By Adam Grossman
On Sunday, the NBA approved the sale of the Los Angeles Clippers to former Microsoft CEO Steve Ballmer for $2 billion. From a brand management and crisis perspective, it is easy to see why the NBA wanted to approve this sale as quickly as possible. I, among many others, have written about the damage that current owner Donald Sterling has done to both the team and the league.
From an economic perspective, it becomes clearer why the NBA wanted to approve the sale as well. Using virtually any standard valuation metric that exists today, Ballmer has agreed to vastly overpay for the Los Angeles Clippers.
Finance industry professionals (investment bankers, venture capitalists, and private equity firms) primarily use three valuation approaches: inherent valuation, relative valuation, and comparable valuation. Using any of these approaches, it is virtually impossible to see how the Clippers are worth $2 billion.
To complete a valuation of a sports team, you need to start with understanding an organization’s revenue streams. Six revenue streams account for virtually all money earned by a sports organization. Like many new owners buying sports franchises, Ballmer is betting that two revenue streams will increase significantly to make his investment profitable: media rights and subsidy. Media revenue refers to the television, mobile, and digital distribution agreements signed by an individual organization. Subsidy revenue includes all revenue shared by a sports league with individual franchises.
The Los Angeles Clippers revenue will increase significantly in both areas after the 2015-16 season. Both the team’s local media rights deal and the NBA’s league wide revenue deals expire after that season. According to Forbes, the Clippers’ local television rights deal can increase to as high as $75 million per year from its current $18 million per year value. In addition, the NBA’s league wide media rights deal is expected to double from its current $930 million per year value. This means the Clippers will receive double its current media rights subsidy from a new deal – about $30 million per year.
Minnesota Timberwolves-LA Clippers game at Staples Center. Photo by David Jones, 2012. CC BY 2.0 via davidcjones Flickr.
While this is all great news for the Clippers, it does not make the team worth $2 billion. An inherent valuation approach uses a discounted cash flow model to evaluate an asset’s worth. This essentially means looking at how much profit is generated by an organization and discounting the profits based on the potential risk factors. Factor in both idiosyncratic (risk associated with owning the Clippers specifically) and systemic risk (risk associated with any financial asset). In our analysis, the Clippers generated an estimated $11 million in annual operating profit from now through 2015-16 season. Starting in the 2016-17 season when the new media rights and subsidy revenue streams start, the Clippers would generate $54 million in annual operating profit in perpetuity. Using this approach, we found the Clippers to be worth $1.05 billion.
We don’t want, however, to rely on a single technique for our assessment of the Clippers’ value. Therefore, employ a relative valuation approach that compares a company’s value using a standard valuation metric. The most common metric used is a price to earnings (P/E) ratio. This means that you compare the price of an asset compared to the amount of annual profit that asset is generating. For example, the average P/E ratio on the S & P 500 is currently at 18.3. The Clippers would have an estimated 36.8 P/E ratio given our estimated operating profits after the 2016-17 season after Ballmer purchases the team. Using the average P / E Ratio of the S & P 500 would produce a value of $990 million.
The only real argument that could be made for the Clippers being worth $2 billion would be by using a comparable valuation. With this approach, an investor looks at what other similar assets have been sold for to determine a value. You only have to look at the Clippers’ baseball neighbors to see a team that recently sold for a similar amount. The Los Angeles Dodgers were recently sold for $2.15 billion to a group led by Guggenheim Partners. While both are sports organizations, the Clippers and the Dodgers are actually very different types of properties. Because it has a bigger venue and plays many more games, the Dodgers currently make as much or more in annual ticket sales revenue than the Clippers make from all revenue streams. The Dodgers also recently signed a $7 billion 25-year local media rights agreement that will pay it far more in average annual dollars than any new media rights deal the Clippers could negotiate. A more appropriate comparison would be to examine the Clippers compared to other NBA franchises. The Milwaukee Bucks recently sold for a league record of $550 million. Ballmer is now paying 3.6 times more than the record amount paid for an NBA franchise.
To be fair to Ballmer, both the media rights and subsidy deals could far exceed expert expectations. The Los Angeles Lakers recently signed two new media rights deals for their English and Spanish broadcasts for $4 billion over 20 years, an average of $200 million per year. The NFL has recently signed new media rights deals that pay the league $7.25 billion in annual revenue, an average of $227 million per team. If the Clippers end up receiving $150 million per year in media rights revenue and the NBA contract triples from its current value then we would estimate the team being worth $2.05 billion. It is also likely that ticket sales and sponsorship revenue will increase significantly with a new owner.
ESPN’s Bill Simmons recently stated that the sale of the Clippers resembled the purchase of a home without the buyer being able to complete a home inspection. The sale of the Clippers was happening so quickly that it was impossible for Ballmer to know what exactly he was buying. However, Ballmer can (and likely has) completed an inspection of the Clippers similar to the one we just described — and he will discover there is no way to generate a $2 billion valuation for the Clippers.
Adam Grossman is the Founder and President of Block Six Analytics (B6A). He has worked with a number of sports organizations, including the Minnesota Timberwolves, Washington Capitals, and SMG @ Solider Field, to enhance their corporate sponsorship and enterprise marketing capabilities. He is the co-author of The Sports Strategist: Developing Leaders for a High-Performance Industry with Irving Rein and Ben Shields. Read his previous blog posts.
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It’s Friday, so I’m gonna go all jazzy and chromatically-scaled on you. No huge life lessons or clever freelance tips today. Cool?
Just a couple things.
People
Since we’re on the web and all, I get to easily share those online places and people that shape my days. These people make me think (in a good way) and help me grow as a person and an artist (and they probably have no idea). They’re also my friends. I think of them as my trusted team of advisors.
Havi Brooks, Fluent Self
Havi’s destuckification simply rocks. If you told me you found a more down-to-earth educator, I wouldn’t believe you. She just gets people.
Initially when I read Havi’s blog it made me all cranky. Self-righteous. Defensive. Her writing was and is simply awesome, but at the time I stumbled on it I was struggling with some serious what-the-hell-am-I-doing and where-do-I-fit-in-to-this-independent-business-world issues.
At one point, Havi e-mailed me about a comment I had left and we had a little conversation that was a turning point for me. She probably doesn’t even know it and likely wouldn’t take credit for it. Since then the way I see other people has changed. I’m not only more open to other viewpoints, I seek them out.
I also had the pleasure of hanging with Havi and her gentleman friend (more on him later) for an afternoon.
Nathan Bowers, UX Hero: Saving the world, one user Experience at a time.
Nathan is just brilliant.
The way he sees technology and the user experience is an art form. In fact, he uses art to get across his ideas, which is where the brilliance lies. It probably helps that he’s also an artist, which is a rare combination. We met up in Los Angeles one day and shared both sides of our brains. In the sitcom of my life, Nathan is Mallory Keaton’s boyfriend Nick. Remember, he called dibs.
Naomi Dunford, IttyBiz
“Get off your ass!”
I’m not sure if I even need to say any more, but I will. Naomi is a marketing rock star. It doesn’t matter that she isn’t an artist, doesn’t sell a clothing line, or fix Volvos. Whatever it is, she knows how to market it, because she knows people (again with the people). I attended her Marketing 101 class and since then I’m incredibly, amazingly more confident in my marketing efforts.
She also responds to my verbose and rambling e-mails. Now that’s class.
Richard Miller, Calyx Design
After a year of Twittering about “Let’s meet up,” we’ve only recently had the pleasure of sharing hops, barley, and yeast in a glass. Richard is a brilliant designer and an incredibly smart guy (seems to be a running theme here… I see smart people).
Besides his awesome design work, he runs a blog called Sparkletack, which chronicles the history of San Francisco. San Francisco has always appealed to me (yes, me, the diehard Los Angeleno). It’s sort of New York City Meets the Gold Rush. I loved spending time there (much of it inside City Lights bookstore, but whatever).
Anyway, for me Sparkletack feeds my California history jones and it’s also a wellspring for artistic inspiration. The beautiful artwork in the frequently-changing headers alone will keep me transfixed for a good half hour.
Tara Reed, Tara Reed Designs
I’ve had art licensing on my mind for about a year now, but Tara has actually shown me how to do it. She’s an amazing artist and one of those rare artists who truly understands the business side of things. Since I’m one of those rare business-thinking creatures myself, we hit it off. She’s an awesome teacher. Since I’ve been reading her stuff, I know exactly how to get my art into circulation. The best part is, it’s syncs right up with Naomi’s “Get off your ass!” Step one: Get off ass. Or in my case, get on my ass (chairwise).
Money
I get grillified every time I talk about business terms like “pipeline or ” numbers.” People (artists particularly) seem to hate those words and the fact that I use them. I’ve been labeled “stuffy” and “disingenuous.” Apparently I’m not “authentic” (latest buzzword) when I start messing with the hippy-trippy groove of making art and then asking my heart to do something with it while I think about nice things. This is also one of those “seeking other viewpoints” thing I mentioned before. If you have another way of thinking about this, please, please, please. I’m open!
I really do get it. I’m all about making the art first and loving the process (see last trippy post). If you create art by trying to please the mass market, it will look forced, like couscous at a biker rally.
However, I give out these little business-type secrets for free. It’s not because I want to see artists picking out neckties at Niemann Marcus or watching CNN Financial News. It’s because I lived in the corporate world for a long time and learned a thing or two about how to make it rain (did you wince at that one?). One of the things I learned was how to create and maintain a pipeline.
What’s a pipeline?
Pipeline is just a term. If that word makes you gag, you can use money hose, revenue conduit, or even Angie Dickinson. I don’t care.
It’s simply a reflection of the project leads you have coming in every week, month, year, whatever. If you can track the leads you’ve generated, the requests that come in, and the potential amounts of cash they’ll provide, you can better predict what’s going to be happening in your future.
It’s so simple. I use a very basic spreadsheet in two parts. It looks like this (bogus info, of course):
*names changed to protect the innocent
You can see that I have columns for tracking everything from estimated revenue, to follow-up dates, to where the lead came from. Not only do I know how this all happened, I have some ideas about how to keep it happening. Or I know I need to change my approach.
The other part is a simple goals chart. Yep, I gots goals. The numbers are totally wacky here, but hopefully you get the picture. I predict how much I think I might bring in based on last year, figure how much I need to make, and somewhere between those two is my goal. It’s not set in stone. Sometimes I adjust it up or down based on my pipeline. I set the goals to be challenging but not soul-killing if I don’t hit them. Check it out:
*numbers changed to inflate my sense of self-worth
Every time I get a new lead, I plug it into my spreadsheet. When I review it every week, I have a very good picture of how much revenue I can potentially generate in the coming months, where it’s coming from, plus how much revenue I need to generate. It doesn’t create the leads or the revenue, it only tracks it. You have to do the work to create those leads, but tracking them can be extremely powerful and liberating.
That’s it. It’s so simple and yet generates so much eye-rolling and gagging in some circles. Those same people express frustration at not knowing where their business is going or why they don’t know how to predict their own financial success or failure.
There’s probably some software out there that does some of this for you. Go for it. Automate your tracking, awesomesauce! This works for me and I wouldn’t be hitting you over the head with it if it didn’t work. If I didn’t actually use the business skills I learned over the years because of a hang-up I have over stuffy business words or practices, I would still be working full time in an office somewhere.
But I’m not. I’m makin’ art. For me. For you. Let’s totally hold hands and sing! Let me close this spreadsheet first.
So what do you do to track your business’s progress? This mind wants to know. Is it nothing? If it’s nothing, how do you make it all work? Because that would be something to learn.
