Inning 4: How Do Teams and Leagues Make Money?

The pro sports business is booming. Attendance is up, TV viewership is strong, franchise values are sky high, and so are salaries. Where is all the money coming from?

A. Revenues: How Leagues and Teams Make Money

Sports revenues come from three main sources:

1. Television
   
   
2. Licensed goods (all those products, from caps to computer games, that carry an official sports logo)
   
   
3. Ticket sales and stadium revenues

Let’s start with television and focus on the NFL, a league that owes much of its success to television.

Television: The Golden Goose

Ticket sales were once the main measure of a team’s financial success. But that was before television became the golden goose of professional sports.

TV pumps tremendous amounts of money into spectator sports, and it connects more fans to the games than ever before. The people who cheer for their teams from recliners and living room sofas are the key to any sport’s economic success. Their money fuels the sports boom.

The TV sports gold rush began in 1964, when NFL Commissioner Pete Rozelle convinced team owners that they could increase their revenue by letting the league negotiate a joint television agreement on their behalf.

Events proved him right. The first national contract—a two-year, $28.2 million deal with CBS—seemed like a fortune at the time. But things just kept getting better. By 1998, the NFL had TV agreements with ABC, CBS, ESPN, and Fox for a combined total of $17.6 billion over eight years.

First televised baseball game, Princeton vs. Columbia, 1939. Photo courtesy of The Boston Public Library, Print Department. Click on photo for a bigger image.

Why have television companies been willing to pay the NFL so much money? Because even on a slow Sunday, millions of viewers sit down to watch at least one NFL contest. And although many of these armchair fans may never actually buy a ticket to a game, they are an audience that advertisers are eager to reach because they spend a lot of money on beer, soft drinks, chips, salsa, cars, trucks, tires, telephone service, financial services, and computers.

Televised games bring together buyers (consumers/fans) and sellers (advertisers and their clients), and they attract fans’ attention long enough for advertisers to hit them with commercial messages.

The basics are simple. Broadcast and cable networks pay sports leagues for the national rights to televise games. Then they turn around and sell commercial time to advertisers. When more people watch the games, advertisers are willing to pay higher rates for commercial time because their ads are reaching more potential consumers.

And cable TV adds a few revenue wrinkles of its own because cable networks like ESPN and Fox Sports charge local cable companies a fee for the right to carry their programming. Then the local cable companies charge viewers a monthly cable fee or a pay-per-view fee for special events. Bigger audiences usually mean higher fees for the cable networks and local cable companies.

Bottom line: TV people hope to make a profit by taking in more money from advertisers and cable subscribers than they pay out to the sports leagues for television rights. And so far, they have not been disappointed. Americans remain enthusiastic consumers of televised sports.

The NFL Super Bowl offers a striking example. Thirty seconds of advertising time during the first Super Bowl in 1967 cost $42,000. The same thirty seconds cost advertisers an average of $1.9 million during Super Bowl XXXVI in January 2002.

Licensing Revenue: Cards, Caps, and Computer Games

Licensed products—caps, shirts, cards, computer games, toys, food, beverages, you name it—experienced phenomenal growth during the 1980s and early ‘90s. Andrew Zimbalist points out in Baseball and Billions that total retail sales of goods licensed by Major League Baseball jumped from an already healthy $200 million in 1988 to $2 billion in 1991—a ten-fold increase in just four years.

Sales really took off after the leagues formed their own merchandizing units. NBA Commissioner David Stern pioneered the concept, but everyone else caught on fast.

How successful has the strategy been? Just look at the numbers:

Ticket Revenue: Suite Deals

When it comes to sports imagery, kids and families are a nice, warm “fuzzy.” But they are not necessarily where the money is—not in the short term anyway.

Sure, team executives still love to see families and kids in the stands, but pro sports have been shifting to a more corporate—more affluent—customer base. Fans who occupy luxury boxes and club seats are high priority customers.

Luxury suites are an essential feature of every new ballpark, arena, or stadium. Typical suites accommodate anywhere from 10 to 20 people, although some hold even more, and they offer a wide range of amenities not usually associated with going to a ballgame—amenities such as a concierge, valet service, a car wash (by appointment), a wet bar, and food service.

How important are luxury suites? According to most estimates, they bring in anywhere from 5 to 15 percent of total team revenues. The newer the park, the higher the percentage.

Turner Field, home of the Atlanta Braves, opened in 1997 with 59 luxury suites that rented for $120,000 to $200,000 a year. Think about it. A luxury box that rents for $200,000 a season is the equivalent of selling 10,000 individual tickets at $20 apiece.

Choice Seats at Tropicana Field are equipped with video display terminals that allow fans to call up various camera angles, browse the ballpark’s food menu, and more. Photo courtesy of the Tampa Bay Devil Rays. Click on photo for a bigger image.

And don’t forget club seats. Tropicana Field, the domed home of baseball’s Tampa Bay Devil Rays, has 100 behind home plate. Each is equipped with a video display terminal that allows fans to call up various camera angles, check the speed of a pitch, and browse the ballpark’s food menu. During the 2002 season, the seats cost $125 per game.

Season tickets are another important source of gate revenue, partly because fans pay for the tickets in advance. The six months worth of revenue generated by a season ticket goes to the team at the beginning of the season. In effect, the team receives an interest-free loan from every fan that buys a season ticket. And in some markets there is no shortage of fans who are willing to part with their money in advance. In Green Bay, Wisconsin, season tickets to Packer games are passed on from one generation to the next and are fought over in divorce settlements.

Another revenue angle is the personal seat license, or PSL. Personal seat licenses have been most widely used in football, but they are spreading to other sports. A PSL isn’t a ticket; it is a fee that gives a fan the right to buy a season ticket. The typical PSL costs a minimum of $1,500 but can run even higher depending on the market and the desirability of the seat. Personal seat licenses are marketable–fans can sell them to other fans. But if a team has consecutive losing seasons, the value of a PSL is likely to drop because fewer people want to watch a losing team.

Finally, a relatively recent source of revenue is stadium naming rights. Most sports facilities used to take their names from the team, the team owner, or a geographic location—Tiger Stadium, Wrigley Field, and Fenway Park. But during the 1990s, more sports facilities began to take the names of corporations that were willing to pay for the privilege. The amount varies from one market to another. Staples, the office supply retailer, agreed to pay $100 million over 20 years to put its name on the arena where the Los Angeles Lakers and the L.A. Kings play their games. But in a small market like Milwaukee, Miller Brewing Company paid $41.2 million to have its name on the Milwaukee Brewers’ new ballpark for 20 years.

B. Monopoly: How Big Is Too Big?

Can a business be too big or too powerful? That’s always been a tricky question for Americans to answer.

The savings, or “economies,” that result from large-scale production can make more goods and services available to consumers at lower prices (“economies of scale”). But if one seller gets big enough to control the market, there’s a chance that prices will rise and innovation will suffer.

Monopolies became a major political issue during the late 1800s. Photo courtesy of Prints and Photographs Division, Library of Congress. Click on photo for a bigger image.

Competition keeps sellers on their toes because if they don’t offer their customers a good product and decent service at a competitive price, someone else will. But the concept of competition is not as straightforward as it seems. There’s more to it than two firms “slugging it out” in the marketplace.

Economists often talk about different types of competition—different types of markets:

• Perfect competition—Many sellers in the same market offer the same product or service. None of the sellers has the power to control pricing, and it’s easy for new sellers to enter the market.
  
  
• Oligopoly—A few sellers in the same market offer a similar product or service. They have some power to control pricing, and there are some barriers to new sellers entering the market.
  
  
• Monopoly—Only one seller in the market. The seller has complete control over setting prices, and it’s almost impossible for a new seller to enter the market.

Monopolies, originally known as “trusts,” became a major economic and political issue during the second half of the 19th century. Public concern focused on whether or not the steel, oil, and railroad trusts were using their size to drive competitors out of business and keep prices high.

The oil and steel monopolies were particularly effective at thwarting competition, and one of their most effective weapons was “predatory pricing.” When faced with a new rival, they would cut prices sharply—even to the point of losing money. But because they were so big, they could afford to outlast most of their competitors. Then, when they had the market to themselves, they would push prices up as much as they could.

Big railroads had their own version of “monopoly.” With little or no competition, they had the power to set freight rates as “high as the traffic would bear.” High-volume customers sometimes received rebates or preferential treatment, while small farmers and manufacturers often had trouble getting their produce and products to market.

And because monopolies were usually the only “buyer” in a labor market, they also had an impact on wages and working conditions. They had the power to keep wages low—and hours long—because employees had nowhere else to go. There was no other buyer for their labor.

Towards the end of the 19th century, all these factors combined to make Americans increasingly wary of “big business.” Growing public concern prompted Congress to pass the Interstate Commerce Act of 1887 and the Sherman Antitrust Act of 1890—both intended to curb the power of monopolies and discourage unfair competition.

Federal antitrust laws even affected professional sports. One of the most famous court cases, Federal Baseball, went all the way to the United States Supreme Court and became the basis for major league baseball’s exemption from federal antitrust laws.

The whole thing started in 1913 when a group of investors established the Federal League as a serious alternative to major league baseball. The new league attracted a few big-name major leaguers by offering them more money—a development that didn’t sit well with major league team owners because the competition for top talent forced them to pay higher salaries. Squabbles over star players led to a number of nasty court cases, including an antitrust lawsuit that pitted the Federal League against the major leagues.

The Federal League didn’t last long. A combination of high salaries and sagging attendance drove it out of business in 1915. (And because they no longer had to compete for players, major league owners promptly slashed player salaries by up to 50 percent in 1916.)

But the Federal League’s antitrust case against major league baseball continued in the courts for years, because its Baltimore franchise had refused to join other teams in a $600,000 settlement to formally disband the league. When the case finally reached the United States Supreme Court in 1922, the Court ruled that the Sherman Antitrust Act did not apply to major league baseball because a baseball game was an exhibition rather than a form of interstate commerce. Even though teams traveled from one state to another, the game itself took place within the borders of a single state and, in the Court’s view, that made baseball different from a product that was manufactured in one state and transported to another.

People have been arguing the logic of the Court’s decision ever since.

C. Monopoly Rent: Warm, Watery Soft Drinks and High-Priced Hot Dogs

Some fans say a hot dog always tastes better at the ballpark. Maybe they are right, but it usually costs more, too. And chances are that if you buy a soft drink to wash down the hot dog, it will be warmer, more watery, and more expensive than the one you buy at a fast food restaurant. Here’s why.

Fans and hot dog vendors outside Ebbets Field, Brooklyn, 1920. Photo courtesy of Prints and Photographs Division, Library of Congress. Click on photo for a bigger image.

In a competitive market, sellers feel pressure to provide a good product or service at an attractive price. If they don’t, they know someone else will. But in a monopoly market, there are no competitors to restrain the seller from charging a higher price.

Monopoly rent is the difference between the price a seller charges in a competitive market and the higher price that the same seller charges for the same product in a monopoly market.

Example: A vendor at a downtown food court sells hot dogs for $3.00 apiece. The vendor also has the exclusive hot dog concession at the city’s big league ballpark. “Exclusive” means no competition, so “hot dog man” charges $4.50—that’s $1.50 more for the same hot dog! The difference between the $3.00 price he charges at the competitive downtown food court and the $4.50 he charges at the ballpark is a form of monopoly rent.