By Jared F. Bartie, Daniel A. Etna and Irwin A. Kishner, with assistance from Herrick corporate associate Vivian Wang, of the Herrick Sports Law Group
Of all the trophy assets one can own, a professional sports team is one of the most coveted, exclusive and elusive. Today, given rising acquisition costs and the lucrative revenue opportunities teams offer, they are run as sophisticated enterprises with the purpose of yielding profit for their well-heeled investors.
On the surface, buying and selling a professional sports team may seem like a regular M&A transaction. However, these deals have complicated twists that require extensive due diligence and the guidance of experienced counsel well-versed in a number of areas specific to the sports landscape. Potential team buyers and sellers need to be able to navigate the transaction process under the watchful eyes of respective leagues and governing bodies, while negotiating a plethora of business and legal issues.
Supply and Demand
Professional sports teams are limited commodities, and demand far outpaces supply. There are only 122 teams within the four major leagues, and as team values have increased, the pool of potential buyers who can afford to purchase them has dwindled. Competition therefore is fierce, as teams do not change ownership often. For instance, the NHL’s Chicago Blackhawks haven’t changed ownership since 1954, the MLB’s Chicago White Sox since 1981, the NBA’s Indiana Pacers since 1983, and the NFL’s Arizona Cardinals since 1972. This market with limited supply and large demand contributes to a continuous cycle that drives team prices upward. On the infrequent occasion that a team is for sale, the transacting parties need to ensure that they are adequately represented at the deal table.
League Guidelines
Each league has its own constitution and bylaws that set forth the process for transfers of team ownership. Before a transfer can occur, buyers are vetted extensively and are required to submit to an in-depth background check process, which includes the disclosure of personal, professional, and financial information. Depending on the league and the circumstances, it is not uncommon for potential team owners to have their financial wherewithal confirmed via a forensic review process.
Each league also has its own criteria regarding the number of investors that can comprise a buying group, including certain minimum investment requirements to be eligible for both majority and minority ownership interests. There are also specific requirements as to how much equity the lead investor must have to hold a controlling interest in a respective franchise. Leagues also scrutinize and regulate debt and equity structures, and impose debt limitations relative to their respective franchises. The financial stability of an owner group obviously affects the owned team, but also affects the strength of the league as a whole. Accordingly, leagues are careful to ensure that prospective owners have the resources to undertake team ownership.
In considering all of this, it’s important to note that leagues generally prefer to deal with individual owners because of efficiency, and to limit the discord that can exist among owners of a larger buying group. Rising team valuations have limited the pool of individual purchasers capable of buying a team on their own, but when these ultra-high-net-worth individuals are in the mix, they usually have a competitive advantage in the bidding process, stemming from their ability to act decisively, oftentimes without significant financing.
The Stadium/Arena
One of the most valuable assets is the team’s real estate — the stadium or arena, practice facilities, corporate offices and parking facilities. Thus, potential buyers should diligently review the stadium or arena lease to identify obligations that will be assumed, and to identify potential development opportunities.
Another critical aspect is whether the facility is owned by the team or a governmental authority. Owners want to maintain their facilities as first-class professional sports venues, so they can create revenue from fans that are increasingly looking for a total entertainment experience. In this regard, potential owners should know whether they are responsible for facility improvements or whether the governmental authority, if applicable, would cover the costs of improvements. If public support is anticipated with respect to stadium or arena improvement, new owners should also gauge local government and community support for taxpayer funding.
In situations where governmental funding has been provided (whether for initial construction costs or improvements), such assistance is often conditioned upon the team entering into a non-relocation agreement. Another important aspect of assessing the arena or stadium situation is whether the owner will have the right to operate the venue and retain the revenues generated from such operation. For example, a team owner will want to know whether it has the right to book non-sporting events at the venue, which can generate additional revenue. Accordingly, buyers should have a clear understanding of the terms of any existing agreement that might restrict the use of a stadium or arena. Further, if multiple teams share a facility, potential buyers need to consider additional issues such as obligations to additional team tenants including scheduling concerns, sharing of costs and revenues, and venue promotional rights.
Expenses and Revenue Opportunities
Perhaps the most important aspect of the due diligence process in relation to assessing team valuations, is gaining a firm understanding of the various expenses and revenue-generating opportunities that come with owning the team. In terms of expenses, the main costs to owners stem from the player payroll and debt service on the team and the arena or stadium. Prospective buyers should also pay keen attention to the revenue metrics of teams that are being considered for acquisition. Key revenue drivers include media rights, ticket sales, sponsorship and naming rights deals, and concessions and merchandising.
Media Rights
Sports content is one of the last bastions of must-see live TV. As a result, sports networks and distributors are willing to pay top dollar for rights to distribute team games on their respective networks. Team games are distributed over various media platforms, including local broadcast TV, cable TV and over-the-top (OTT) Internet streaming, the latter of which is an emerging trend owners will want to keep an eye on.
Sports programming has been so lucrative that some teams have formed their own regional sports networks (RSNs) to distribute their content. In addition, potential owners can look forward to participating in substantial league-wide media revenue resulting from league agreements with content distributors to broadcast games. The recent fees associated with sports team and league revenues have been the key drivers to the recent increase in team valuations.
In reviewing media-related agreements, a buyer should have an understanding of existing league-wide media agreements and the obligations and benefits to the league (particularly those that flow to the teams) as well as how the overall league agreement affects local media rights. It’s equally important to understand the local media agreement. In particular, there should be an understanding of the market territory covered by the agreement and any league-mandated out-of-market restrictions or related fees, broadcast preemption rights, copyright ownership, distribution platform rights granted, whether the team or the respective network is responsible for production costs and whether the team or the partner network is responsible for selling advertising inventory — the latter of which is a significant undertaking, but also a significant revenue source.
Ticket and Suite Sales
Ticket sales, particularly season tickets and personal seat licenses (PSLs), make up another significant portion of team revenue. Also of significance are luxury suite sales, which represent some of the higher-priced seating inventory within an arena or stadium. Both season tickets and suites are generally subject to some term of commitment, and potential buyers should pay close attention to committed inventory for purposes of determining contractually obligated income due to the team. Buyers should also closely examine other obligations stemming from suite licensees and ticket holders, such as obligations related to seat access regarding non-sporting events, parking requirements, unlimited food and beverage offerings or other perks.
Sponsorship Sales
Companies and brands invest a significant amount of money to align themselves with teams for the goodwill associated with a respective team, its league and its players. Such alignment manifests itself in various forms, including signage affixed around an arena or facility, the branding of certain team programs, as well as club and hospitality areas within a playing facility.
However, the most prominent form of sponsorship is the arena or stadium naming rights deal. Potential owners need to understand the terms and conditions of existing naming rights agreements given their economic value, but also because certain naming rights transactions, given their and the strength of the naming rights partner, lend themselves to being collateralized for financing purposes. These agreements are generally the subject of heavy negotiation, particularly in terms of exclusivity, length of term, fees, and entitlements. Potential buyers need to be aware of these terms and ensure that they are able to fulfill the obligations under these agreements.
Concessions and Merchandise
Other familiar revenue sources are food and beverage concessions, and team merchandise. With stadium and arena food becoming increasingly gourmet in an effort to cater to sophisticated palates, prices for food have risen commensurately, creating increased revenue opportunities for team owners. Merchandise sales have also become more sophisticated, many times with team stores that resemble commercial retail locations. Teams generally outsource concessions functions to companies specializing in arena concessions, and they are increasingly outsourcing merchandise functions, often times receiving minimum guarantees in anticipation of future sales. As such, buyers should understand the implications of existing concessions and merchandise agreements.
Closing the Deal
Following extensive due diligence by representatives of the potential buyer, the seller and the buyer negotiate the transaction terms. Investment bankers line up the financing; attorneys negotiate the terms and draft the purchase and sale agreement as well as any necessary consents, guarantees and covenants; and the respective league reviews the transaction to provide its approval prior to submission to the existing owners. Though the buyer and seller get to “yes” in terms of ownership transfer agreement, it is the existing owners who have final approval — and they have relatively wide latitude regarding their approval or disapproval of prospective team owners. As a practical matter, by the time the transaction is submitted to the full owners group for a vote, the deal has been approved by a subcommittee of owners who work closely with the league regarding the pending transaction.
