue bidding and, at the veryworst, buy the item at retail price. With no ‘‘buynow’’ feature, however, you would be left in atight spot. You would already be in the auction fora large amount of money (and time), while the new-comer is starting fresh. If you don’t want to loseeverything you already put in, you would have tocontinue to compete. Even so, at some point, youmay have to cut your losses and quit, leaving youdeep in the hole with nothing to show for it.

Chance enters the equation in terms of the make-up of the bidding pool, over which no bidder hascontrol. Larger bidding pools, bidding pools con-taining economically irrational bidders (who maybe willing to spend more than market value), andthe presence of large numbers of late entrants whowill drastically alter the bidding dynamic, all playa significant role in determining the outcome, andno amount of bidder skill can affect these factors.

So, does the element of chance only require thatthere be a chance of winning something, or does itrequire that there be a chance of winning somethingcoupled with the possibility of losing a great deal inthe process with nothing to show?

Websites that offer a ‘‘buy now’’ feature canargue that while there may be a chance of gettinga good deal, there is no chance of losing everythingso long as you are willing to buy items at retailprice. In essence, you are not gambling for theseitems; you are simply shopping for them in a wayin which it is possible to get a great deal; hence,the notion of entertainment shopping.

18Terms and Conditions: Odds of Winning Auctions, QuiBids,

< http://www.quibids.com/en/help/terms.php > .

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Websites with no ‘‘buy now’’ feature do not havethis argument available to them, because there is thechance that you may end up with nothing even afterspending enough to cover the retail price. The auctiontruly is a gamble, in the everyday sense of the word.

And indeed, it sounds very similar to gambling inthe legal sense, yet the operators of these sites wouldurge that it is absolutely not gambling. How is thatpossible? It seems clear that the elements of consid-eration and prize are present, so it comes down to theelement of chance. As discussed above, this is a closeissue that is difficult to decide. While it could be ar-gued that penny auctions are a game of skill, there arecountervailing arguments that penny auctions consti-tute games of chance, and thus constitute illegal gam-bling. As best-selling novelist Adam Douglas oncewrote, ‘‘[i]f it looks like a duck, and quacks like aduck, we have at least to consider the possibilitythat we have a small aquatic bird of the family ana-

tidae on our hands.’’19

Some reading this may disagree with some of theseassertions, arguing that many things could be con-strued to be lotteries and thus illegal gambling. For ex-ample, some have gone as far as to say that the stockmarket is a lottery: after all, it is determined in largepart by chance, and the elements of considerationand prize certainly appear to be present.20 However,just because it may appear that the three elements ofa lottery are present, it is safe to say that few wouldargue that the stock market should be illegal. Whilethis is true, it is also true that the stock market is heav-ily regulated, with all sorts of oversight.

IV. WHERE IS THE OVERSIGHT?

Whatever the case, even if they are not illegalgambling, penny auctions contain many of thesame issues presented by both gaming and auctions,and so there should be some level of oversight andregulation. Gambling, for example, is subject toheavy regulation—in many ways, the strictest regula-tion for any economic activity. On the other hand,penny auctions receive almost no oversight. One rea-son for this may be that the penny auction model isnew. Another may be the fact that these penny auc-tion sites are run online, and thus run ‘‘under theradar’’ of legislators. (Of course, since they are con-ducted online, penny auctions also present many ofthe same issues as online gambling). While full-blown regulation of this area may take some

time—and indeed, may not even be feasible—someconsumer protection seems necessary becausemany of the issues present in gambling and auctionsare also present in the penny auction model.

In the author’s experience, the rush experiencedwhile sitting at a blackjack table is very similar tothat of participating in a penny auction. When youare the winner of an auction and the timer beginsto approach zero, it is hard not to get excited, andyour heart will beat more quickly. Due to this rush,once you begin participating in a penny auction, itis difficult to stop. Moreover, in the heat of the ac-tion, it is difficult to remember that you are not actu-ally placing one cent bids, as it may feel, but insteadare placing what amounts to 61 cent bids (i.e., thecost of the bid package—$0.60—plus the incrementof the bid—$0.01). On sites that do not offer a ‘‘buynow’’ feature, this can lead to users spending signif-icant sums of money without ever actually winninganything—not even the right to purchase the productwith the money spent on bids.

Consider the following statement found in theterms and conditions of a more reputable penny auc-tion site that does offer a ‘‘buy now’’ feature:

The following statement is very important forany customer or potential customer of Deal-Dash to read and fully understand beforeusing the service: By registering and usingDealDash you understand that you are likelyto spend more money than you may receivein product value. Most customers using thesite gain less in product value measured inmonetary value compared to the amount ofmoney spent to win auctions. Do not buy bidsor spend money on the site if you cannot affordto lose the money.DealDash is convinced thatthe entertainment value of participating in itsauctions is valued and that paying a premiumprice for this entertainment value compared toshopping at the lowest priced retailer is fair.We do however strive to give as much merchan-dise value back to our users as we possibly canwhile maintaining healthy gross margins. Not

19Douglas Adams, Dirk Gently’s Holistic Detective

Agency (1987).20‘‘How Securities Trading Became Legally Not Gambling,’’Gaming Law Review and Economics, vol. 15, no. 5, pp. 249–253 (2011).

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all customers will on average save money byusing the Site. By using the Service you under-stand and agree to this statement.21

By its own admission, it appears that the service of-fered by penny auctions is very similar to that offeredby casinos: the service is about providing entertain-ment with a chance of a return, not about providinga sound investment, financial, or shopping strategy.While regulating penny auctions to anything likethe level of casinos is extremely unlikely, it shouldnonetheless be recognized that some sort of oversightand consumer protection is necessary. This is partic-ularly true in the area of advertising.

The same website above that states, ‘‘you aremore likely to spend more money than you may re-ceive in product value,’’ also advertises that you canget deals ‘‘up to 95% off.’’ From this, it sounds likethese penny auction sites are trying to have theircake and eat it, too. They advertise amazing dealsin locations where people are very likely to seethe ads, such as TV, while providing warnings bur-ied in their terms and conditions. Moreover, theabove comes from a website that has an A- ratingfrom the Better Business Bureau. If more reputablesites such as this are able to advertise deals in thisfashion, there is no telling what some of the less rep-utable sites are able to get away with, such as thosethat do not offer a ‘‘buy now’’ feature.

Another concern present in both penny auctionsand other forms of gambling is cheating, on thepart of both participants and operators. Collusionis a big issue, because participants can work to-gether, making it extremely difficult for those whoactually follow the rules. Granted, these websiteshave an incentive to look for collusion and stampit out when they find it; however, at present, thisis purely self-motivated, since operators are con-cerned about their bottom line, which would be neg-atively impacted by widespread allegations ofcheating or unfairness. In fact, there is no actual re-quirement that operators act to prevent collusion.About the only thing preventing people from collud-ing is a warning in these sites’ terms and conditions,

such as: ‘‘You may not participate in collusion withother users. QuiBids reserves the right to perma-nently close the accounts of users suspected of col-lusion.’’22 There is little doubt that if someone wereserious about cheating these websites and theircustomers through collusion, doing so would notbe difficult. Moreover, even if caught, the potentialrepercussions are minor—namely, not being able touse that particular service anymore.

Participants in these auctions are not the onlyones with an incentive to cheat: site operatorshave an incentive to cheat as well, especially lightof the fact that, again, there are no real repercus-sions. There have been allegations that some web-sites operating penny auctions hire people to bidin their auctions, or alternately, that they use elec-tronic ‘‘bots’’ to place bids, guaranteeing that theywill not lose money—or even worse, that no onewill win the items being auctioned. This is a blatantfraud, yet the lack of any real regulation or oversightmay lead criminally minded operators to believethat they can get away with it. It is possible thatthe fact that more sinister sites exist may leadmore reputable sites to encourage some sort of reg-ulation, since fraudulent sites and collusive prac-tices give the penny auction model a bad name,but so far, that has not occurred.

CONCLUSION

Penny auction sites that offer the option to ‘‘buynow’’ have legitimate arguments as to why their ser-vices do not constitute illegal gambling, but ratherentertainment shopping. On the other hand, siteswith no ‘‘buy now’’ feature may be crossing theline that distinguishes gambling from otheractivities, since the three elements of gambling—consideration, prize, and chance—appear to bepresent for non-’’buy now’’ sites. It is also beyondreasonable dispute that the potential for abuse ispresent. Whether considered gambling or not, thepenny auction presents many issues that call forsome sort of oversight.

21Terms of Use: How the Auction Works, DealDash, < http://www.dealdash.com/page.php?id = 10 > .22Terms and Conditions: Eligibility, QuiBids, < http://www.quibids.com/en/help/terms.php > .

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