DBRS Morningstar’s Takeaways from Credit Outlook Canada 2024: Sports Franchises—From Fun and Games to Investible Asset Class

As part of its takeaways series, DBRS Morningstar is publishing several write-ups about pertinent topics discussed at Credit Outlook Canada 2024. With a focus on “How Economic, Climate, and Tech Pressures Are Affecting Credit Quality,” this conference is a full day of global and Canadian market insights on what we should expect in the coming year.

In his session titled “Investing to Win: The Effects of Private Equity, Politics, and Players on Sports Franchises,” Michael Goldberg, Senior Vice President of Sports Finance at DBRS Morningstar, reviewed the benefits of private equity investment in sports franchises, discussed the reasons behind the Saudi investment in sports, and took a close look at whether superstar players really can affect credit risk.

PRIVATE EQUITY INVESTMENT: WHAT’S IN IT FOR FIRMS?
Before 2019, ownership of North American sports franchises—or pieces of them—was restricted to individual investors. Investment rules have changed, allowing private equity firms to invest heavily in National Basketball Association (NBA), Major League Baseball (MLB), National Hockey League (NHL), and Major League Soccer (MLS) franchises. Even the National Football League (NFL) is expected to allow private equity investment soon. Given that the NFL’s Denver Broncos sold for more than USD 4 billion and the Washington Commanders for more than USD 6 billion, there are only so many individual investors who can afford an NFL franchise. “By allowing private equity to invest, franchise values can continue to increase,” said Goldberg.

Private equity firms are seeing tremendous benefits from investing in sports, with many firms already opting to reinvest or raise more funds for additional investments. Indeed, sports franchise values have significantly outpaced the S&P 500 over the last 20 years in the major North America sports leagues and in European football.

In addition to investment returns, private equity firms gain diversification benefits from owning sports franchises, which are resilient through economic cycles as attendance remains strong even in periods of recession.

WHAT’S IN IT FOR TEAMS AND THEIR CREDIT PROFILES?
Private equity investment brings a range of benefits to sports franchises and improves their credit profiles.
(1) Liquidity: Before private equity, franchises relied on ownership injections or additional debt to fund projects.
(2) Expertise: Sports franchises have extensive expertise in their sports, but considerably less in other aspects and can benefit from outside insight. For example, the U.S. private equity firm, Sixth Street, invested in Real Madrid’s stadium renovation project to earn a return on revenues from that stadium. Despite its expertise in winning on the pitch, Real Madrid can leverage Sixth Street in order to maximize the returns on its stadium beyond matchdays, including concerts, conferences, and other events.
(3) Reduced Loan to Value: With private equity investment, franchise values increase and the amount of debt in the capital structure decreases.

EFFECTS OF INTEREST RATES AND INFLATION
“A lot of the new business we get in sports finance is because of new stadium construction or major stadium renovation projects. And, here, we have a double whammy: construction costs and raw materials have increased significantly in the last five years and, when you finance that stadium with debt, rising interest rates mean the debt servicing costs have gone up quite bit,” said Goldberg. To combat those effects, sports franchises can rely on private equity investment to bridge the gap and reduce the amount of debt they issue, which certainly improves credit risk, he said.

SAUDI INVESTMENT IN SPORTS AND THE BIGGER PICTURE
Saudi investment has made quite a splash in sports recently, particularly with its LIV golf league that disrupted the PGA Tour and might even acquire it. Saudi investors own England’s Newcastle United football team and Riyadh Air, an airline that will not even start operating before 2025, is sponsoring Atlético Madrid’s jerseys. Then there’s the Saudi Pro League (SPL), famed for offering aging superstar players never-before-seen salaries and fees.

Saudi Arabia’s Public Investment Fund, with total assets of more than GBP 700 billion, has purchased 75% of four SPL teams and will pay a staggering GBP 678 million on new salary and GBP 435 million in transfer fees this season, creating some disruption in the global football world.

WHY ARE THE SAUDIS INTERESTED IN SPORTS?
Investment in sports is part of Saudi Arabia’s “Vision 2030” plan to increase its attractiveness as a destination for tourism and investment, improve its profile as an investor, and diversify its economy. “One way of doing that is to increase the eyeballs on the country and I think probably the best way to do that is in sports,” said Goldberg. “Sometimes in North America we do not appreciate how many people in the world watch football/soccer. The 2023 Champions League final match had about 450 million viewers globally—about four times as many viewers as the NFL Super Bowl. By luring top talent to come and play in the country, they’re certainly generating fan viewership across the world.”

Saudi clubs will not see an investment return from these star players. “But what they can do is generate economic investment if they’re increasing foreign direct investment, diversifying their economy, and increasing travel and tourism—those types of returns certainly could dwarf what could be returned in football alone,” said Goldberg.

THE SUPERSTAR EFFECT ON CREDIT RISK
An NBA executive suggested that whoever won the draft lottery could add USD 500 million to their franchise value if they drafted Victor Wembanyama. “But in order to really affect credit risk and franchise value, these guys have to be the Next Great Thing,” said Goldberg. “There has to be a revenue impact from drafting the player and the players have to be marketable.”

A team’s revenue as a percentage of the league average before and after the star player is drafted is the measure of the player’s revenue impact. But to reap the credit benefits associated with the player, a team must (1) be in the right market and (2) retain the player.

In the very large Toronto market, the NHL’s Maple Leafs did see revenue rise after drafting Auston Matthews in 2016 but it only returned to 2012 levels. “To really have an impact, the player has to be drafted in a small- to middle-market team,” said Goldberg, and the player has to be in the right sport as well. The NFL’s revenue-sharing structure meant that the Carolina Panthers’ revenue actually decreased relative to the rest of the NFL after drafting Cam Newton while Connor McDavid’s effect on the NHL’s Edmonton Oilers’ revenue was flat for at least the first four years after he joined the team. “Rookie contracts are four years long and then they have the option to re-sign long term. If you don’t sign those transcendent talents long term, then they don’t really have that much of an impact on credit risk,” said Goldberg.

Sometimes, though, the stars align. Sidney Crosby of the NHL’s Pittsburgh Penguins embodies the franchise player ideal. He has been transcendent and (relatively) healthy; has not had off-ice issues; has played in a small-market NHL team; and has played for the same team for his entire career. As a result, Sid the Kid has been able to fundamentally affect the popularity of his team, increasing its revenue share by about 20%.

There are players to watch for who will likely have an impact on their teams over time, Goldberg said. “But I think the statement that a player’s going to add half a billion dollars of value to a franchise is probably pretty misguided.”

Written by Deirdre Maclean

Notes:
For more information on sports finance, visit www.dbrsmorningstar.com or contact us at [email protected].

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