PED 217 - Social Aspects of Sport

Chapter 11

Sport and Economics

There are 3 levels of sport:

1. Informal: many of us engaged during our childhood and youth.
2. Organized: extracurriculars during grade school, high school and college.
3. Corporate: it contains elements of informal and organized sports but adds economics and politics: sports are big business. It is identified by the interest of owners, sponsors and players.

Sport began to take on its present appearance in the 1930’s, when the economy began to recover from the depression. After World War II owners realized that they could make better use of their facilities. The availability of sports arenas that were used less than maximum created an opportunity for sports production and consumption in our political economy.

There are 3 ways a company can use sports to sell a product:

1. An athlete can be paid to endorse the product.
2. A company can purchase TV or radio time and advertise the product.
3. It can sponsor an event and have its name linked to the event.

The top three corporate sponsors in 1996 were Anheuser Busch (175 million), General Motors (150 million), and Philip Morris (128 million). Corporations can promote their products by sponsoring sporting events: The Mobile Cotton Bowl, The Federal Express Orange Bowl, and The Sunkist Fiesta Bowl.

Major corporations have enlisted the aid of firms that specialize in sports marketing: Example: Citicorp, the nation’s largest bank, decided to go into the credit card business. They felt its target customer was over 35, and had an interest in participation sports such as tennis. A consultant firm linked Citicorp new product with tennis stars.

Corporations also merchandise their products by underwriting the cost of constructing stadiums (Coors Field in Denver, Pacific Bell Park in San Francisco). Ballparks also bear the name of airlines (United Center in Chicago).

Nike purchased 5500 tickets to a football game to give to Los Angeles area boys and girl clubs. Even though this was a kind act, the purchase made the game a sellout. If the game is not a sellout it would not be able to be broadcast on TV. With Nike purchasing the tickets, not only would the game be on, but their commercials would be as well.

In 1996 a 30 second ad during the super bowl cost 1.2 million dollars, but there are also 750 million viewers for that game.

The earliest owners grew up with the game. Men such as George Halas (Chicago Bears) wrapped themselves up in the total operation of the franchise.

The second stage of ownership were business tycoons with large industrial holdings who sought both to contribute to the community and advertise their products, such as August Busch (Cardinals owner and Budweiser executive), and Phil Wrigley (Chicago Cub owner and chewing gum baron).

The third stage in ownership is the corporate manager who approached sport as a business. This owner wanted the team with the most lucrative potential and best tax advantage. They seek to use the team for financial gain and then sell it. From 1963-1975, the NBA saw an overturn of 44 owners of franchises.

Who are the owners?

1. Businesses whose controlling interests are owned by parent companies: These teams are owned by larger companies: Cablevision (Knicks), Molson (Canadians).
2. Family owned: Some family owned teams own the stadium, concessions, parking, etc. The Los Angeles Dodgers, Pittsburgh Steelers, and Chicago Bears are examples here.
3. Public ownership: Bucks and Packers are two of less than a dozen publicly owned teams.
4. The entrepreneur who has made millions in another business and channels it into the sport market. (Detroit Tigers are owned by M. Ilitch: who owns Little Caesars, Florida Marlins are owned by Wayne Huizenga: who controls video rentals, and the Philadelphia 76ers are owned by Harold Katz: who made millions in weight loss products. The late Ray Kroc, who owned the San Diego Padres, also owned McDonalds).

How big is the sports industry? In 1989 it was estimated to be at 85 billion: the eighth highest industry in the United States. This includes gate receipts, concessions, souvenirs, sporting goods, TV revenues, etc. (the sporting goods industry reported over 30 billion dollars in sales in 1990). The professional sports industry is really a small part of the billions spent on sports and recreation.

The ultimate goal of owning a team is profit maximization, which is accomplished through direct revenues received from box office receipts, television, and radio rights sales, or indirectly by using financial loses as tax deductions.

Professional sports clubs have 3 main sources of revenue:

1. ticket sales
2. the sale of media rights
3. stadium revenues (concessions, parking, luxury boxes)

Determinants of Attendance

1. Team success-the most important factor. Winning teams generate higher ticket sales. The professional sports industry is like any other industry, the owner will acquire talented players up to the point where the value of the additional attendance equals the cost of the additional athlete.
2. Market area- variations in the size of market areas (Milwaukee compared to New York), direct competition from other forms of entertainment and recreation, sport markets from the start vary with respect to potential revenues.

Market areas possess different revenue potential. A superstar is worth more (Richie Sexson) in some market areas such as New York and Los Angeles, than in other cities like Kansas City and Milwaukee.

The Pittsburgh Pirates (a small market) lost 7.6 million dollars despite winning the divisional championship, having record attendance, and earning more TV money than in their entire history. They claimed the structure of baseball made it impossible for them to pay their best players (Barry Bonds) as much as they could make elsewhere. So those players go to bigger markets, and the chance of having competitive balance is not going to happen (the NFL has a salary cap, baseball does not).

To compensate for this some leagues practice revenue sharing, whereby home game receipts are divided with visiting teams (the NBA and NHL do not).

Telecast and Broadcast Rights and Sales

The other major source for professional teams is the sale of media rights. In the mid 50’s, only 15% of the revenues for a football and baseball team were from this source. Today, football depends on broadcast sales for 60% and baseball about 45%.

Professional sports clubs receive media from two sources:

1. Individual clubs negotiate their own broadcast packages with local radio and television stations.
2. The league barters with national networks for all clubs within its area.

A is unfair to the smaller markets because bigger areas are going to receive more money for their product.

B is more equitable because the income in shared among teams within the league.

National Contracts

1. The most recent 4 year 3.6 billion NFL TV pact guarantees each team 32 million for 4 years.
2. The 4 year baseball contract for 1.5 billion guaranteed each team about 14 million each year.
3. The most recent NBA contract of 875 million guaranteed each team about 9 million per year.
4. The NHL has a 5 year 155 million media contract (this contract recently expired and they do not have a new one in place, currently).

2 things about these contracts to consider:

1. These are amounts guaranteed before a single ticket is sold.
2. They implicate the amount of money that is due to revenue sharing in some professional sports. The hockey industry suffers because they have no national contract and have to rely on local broadcasts.

The United States Football League, (video from outside the lines), World Football League, and North American Soccer League were not successful in selling their product to the networks because their franchises were located in weaker markets that were less attractive to the national networks and advertisers.

Local Contracts: including cable, over the air TV, and radio sport packages.

Here we find major financial differences: The Cubs have all three listed above and receive more money than markets in their divisions (Milwaukee, Cincinnati, and Pittsburgh). New York clearly has the advantage because they have the largest market.

If it were just trying to balance revenues and costs, few franchises would show a profit, but between the TV contract and the tax benefits some can balance the books, but many are not able to do so. Clubs located in smaller markets or who field weaker teams are financially unsuccessful.

How did the Brewers make money last year? (2002)

The value of sport franchises has steadily increased. The gap between the highest and lowest teams in value has widened. The average annual increase in franchise value was 24%, 19%, and 50% in baseball, football and basketball respectively

“To Make Money One Must Spend Money: Owners claim that their teams are not making money because of the high contracts that are being paid to players in the major team sports. Some have written that the value of professional teams will rise to unthinkable levels as a result of consolidation of media and entertainment companies, coupled with those interests in providing sports programming.

Young players are clearly a bargain for owners. Here is an example of a baseball player from Toronto. His salary was low when he started out but as he became a star, you will be able to see the difference.

• 1986: 88,000
• 1987: 96,000
• 1988: 130,000
• 1989: 462,000
• 1990: 1,250,000
• 1991: 3,666,666

The Law of Depreciation as Applied to Sport

Owners do not purchase teams as a public service. Because sports have an uncertain profit outlook, why would a potential owner purchase a team? One attraction is something called the Law of Depreciation. If you buy a car or office supplies the value of that product will go down as time goes by. In sports it is the athlete who depreciates in value. The tax laws permit a portion of the value of something to be deducted because it drops in value each year. It is a business expense that can be deducted when doing taxes.

A new owner of a team buys two assets:

1. A license to the franchise, permitting the team to engage in contests with other league teams and to share in the broadcast revenue with other league clubs, and to occupy a certain territory.
2. A batch of players and contracts

The license to the franchise can’t wear out, if fact it usually appreciates (makes money), but players do wear out and their value diminishes. That is how the law of depreciation works, and it is referred to as the amortization of player contracts.

Amortization of Player Contracts

A team is worth 200 million.

The new owner declares 100 million for player contracts.

The other 100 million is to the franchise license.

The IRS allows the player costs to be amortized (to set aside money for future payment) over a 5 year period and treated as an indirect loss of 20 million per year.

The money set aside, is purely on paper, and commonly takes the form of writing off signing bonuses for the length of the player’s contract.

A player who has a signing bonus for a three year contract of 3 million dollars allows the owner to write off 1 million dollars per year on his taxes.

Once the contracts go its 5 year period and are no longer depreciated (lowered in value), the owner may sell the team, because he is unable going to profit.

If a team owner owns another very profitable business, the amortization of contracts may be applied against the profits in the other business for tax savings, and the owner can enjoy a sizable tax savings. So if an owner made 50 million dollars in a trucking business but reported 25 million in losses from his team due to amortization of contracts and operating losses, he will only pay taxes on 25 million dollars.

Sports are now a tax shelter for many business men and their corporations.

The Financing of Sport Facilities

This is one of the most controversial issues in the political economy of sports.

Many professional sport facilities are publicly owned and financed (through revenue bonds issued by city, county, or state governments) and rented to sport associations at relatively low rates through so-called “sweetheart leases”.

What are the advantages of these cheap rentals?

1. To make the community look better and stimulate economic activity in non sport enterprises (hotels).
2. To generate employment, consumer sales, and tax collections from sporting events.
3. To provide recreational opportunity to community residents.
4. To improve the morale of the citizens.

Many facilities have been built at taxpayer expense because the building projects often cannot pay for themselves and become public liabilities. Owners are relieved from paying property taxes, insurance, maintainance, and construction costs (Miller Park). The city receives revenue from ticket taxes, concessions, employee taxes, and stadium rental fees. Business in the community increases due to a team having a new park (look at all the people from Chicago who stayed for the series in Milwaukee this fall).

Ethical Issues

1. Should public monies be used to finance such structures?
2. Should public monies be channeled into sports, or other things more necessary?

Costs of Ownership

There are 3 primary expenses:

1. Player compensation: salaries, pensions, fringe benefits.
2. Game expenses: travel expenses, stadium rentals.
3. General and administration costs: salaries for owners, executives, concessionaires.

The major percentage of expenses is player costs. The minimum salaries would still place athletes in the 90 percentile of money earned. Major league baseball’s average salary is well over 1 million dollars. 12% of all MLB players receive 54% of the total payroll (Barry Bonds, Sammy Sosa).

Babe Ruth making 80,000 dollars in 1932 equals about 750,000 today. Sociologists say the turning point in salaries came in 1960 when the new American Football League began bidding for players from the NFL. Joe Namath’s signing in 1965 created a huge momentum in salary escalation. Soon after the ABA competed with players from the NBA. In 1968 the average NBA salary was 20,000, and today it’s over 2 million.

The Athletic Labor Market

If a team signs a player for 500,000 dollars, they believe that the team will be worth or will make 500,000 dollars more. A player who is signed for very little money (say 40,000) and happens to draw over 7500 more fans to games when he played, makes him realize he is worth well more because of the revenue the organization took in because of his presence on the team (the team took in almost a million dollars more in tickets because of him). The player’s agent will ask the following year for 1 million dollars.

When Wayne Gretzky was signed to an 8 year, 20 million dollar contract to play in Los Angeles, ticket sales alone grossed over 8 million dollars.

Sport is a self regulating monopoly (exclusive control of a service in a given market), and owners act as a cartel (a syndicate), an economic body formed by a group of teams within the same industry (baseball for example), who deliberate on rules, scheduling, etc. AN ARRANGEMENT LIKE THIS IS ILLEGAL IN ANY OTHER AMERICAN BUSINESS, but sports are able to get away with this, and they make big money.

This happened because of the Sherman Antitrust Law, which made illegal every contract in restraint of trade among the states or with foreign nations. What does this means in terms of baseball?

1. There were 24 teams in eight different states who engaged in interstate financial transactions.
2. A team in one city could not hire a player in another city.
3. The owners conspired to keep a cap on player’s salaries.

In 1922 it was decided that baseball was not violating anti trust laws because they were taking players into another state, and this law stayed intact until the Curt Flood court case in the 1970’s. Because of this:

1. Baseball controlled the competition for players.
2. Baseball controlled the location of franchises.
3. Baseball controlled the sale of media rights.

Player Reserve Clause

The player reserve system meant that every club had the sole right to negotiate with players whose services were being provided to that club. Because of that, player salaries were controlled by the owner of the team. The athlete had to take it or leave it. Thus the owners prospered and the players were not paid well, below the level they would receive had they been able to bargain in the competitive environment. This reserve clause was really dominant in baseball and hockey, the owner was in complete control of those players’ future and salary.

Social and legal changes have altered these restrictive clauses (Curt Flood’s court battle), especially the 1976 decision that allowed two players to acquire free agent status. This demolished the reserve clause. Now athletes can negotiate with other clubs when their contract expired, thus they were in the position to make a large sum of money. The downside here is that the talented players have seemed to migrate to the large market areas.

The free agent draft (for rookies)

Rookies out of college or high school go into the draft, where teams pick players in order of how they finished the year before (the worst team picked first). The idea of this draft (especially in the NFL) was to provide competitive balance among the teams.

However, the only real advantage the last place team has is that they pick first. If there are 30 teams, they won’t pick again until the 31st pick. One player usually does not turn a team around in football, because of all the different types of players (defense, offense, special teams). In basketball if it is a Michael Jordan there can be immediate impact.

The draft system achieving parity is highly debatable because of all the great dynasties (Laker video) that have occurred in sports (you will do a paper on one).

There have been 3 baseball strikes (1981, 1985, 1994), a football strike in 1982, and an NHL strike in 1994.

The owners argue that if players are permitted to freely negotiate contracts with various clubs, the richest clubs will end up with the best talent: as a consequence the competitive balance of sports would be destroyed and would not be in the best interest of the game. Then the weakest teams would accumulate the poorest records, and their fans would desert those (Brewers).

As we know the best teams don’t always win.

Recent changes in professional athlete’s legal status:

• Collective Bargaining: A process by which labor unions negotiate with owners and management regarding matters such as wages, pensions, free agency, working conditions, and fringe benefits. Baseball unions and player representatives, negotiate for all the players.

What does this mean for baseball? What does this mean for the fan? Will there ever be competitive balance in the sport? What would you do if you had the sole power to control baseball?

Football: In 1977 the league and club owners established minimum salary schedules for rookies and veterans. In 1995 they introduced the hard salary cap; where teams can only spend so much money on salaries, and if they go over they pay a fine to the league (the Cowboys are always over the cap because their owner has a great deal of money).

In 1996 the NFL’s collective bargaining agreement included the following provisions:

1. The free agent system was modified where franchise players were protected and others could be pursued by other teams.
2. A minimum salary for protected players by averaging the salaries of the best players at their particular positions.
3. Increases in player pensions, life insurance, medical benefits, and severance pay.
4. Full free agency after 4 years of service.
5. Teams following a salary cap of 64% of gross league revenues.

Basketball

David Stern, the commissioner of the NBA, negotiated a revolutionary collective bargaining agreement. This is a salary cap of 53% for players’ salaries from the league’s gross revenues. Other changes:

1. A player’s owner has right of first refusal. If the current owner equals the contract offered by another club, the owner retains the right to the player.
2. The owners agreed to pay 4.5 million dollars to former players damaged by the old system.