When you start LFS, and click multiplayer, then display list of hosts, it connects to the master server. The master server checks your username and password to make sure you're registered. It then replies either with the list of connected hosts, or else "GTFO lol". Basically the same thing if you join a specific host, except instead of giving you a list of hosts, it lets you join the requested server.
It's very easy to get a list of hosts without starting LFS though, as it can be readily found on lfsworld for example. So if one had the source of LFS, one could remove the master server from the equation altogether. Instead of contacting the LFS master server, it could contact an entirely different server that contains just a list of the hosts that are connected to the master server, and send these back without a license check. Effectively, giving you what the master server does, without a license being needed.
As long as LFS is closed source, the master server must be contacted (although, I assume there are ways of altering the address the outgoing packet is sent to, to send it to another server, like above) when someone attemempts to go online. Release the source, and you basically remove the need for licenses
€: Thankfully, you can't connect to a server by IP, so the situation breadfan has with other online games can't happen. As far as I know, they do license checking server-side, in the game server. LFS has the master server in between, so (theoretically at least) cannot be compromised like that
