April 25, 2007

The Ledger Domain

A Look Inside Forbes' MLB Franchise Valuations

by Maury Brown

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Last Thursday, Forbes magazine released its annual report of the valuations of all 30 MLB clubs, and with that list one thing becomes very clear: you can make serious coin owning a franchise these days. If you take stock in Forbes' methods (something that many do, but most all of the clubs and the Commissioner's Office don't), all the clubs are awash in revenues, and owners are raking in record profits. With labor peace and healthy revenue streams, all but one club (the Yankees, with $25 million in operating income losses) were reported as profitable. To put this into perspective, in 2005 eight clubs were reportedly in the red, and the year before that, half of the 30 clubs were operating in the red.

My, how things have changed. The value of owning a club increased by 15 percent from last season, the third consecutive year at that rate. Looking at the business side of MLB, there are several reasons for the increases in value:

• MLB is enjoying a staggering growth in revenues: Revenues continue to climb dramatically, to $5.1 billion in 2006, an increase of 9 percent from 2005.
• A continuation of stadium development: The Cardinals moved into Busch III last season, and the Nationals, Twins, Mets, and Yankees are slated to move into new digs by 2010 or 2011. Add in other clubs that are on the cusp of new facilities: the A's are developing Cisco Field in Fremont, and the Marlins have a chance to land funding for a new facility as well. In total, when new stadiums are built, overall revenues increase, which bolsters the value of all the clubs.
• Television Revenues: A glut of television revenues at the local, regional, and national levels have bolstered the bottom line across the board for MLB. Forbes reports that $257 million in fees were collected from Fox's regional cable sports networks alone last season. Add in a national television deal that now puts FOX, ESPN, and Turner Sports at the table, and that increases television revenues by 19 percent. ESPN's deal from September of 2005 pulls in $296 million annually; pile that up on top on the FOX deal (just under $300 million) and the Turner Sports deal ($70 million annually), and you wind up with nearly $667 million a year on national television deals. These are in addition to the monies that were pulled in through MLB Extra Innings. Add in regional sports networks and other local television deals, and television becomes a key revenue driver and stability component for the clubs.
• Labor Peace Along with Supply and Demand: With MLB's financial picture at its rosiest, MLB and the MLBPA reached a labor agreement well in advance of the December 2006 deadline. That has added yet another layer of stability to owning a club, which in turn has fueled the supply and demand factor when franchises become available for purchase. For example, Forbes ranked the Montreal Expos/Washington Nationals at $310 million in 2005, a staggering increase of 114 percent from the year prior, due mostly to how the value of the franchise would increase through moving to Washington, DC. Bear in mind that the most recent sales before then had been for $450 million (Dodgers in 2004, but that included Dodger Stadium, Dodgertown, and the Dodgers' Dominican Republic development facilities), Angels ($183.5 million in 2002), and Athletics ($180 million in 2005). That 2005 valuation of the Expos/Nationals missed the mark by a whopping $150 million. When the sale to the Lerner group for $450 million was completed, the value of the other clubs escalated. As investment banker John Moag reported in 2006, MLB teams are selling for 33 percent more on average since achieving labor peace in the 2003-2006 CBA. As I'll address shortly, this plays a part in the value of clubs such as the Braves and Cubs, both of which will be sold shortly.
• Other Revenues Increase the Bottom Line: There are certainly other considerable revenue streams to consider (MLBAM, the steady flow from naming rights, and satellite radio deals are just three of them), all of which contribute to the steady climb in franchise valuations. Suddenly, owning a franchise is no longer a losing proposition from an investment perspective.

Taking all this in, is it any wonder that by Forbes' accounting only the Yankees posted a loss this past year (-$25.2 million)? They did so on an operating revenue of $302 million, due in large part to revenue sharing (projections have them paying $70 million for 2006) and luxury tax penalties ($26 million). Still, when all the numbers were tallied up, the Yankees wind up with a record franchise value of $1.2 billion. In a rare twist, the Yankes actually endorsed the Forbes valuation. "I am gratified at the Forbes valuation of the Yankees. We are continuing to build a worldwide brand for the people of New York and Yankee fans everywhere," George Steinbrenner said through an official statement.

But taking in the Yankees' loss figure, it's difficult for me to wrap my head around saying that the Yankees are truly operating in the red. For starters, the Yankees had 4.2 million in paid attendance last season. According to the 2006 Team Marketing Report, the average price for a ticket at Yankee Stadium comes in at $28.27. When tallying up suite revenues on top of that, the Bronx Bombers reportedly pulled in $155 million in gate receipts. Total revenues for the Yankees as noted by Forbes (net of stadium revenues used for debt payments) were reported at $302 million.

There's a slight catch in the valuation, however, which gets back to why it's hard to swallow the "loss" figure. Regional Sports Network (or RSN) revenues aren't factored into the Forbes valuations. So, when talking about the Yankees, YES Network isn't factored in. When you talk the Yankees (or Red Sox), RSNs play a large role in revenues that are shifted off the ledger for revenue sharing purposes, and can vastly offset what might otherwise be viewed as a loss.

To put YES into perspective, the Sports Business Journal reports that YES will borrow "more than $1 billion, about a quarter of which will be distributed to its partners, including the New York Yankees and Goldman Sachs." The borrowing points to the financial health of the network. As sports investment banker Robert Caporale was quoted as saying, "It must mean [YES] is meeting a lot of their expectations and there is no need to sell ... and the value is increasing."

It's not just YES-the Red Sox garner revenues through NESN, as they own 80 percent of the RSN and thus pulled in $21 million in rights fees. Thus, the continuing trend of clubs working to create RSNs should proceed apace, as they function as a shelter for teams from revenue sharing. Hey, if they aren't going the RSN route, they might be going the Fenway Sports Group route, and investing in NASCAR. Sheltering revenues is no longer just a matter of RSNs these days.

Looking forward, how the valuations are structured might give you a false sense of what other franchises might actually go for when other assets are factored in. Case in point: the sale of the Cubs at the end of the 2007 season. The Forbes report has the Cubs valued at $592 million. If the figure is just for the Cubs, then it may be close to correct. Rumors have filtered out that before the Cubs' wild orgy of spending this past offseason, the value was $650 million; the spending spree may have actually knocked the franchise's value down a notch or two. The question with that figure (and with the Forbes valuation) is what the Cubs are really worth when you factor in assets that will most likely come with the sale. When you add in Wrigley Field and a 20 percent ownership of Comcast SportsNet, the sale price could be between $700-$800 million. If the figure lands in this range, it will be the new high-water mark for a MLB franchise sale, surpassing the 2002 sale of the Red Sox that came bundled with Fenway Park and the 80 percent ownership stake of NESN.

Moving off the large-revenue franchises, maybe the biggest news from the valuations (not exclusive to this year) is that it's the clubs that are pulling in the most profits that have cried out for competitive balance and pushed hardest for increased revenue sharing. Of the top ten clubs in profit (by operating income), three are in the bottom five of total franchise valuation. By Forbes' reporting, the Marlins pulled in a staggering $43.3 million in profits. The Dodgers came in second with $27.5 million in operating income, a difference of 57.5 percent. A league-low $18 million in player payroll last season for the Marlins was a pretty good example of one way to pull in hefty profits-just lower your overhead. But it's not just the Marlins that have pulled in the green while raking in revenue sharing: the Pirates came in third ($25.3 million), the Rockies sixth ($23.9 million), the Reds seventh ($22.4 million), and the Brewers tenth ($20.8 million). Even the Devil Rays pulled in a healthy profit, coming in eleventh out of the 30 clubs at $20.2 million.

Needless to say, some of these clubs are not as open-minded as the Yankees were when it came to their valuations. David Samson of the Marlins was quoted in the AP as saying, "As usual, the franchise valuations and operating income numbers are pure fantasy and based on no correct information. ... To comment on such irresponsible journalism would only give it more credit than it deserves." Well, maybe. If you wished to be gracious to the Marlins, maybe the cuts (and profit taking) are due to going in the red during the years leading up to, and shortly after, the 2003 World Series win. That's a big maybe.

In the case of the Pirates, they have no such fig leaf to hide behind. "The information reported in Forbes is simply inaccurate," principal owner Bob Nutting said to the Pittsburgh-Post Gazette. "We are operating the Pirates responsibly from a solid business and baseball foundation in order to consistently compete on the field and maintain the long-term viability of the franchise," Nutting said.

Nutting and Kevin McClatchy have both decided to say that they've hitched their wagon to the model that the A's and Twins have used with great success: field a competitive team with a modest player payroll. There's some problems with that assertion. For one, the Pirates have had a losing record for 14 years running, and could be on the way to year 15, a remarkably poor job of team assembly with the little money they've used. The Pirates' 2007 Opening Day payroll came in at $38.6 million, the third-lowest in MLB, and down from a 2006 season-end payroll of $43.4 million. The real issue with the Pirates ownership trying to compare themselves with the A's and Twins model is that those clubs aren't brazenly pulling in profits-they rank 19^th and 20^th respectively in terms of operating income in Forbes' valuation. Both organizations also have solid track records for procuring player talent. McClatchy and Nutting have both been on record saying the Pirates are making a profit (a modest one, mind you) but aren't pocketing those profits, for the most part. So, with the player payroll as skinny as it is, in light of the hefty profits they're pulling in, where is the money going? The answer seems to be that they're paying down their debt, which was approximately $120 million in 2005.

Paying down debt is, in a sense, paying yourself, as the value of the franchise increases as the debt is paid down; the pure profit making would come at the time the franchise is sold. So there is profit taking going on with MLB clubs, and with the game awash in revenues, one should expect it. It's just a matter of "how" those clubs playing the "fiscally responsible" card wind up at the top of the profit-making heap that is questionable.

In closing, the Forbes valuations are not perfect. Blame MLB for not opening up their books and letting us all find out what the "real deal" is on the ledgers. They do however show a good overall snapshot of the health of the clubs. The trend of low-valued franchises pulling in high profits might be addressed within the structure of the current CBA, but I'm not holding my breath; we'll have to look at next year's figures to see if there is a start in that direction. Short of a salary floor, it seems likely that profit grabbing will continue, and even if a floor was instituted, it isn't a given that it would stop. With the ability of clubs to shelter monies outside of the revenue-sharing system, and MLB rolling in growing revenues, the environment seems ripe for high revenue-makers to try and hide money in the cushions to keep those clubs that are crying poor, yet pulling in hefty profits, from picking their pockets.

Maury Brown is an author of Baseball Prospectus. 
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