August 26, 2010

Squawking Baseball

Despite The Screams, Revenue Sharing Isn't Broken

by Shawn Hoffman

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Major League Baseball teams—and all private businesses, for that matter—tend to go pretty far out of their way to keep their financial results under lock and key. And that makes plenty of sense, especially when times are good—having healthy financials usually makes it more difficult to take a hard line during labor negotiations, let alone trying to pry hundreds of millions of dollars from local governments.

Well, so much for that. Thanks to a pretty massive leak, six teams—the Pirates, Marlins, Rays, Angels, Mariners, and Rangers—had much of their recent financial data made public on Deadspin this week. And as it turns out, these teams are making money—especially those that haven’t spent a ton on payroll. Maury Brown (who has been dominating this story, as usual) has a pretty good rundown of the key numbers.

There’s been a lot written about this already, with a lot of predictable headlines about owners pocketing cash and not doing everything they can to put a winning team on the field. But it’s MLB’s revenue sharing program has taken the biggest hits, since it’s clearly enabled low-payroll teams to post really solid net income numbers, even in down years.

But here’s the thing: in a lot of ways, these numbers actually prove that revenue sharing is working.

You have to consider why revenue sharing actually exists in the first place. Ten years ago, teams were hemorrhaging money, and very few had the resources to be consistently competitive over a period of years. Anybody want to argue that that’s still the case? Or that we’re worse off now?

Let’s run through a few points:

There is not a single revenue sharing payee listed (i.e. a team that received money from other clubs) that would have been profitable without the program.

A lot of people have suggested that payees should be banned from taking profits. This totally misses the point. MLB teams are "for-profit" companies, meaning that being profitable is a good thing.

Repeat: Being profitable is a good thing.

The fact that the Marlins and Pirates have been profitable, even in down years, should be considered a positive outcome for MLB, and it would have been impossible without revenue sharing. Yes, the Marlins obviously abused the system. But that’s old news, and it’s already been remedied—the union forced them to raise their payroll last winter, and they’re pretty much back in line with “normal” small market teams.

Other than the Marlins, small market teams seem to have acted appropriately.

The other teams have simply done what they should. The Pirates have taken a lot of heat over the past few days, but would the 2007 or 2008 Pirates have been competitive had they spent an extra $15 million on payroll each year? Of course not. Instead, they’ve used that money on the draft, international signings, and desperately needed capital expenditures (particularly in the Dominican Republic), all of which Cam Bonifay and Dave Littlefield routinely ignored, in favor of ridiculous (but media-appeasing, at the time) contracts for Kevin Young, Jason Kendall, Pat Meares, Derek Bell, et al.

The cap-ex numbers–-which net income doesn’t factor in, aside from depreciation—are the most important. The Pirates’ new regime nearly doubled these investments in 2008 (their first year on the job), and have kept them at this new level (around $7-8 million) since. The Rays also have spent a significant amount in this area, including $12.5 million in 2007—which, by itself, more than offset the team’s $11.1 million net income that year.

Revenue sharing has allowed small market teams to increase payroll when they are competitive.

If you haven’t read Steve Slowinski’s excellent breakdown of the Rays’ numbers, you absolutely should. Essentially, the Rays made a pretty good amount of money in 2007, were right around breakeven in their 2008 AL championship season, and have probably lost a bit in the past two years.

This is likely the pattern the Pirates would take as well, if/when they’re ever in a position to be competitive. The team had net incomes of around $15 million in both 2007 and 2008, with end-of-season payrolls near $50 million. So we can assume that with 1.6-1.7 million in attendance, their breakeven payroll is somewhere around $65 million. Obviously they’re going to be far below that this year, but if the team ever starts winning, they’ll likely have $65 million in their rearview mirror very quickly. (For comparison’s sake, the Rays have gone from $24 million to $72 million in just three years.) Even if attendance grows significantly, the Pirates could still be at or below breakeven if their payroll shoots up rapidly, particularly for the first couple seasons.

The Marlins’ strategy was penny-wise and pound-foolish. By abusing the system, they hurt themselves.

I’ve said this many times before: most baseball owners make far more money from capital gains than operating income. The Marlins certainly did “well” for themselves in the short run by running impossibly low payrolls. But if they had continued on that path for the long term, it would have been nearly impossible to field a consistently competitive team, which is by far the best way to increase a franchise's value.

(And on a side note, this is not at all a commentary on the Marlins getting a publicly funded stadium—this is purely an evaluation of the current revenue sharing plan. If you want to judge the team’s actions or the state/county government’s actions with regards to the new stadium, try to separate the two issues in the comments.)

This isn’t to say the current system is perfect. But for those screaming for extreme solutions, such as payees sacrificing all net income, or scrapping the system altogether, that’s just nonsense. The language in the CBA that says payees need to spend their revenue sharing money on building a competitive team has never been enforceable, since no team—other than perhaps the 2006 Marlins—has ever received more revenue sharing dollars than they’ve paid out in payroll, draft and international bonuses, and minor-league operations. It is purposely vague, because a majority of owners wanted it to be vague.

So for all of the current system’s actual intents and purposes, it is working: small market teams are in a far better position to compete than they were 10 years ago, and all 30 teams are at least capable of being profitable (and most are). The system isn’t going to be overhauled, and shouldn’t be. Baseball is unquestionably far better off now than it was when the system was first put in place. It could certainly use some tweaks (suggestions welcome in the comments), but that’s it.

Shawn Hoffman is an author of Baseball Prospectus. 
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