Over the past two decades, the collective value of professional sports franchises has risen significantly, as evidenced by published estimates and reported acquisitions in the marketplace. The recent focus on value within the sports industry can likely be attributed to a changing and attractive business model which has afforded franchises with many new creative revenue streams such as television and luxury suite agreements. While multiples of revenue have historically been considered the most reliable indicator of value for professional sports franchises, determining the fair market value of these business enterprises has proven to be quite challenging for appraisers. In addition, there are unique valuation parameters in play for these types of valuations, including the “ego factor” that suggests an investor might overpay to acquire a professional sports franchise simply for the prestige afforded to the owner of such a business enterprise.
In an effort to accurately value professional sports franchises, an appraiser will typically apply and then reconcile the results provided by three widely-accepted valuation approaches. These approaches are the cost, income and market approaches.
The Cost Approach
The cost approach centers on the principle that an investor would be unwilling to pay more for an asset than it would cost to obtain another asset of equivalent utility. Common cost approach methods require the appraiser to consider all of the tangible assets (real property, machinery and equipment, etc.) held by the franchise at their current replacement or reproduction costs.
Additionally, any application of the cost approach must also allocate value to any intangible assets owned by the franchise. The prevalence of intangible assets such as trademarks, logos, licensing and lease agreements, and media contracts in sport franchises makes this approach less reliable than other valuation methods.
The Income Approach
Within the income approach, the value of the professional sports franchise is based upon the present value of the future cash flows earned by the business enterprise.
Professional sports franchises generate revenue through a variety of different outlets including ticket sales and concessions, merchandise sales, licensing contracts, royalties, media rights and leasing operations. Collectively, these various revenue streams provide a great opportunity for a professional sports franchise to build a revenue base and develop local market share. While each of these different revenue streams is largely dependent upon market demographics, together they provide a certain degree of diversification and predictability. Matched against the high revenues are high expenses, most notably in the form of the often publicized escalating salary expenses.
Applying the income approach methodologies to professional sports franchises requires the appraiser to develop an estimation of the present value of future net cash flows. Since revenue and expense figures are rarely disclosed to the public, this can prove to be a difficult replication process which is heavily reliant upon assumptions. In fact, there are many instances when the income approach may not provide a clear indication of value. For example, according to Forbes’ annual valuation of professional sports franchises in 2007, the New York Yankees sustained over $25 million in operating losses in the most recent year but are still worth an estimated $1.2 billion. This discrepancy is likely due to the intangible value held by the New York Yankees.
The Market Approach
The market approach is based on the premise that, all other things being equal, the value of an investment will be similar to the value of other similar investments. The market approach attempts to determine the fair market value of a subject franchise by using actual reported transactions of other similar franchises as a proxy for comparison. The reliability of this methodology rests on the quality of reported data available. As most professional sports franchises are privately held, they are not subject to SEC financial reporting requirements. However, there have been many sales of these business enterprises over the last few years, and a fair amount of data is available for professional baseball, football, basketball and hockey transactions. In order to develop relevant market transaction multiples to the subject franchise, the available transaction data must be comparable or easily adjusted to reflect any differences in terms of sale.
Making the proper adjustments to the derived multiples is the most important part of the market approach. Since the appraiser must compare the subject franchise to the market transaction data available, the appraiser must consider whether the subject compares favorably or unfavorably to the key value drivers of the comparable franchises. The key value drivers pertaining to professional sports franchises may vary depending on the sport but would likely include: geographic location, market size and demographics, any pre-existing licensing contracts or local media agreements, venue ownership or leasing rights, historical traditions and the appropriate collective bargaining agreement governing the sport. Each of these factors should lend to a thorough analysis in order to determine if an adjustment is needed to the market data.
The cost, income and market approaches should all be considered when valuing a professional sports franchise and reconciled with special regard to the specific value drivers of the subject franchise, the current market conditions and the integrity of any data available.
In most cases, using the cost approach will produce a value indicator that may not reflect the intangible assets held by the franchise, which are typically difficult to quantify.
The income approach typically provides a reasonable value of operations but may fail to reward the franchise for its intangible assets or strategic value. Specifically, any “ego factor” or premium paid for investing in such a business enterprise will prove difficult to quantify.
The market approach tends to overstate the actual operating value of the franchise, but it can serve as a reasonable estimate for the premium paid for any intangible assets held. However, the availability and verifiability of the data necessary to effectively utilize this valuation approach may prove difficult to obtain.
When valuing a professional sports franchise, an appraiser must consider each of these approaches in chorus and reconcile the weightings of each accordingly.
David R. Bogus is a Senior Manager in the Business Valuation/Forensic and Litigation Services Group of Ellin & Tucker, Chartered. He is an Accredited Senior Appraiser (ASA) of the American Society of Appraisers and a Certified Mergers and Acquisitions Advisor (CM&AA). Michael D. Zuidema is an Analyst in Ellin & Tucker’s Business Valuation/Forensic and Litigation Services Group.