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Franchise Finances (Last revised 7 Oct. 2009. Go Twins!)

Franchise Finances (Last revised 7 Oct. 2009. Go Twins!). Franchise finances: An introduction. Why we care: (1) To draw a conclusion about the health of the industry (MLB), we need to know about the health of individual firms (teams).

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Franchise Finances (Last revised 7 Oct. 2009. Go Twins!)

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  1. Franchise Finances(Last revised 7 Oct. 2009. Go Twins!)

  2. Franchise finances: An introduction • Why we care: • (1) To draw a conclusion about the health of the industry (MLB), we need to know about the health of individual firms (teams). • (2) Issue of whether the small-market teams can afford to field competitive teams. • Low-revenue teams are at a disadvantage. • If too many teams cannot compete, then demand for MLB will tend to fall.

  3. MLB’s 2000 report concluded that... • (1) 27 of the 30 MLB teams had cumulative operating losses in 1995-99. • (2) Small- and mid-market teams can’t compete, because they can’t afford to field very good teams. • Caveats: • Independent researchers did not believe (1). • That was eight years ago. MLB officials say the picture is much brighter now.

  4. OPERATING PROFIT = total revenues - total costs same as “operating income” what’s usually focused on reported in Forbes (1997-), Financial World (1990-96) PRE-TAX PROFIT = operating profit - interest costs* - “player depreciation” ≤ operating profit declared to IRS (* interest costs could be from purchase of team, stadium debt…) Computing team profits

  5. Ways to hide a team’s profits • Tax loopholes (to reduce pretax profit) • Claim “depreciation” of your players as a loss (over 5 years, up to 50% of what you paid for the team; legal under U.S. tax law; a.k.a. the “Bill Veeck loophole”). • Deduct the interest paid on team-related loans. • “Creative accounting (to reduce operating profit) • Related-party transactions: If you own another company that does business with the team, overcharge your team (or pay it too little) in those deals. • Featherbedding: Pay yourself (and friends and family) an excessive salary and claim it as a cost.

  6. Breakdown of team revenues (Forbes, 1998) • 40% tickets & suites • 34% broadcasting • 12% food, merchandise • 7% ads, sponsorship • 6% other

  7. Breakdown of team costsIn descending order of importance • Player salaries (~50% over last 20 years) • Only 40-45% in 2007-2008 • Scouting & player development (farm teams…) • Team operations (front office, manager, coaches…) • Marketing, publicity, ticket operations, admin. • Stadium operations • (MLB revenue-sharing and general fund) • (A cost for rich teams, income for poor teams; net = 0)

  8. What is the return on owning a baseball team? • Operating profits are almost irrelevant… • As with a stock, most of the return comes from the long-term increase in the value of your asset (team).

  9. Desirable properties of investments • (1) High return, including • Short-term interest, dividends, or earnings • Long-term capital gain (can resell at profit) • Favorable tax treatment • (2) Low risk of loss • (3) Liquidity & cash flow • Liquidity = ease of resale; convertibility into cash • Cash flow = yearly stream of earnings (profits)

  10. Desirable properties of investments, as applied to MLB teams • (1) High return – excellent • But, over 1998-2006, NFL franchise values grew much faster, and NBA franchise values grew a little faster. • (2) Low risk of loss – excellent • Teams typically earn very high overall returns, with very few exceptions. • (3) Liquidity & cash flow – poor • Not liquid: costly and time-consuming to resell a team • Cash flow is small: yearly return on assets (operating profit as % of assets) is tiny, usually positive but < 2%

  11. Calculating a team’s (one-year)return on investment (ROI) ROI = % increase in estimated team value + (operating profit as % of team value) Note well: Because operating profit is usually a very small fraction of team value, ROI will usually be very close to the one-year percent change in team value.

  12. To calculate ROI from the Forbes table The example below uses the data from the May 2006 Forbes ($1026 M value, a one-year change of 8%, operating income of -$50 M in 2005) to compute the 2005-2006 ROI for the Yankees

  13. Estimated one-year return on MLB teams(source: Forbes)

  14. Estimated one-year returns, cont’d

  15. Quick notes on the Forbes numbers • MLB was doing great in 2000-2001 • The recession in 2001 didn’t seem to hurt MLB at the time. • The “recession hangover” (high unemployment, consumer anxiety) of 2002-2003 did hurt MLB • Negative operating profits (still small as %) • Slight increase in revenues, team values • MLB entered a boom period in 2004 • 2005-2007: big profits, big gains in revenues, team values • 2008 (recession year): profits still high, but average team value up only 1%

  16. Even Selig and the owners don’t think so now, but-- Until about 2004, that’s what they always said. Selig: for 2001, a $232 M operating loss & $519 M book loss several MLB teams were for sale in 2001-02, few buyers NO, say most independent researchers What Forbes, Zimbalist, et al., said in response: Forbes: for 2001, a $75 M operating profit sluggish economy explains poor resale market in 2001-02 franchises normally sell at big profits; high rates of asset appreciation A very dated question:Is the sky falling on MLB financially?

  17. Media ownership of teams • Ownership of teams by media companies, esp. TV stations, complicates the profit picture. • Media companies often buy teams as programming content, not as separate investments; synergy strategy. • Large operating losses may be OK if media company’s own profits go up. • Does this strategy work? Hard to generalize. • Past success stories include Ted Turner’s Atlanta Braves (TBS). • Yankees’ YES network, Red Sox’s NESN look successful. • Some media companies are selling, some are buying. • (Fox) News Corp. sold Dodgers, Disney sold Angels, Time Warner sold Braves. • Liberty Media Co. bought Braves.

  18. How has the current recession affected MLB? • Recession officially began in Dec. 2007 • Many did not realize we were in a recession until late 2008 when NBER made it official. • MLB ticket prices for 2008 rose 10% on average • Attendance fell just 1%. Change in demand? • Forbes: Revenues up 5%, team values up 1%, (but operating profit still relatively high). • 2009 • Ticket prices flat on average (excl. NY teams) • Attendance fell 7%.  Demand fell.

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