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Friday, September 3, 2010

Evaluating Valuation Methods

Forbes recently released its annual NFL Team Valuations. The Chicago Bears were cited as the team that had “fumbled away a fortune,” due to the mismanagement of the current ownership led by Virginia McCaskey and her family (Virginia is the daughter of George Halas). Forbes states that the Bears are worth $1.07 billion, making them the 9th most valuable team in the NFL despite having the second largest metropolitan area population (Los Angeles currently does not have a football team). In addition, Forbes claims that a new ownership group could potentially add $800 million in value to the team.

Block Six Analytics has two major problems with the Forbes article about the Bears – its valuation methodology and its estimate of $800 million dollars in untapped value. While the exact methodology is difficult to determine, it attempts to use some form of inherent valuation techniques to obtain its $1.07 billion value figure. Inherent valuation focuses on the amount of cash that corporate assets can generate for potential equity owners (or partners). According to its own estimates, Forbes estimates the Bears operating income to be $37.3 million (B6A disagrees with this estimate by almost $30 million). Forbes' failure to account for net income for the Bears is puzzling because the team does not own its stadium (more on that soon) so it lacks depreciation costs and tax information is publicly available. Even if you use the operating income metric, however, no standard discounted cash flow valuation model would give you a valuation over $500 million (email Adam for B6A’s model). This means that Forbes has created a minimum of $500 million in value for the Bears that does not appear to exist.

I will give Forbes the benefit of the doubt on the valuation methodology as it can be difficult to accurately value privately held organizations. What I do not understand is how new ownership of the Bears would unlock $800 million in new value. Sports teams generate revenue from four primary sources – in-stadium, media, merchandise, and sponsorship sales. The majority of media and merchandise revenue streams are shared between all 32 NFL teams. A new ownership group could increase viewership in the Chicago area that could generate more local television and radio money that would not be shared with other teams in the NFL. Forbes states that New England makes $4.5 million more dollars than the Bears through local media. By signing better players, the ownership group could increase Bears jersey sales, but the team would see only a small percentage of that revenue. These two areas combined would increase the Bears annual revenue by at most by $7-10 million.

Sponsorship revenue comes from two sources – league-wide sponsorships and team-specific sponsorships. While a new ownership group would have little, if any, impact on league-wide sponsorships, it could have a significant impact on team-specific sponsorships. B6A has estimated that the Bears earn around $24 million in team-specific sponsorships. If we estimate that a new ownership group could add 50% to the team’s sponsorship revenue (an aggressive assumption), then the Bears could generate $12 million in new annual revenue.

The rest of the new value has to come from in-stadium revenues. Current stadium revenues include ticket sales, luxury suite sales, concessions, and parking. The Bears currently sell out virtually all home games at Soldier Field so there is little that the team could do in terms of selling more tickets. The only option for increasing profit would be to increase prices – which the Bears did on virtually all tickets for the 2010 season. A new ownership group could potentially increase prices for all four of these revenue streams, but likely only by a relatively small amount. B6A estimates that the Bears make $77 million through in-stadium revenues. If the new ownership increased revenue by 25% (another aggressive assumption), this would produce another $19.25 million in annual revenue dollars in added value for the Bears.

Using these aggressive assumptions to populate the B6A valuation model, all of the above accounts for $260 million in additional value that could be created by a new ownership group. Not small potatoes but not $800 million either. Where would the approximately $540 million in new in-stadium revenues come from? The Bears would have to build a new stadium. Forbes rightfully claims that the McCaskeys made a terrible deal with the city because the team not only does not own Solider Field, but it has to pay an annual lease to the city and pay high city taxes on all revenues generated by the stadium. Forbes also correctly asserts that stadiums such as the new Cowboys Stadium and FedEx Field in the Washington D.C. area are what make teams like the Cowboys and Redskins so valuable. In addition, the Bears could secure a naming rights deal for a new stadium that could bring in close to the $20 million per year that FedEx pays the Redskins (although both the Giants/Jets and the Cowboys have been unable to sell naming rights deals for their new stadiums).

The only way for the Bears to significantly increase their value is through building a new stadium. Forbes argues that only a new ownership group, for example one led by Patrick Ryan, the former CEO of Aon Insurance, would have enough assets to secure the $1 billion plus in financing necessary to complete such a project. Clearly, Forbes does not read its own articles about how difficult it is for anyone to receive debt financing in the current financial climate especially with such a risky project as a new sports stadium. In addition, after spending $650+ million on the 2003 Soldier Field renovation (including $200 million financed by the Chicago Bears) the team would be unlikely to move from its present location. A publicly financed stadium is unlikely given the dire economic situation of most city and state governments.

This post show that you have to be careful when evaluating the valuations (try saying that 5 times fast) made by the “experts”. The Bears' ownership group has clearly allowed inefficiencies to occur that make the Bears less valuable than they could be for a new ownership group. A careful analysis of all potential revenue streams shows that there may be $260 million in untapped value for the Bears. People often wonder why an increasing number of sports owners have to sell their franchises within 10 years of purchasing them. If they paid inflated prices based on estimation techniques suggested by Forbes in its NFL Valuation article, it becomes pretty clear why this is the case.