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Wednesday, March 28, 2012

Do You Believe In Magic? Thoughts On The New Ownership Group

If You're Not Paying For It, You Become The Product.
blue_beetle on Metafilter, by way of Scott Goodson at Forbes
I must constantly remind myself that there is at least one thing that the McCourts actually did right as far as Dodger fans should be concerned. The team has seen the postseason four times, which is three times more than in the entire post-1988 era under O'Malley and Fox combined ownership. Also he managed to double team revenue — in part through means widely derided among fans, such as radically increasing parking fees. But that, really, is the limit of it. The McCourts were and are venal, selfish in profoundly unenlightened ways. They lack any instinct of noblesse oblige to the team or its fans, have increased parking costs precipitously, and have roughly handled the front office and its employees when they weren't squandering funds, both internally and for themselves.

So, it is understandable that yesterday's announcement of the sale of the Dodgers to the Magic Johnson/Stan Kasten/Guggenheim Partners group would elicit hosannas from Dodger fans, whose "long-suffering" mantle has to be kept in context. Pirates fans haven't had a winning season since 1992, and while they're anomalous in sports, it's a useful tonic for those who might feel ill-used by the McCourts.

That said, it seems to me there are two things (at least) we need to be cognizant of as Magic Johnson's banner goes up over the stadium:

  1. $2 billion is a lot of money. The bid, as MSTI pointed out, is 100% cash. This is astonishing, and for the McCourts, the very definition of failing up. For that kind of money, the new owners will want some return; and I really fear what that would entail.
  2. Cable TV revenues are not what they seem. The numbers floated previously — $3 billion from Fox — are eye-popping, and underpin the enormous valuation of the Dodgers. Yet, cable TV subscribers are cancelling in record numbers.
    “Rising prices for pay TV, coupled with growing availability of lower-cost alternatives, add to a toxic mix at a time when disposable income isn’t growing,” [Sanford C. Bernstein analyst Craig] Moffett said. “For younger demographics, where in many cohorts unemployment is north of 30 percent, and especially for those with limited or no interest in sports, the pay-TV equation is almost inarguably getting less attractive.”
    So, we may read this fairly as the cable TV companies making a huge, all-in bet on sports generally and the Dodgers specifically as a means to stay relevant, while a large fraction of their audience leaks away to YouTube, Hulu, and other Internet-based options. This isn't just a case of satellite operators luring away more cable customers, as they, too, are suffering subscriber declines. More evidence of this trend comes from the fact that television ownership has declined for the first time in twenty years. Even Verizon's sexy FiOS service is reporting growth is finally leveling off, while 75% of the top twenty cable channels report declines in viewership.
Now, of course, some of this cable TV subscriber contraction can be laid on the current economy (the WSJ article on Dish Network above mentions this, especially for young potential customers), but the overall signs are unmistakeable. Trees do not grow to the sky. As with the housing bubble, there are ominous signs that the Dodgers new owners face a fiscal future that, while superficially better than McCourt ownership, is far less sanguine than it at first appears. The team's finances rest on a sand hill of TV viewers, many of whom are abandoning cable at a time the networks have bet big that sports will keep them around. I expect these deals will falter, either by bankruptcy (imagine Fox going Chapter 11) — or by inflation ($100M contracts for short relievers, anyone?). The net result is that the "free ride" for Dodgers (and Angels) fans will be over, and a lot of things will get that much more expensive.

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Finally, some balance! Quite right on the points about McCourt. The guy's a dick but not the devil; the lack of perspective during this whole McCourt saga has been nauseating IMO.

On the $2B, I sort of agree. I made a few comments over at MSTI about this and there's no need to rehash them here. But, one thing that one of the articles (I think the original WSJ article) clarified that the $2B is actually composed of $1.6B "cash" and $400MM in assumption of debt. Now, much of that $400MM are long term debts and aren't due on day one. So, they will be dispensed with in the normal process with which companies deal with them. We are then left with $1.6B. Admittedly, still a large number, however, I think one of the smartest move of Walter/Guggenheim is to use their insurance businesses to stump up the cash rather than syndicating the deal out (e.g. bringing outside investors) and going through the traditional PE/leveraged buyout route. Throughout the day, in discussions with people about this, I've come to call this the Warren Buffet strategy.

The undeniable fact is, insurance companies throw off a lot of cash (due to policy premium payments) and the wonderful thing is, they have no real need for cash until policies are paid out. The time horizon on their investments is stretched out that much further. Now, I agree that at the end of the day, they are still in it for financial reasons rather than any such non-sense about the love of the game but undoubtedly, they can afford to play the long game. Much more so than any other type of buyer.

On point 2, while you are absolutely right on the larger economic dynamics of the TV industry and the overall negative trend, the $3B/17yr Fox deal is not really all that eye popping. That works out to be $176.5MM/yr. The Angels' deal worked out to be $150MM/yr. The Dodgers is worth more than $26MM over the Angels. I would expect the Dodgers' RSN to pay the team somewhere between the Fox number and a bit over $200MM, which probably still undervalues it a small bit.
Interesting comments. Thank you, Greg.

To my knowledge, the Angels deal is not backloaded, and because we do not know the terms of the Dodgers deal (which was only proposed, never signed), I can't say whether it was, either. But that is only one aspect of the deal, and perhaps a relatively unimportant one.

It still seems to me that, insurer or no, the Dodgers will have to operate as a business, and they will have to recoup for their owners the investment they lavished upon it to win it. These are very canny businessmen behind this, and I do not think for a moment that they will cease to function that way once they become owners of a baseball franchise.
Having had a night to sleep on this thing, it occurs to me that given the broader context, the original 17 year Fox deal that was proposed to McCourt is actually way worse for the precise reason that it is so heavily front loaded. There was something like $350MM+ of which only half would have gone to the team. So, the average rate of that deal drops another $10MM or thereabouts starting in year 2.

Oh, I agree with you on the Dodgers needing to operate as a business. That's the reality even if these people came in as sugar daddies. There is only a finite amount of dollars in the world and the baseball team is really an extension of the business. To bring up the point about the source of the funding is simply to point out that relative to other sources, they can afford to have a longer time horizon view of this particular investment.
The angels deal is backloaded also. Part of how they were able to sign Albert Pujols was to make his salary backloaded, and have its large jumps coincide with the Fox Cable deal's large jumps. Pujols is only going to make $12 million this year, compared to $30 million in 2021. Similarly, the cable deal will over the length of the deal be worth an average of $150 million/year, but it will start < and end > said figure.

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