Happy Friday, friends. I was pretty interested to see the Deadspin article that ran yesterday and included a full copy of the audited financial statements of the Carolina Panthers. They presented the last two fiscal years, which ended on March 31 of 2012 and 2011, respectively, and they offer a good look at the financial position of a team that sits right in the middle of the NFL in Forbes’s valuation rankings.
I know that I always have some first-time readers, so I hope that my long-time readers will bear with me as I lay out my bona fides for addressing this topic. I have bachelors degrees in both finance and accounting, and also an MBA. I’m presently working on finishing the CPA exam, and I hope/expect to be done with it by the end of May. Additionally, I’ve been working in corporate accounting and finance for eight years, since I graduated with my first BBA.
I’m not exactly an accounting expert, but anybody would tell you that I’m a pretty solid pro, and among football writers, I’m pretty confident in where I stand as a financial analyst.
You may recall, I wrote a lengthy article in February 2011 that discussed the finances of the NFL and its teams. My position that day was that NFL teams are way overvalued based upon the financial information disseminated by Forbes.
From that article:
The whole NFL, as represented by its 32 teams, has a value of almost $33 billion, according to Forbes. It had an aggregate EBITDA (Earnings Before Interest, Taxation, Depreciation, and Amortization) of $1.07 billion last year, also according to Forbes. That means that it’s being aggregately valued at 30.54 times EBITDA. The column on the right is my simple analytic for each team’s EBITDA multiplier, and some are more reasonable than others, obviously. I had never analyzed this before, at a macro level, so I was shocked when I ran these numbers.
I called my dad, who’s a longtime defense industry executive, because before I made this bold statement, and got some people mad at me, I wanted to be sure that I was thinking reasonably. Your dad is always the guy who will tell you when you’re not, especially when he knows a lot more about this stuff than you do. I asked him, is this crazy, that Forbes is saying that these teams are worth this much, and that buyers seem to be willing to accept these valuations? I didn’t get the sense that he realized how these numbers look, offhand, but he quickly said it was complete lunacy, and the more I’ve thought about it, I just can’t imagine how it could be anything other than that.
Today, I want to consider the audited financial statements obtained by Deadspin, and use them to revisit that 2011 article. I read through the entire 26 pages of them, and I find no reason to question the opinion of Deloitte and Touche that the statements fairly present the financial position of the team, in all material respects. Everything in these statements makes sense, and seems to follow Generally Accepted Accounting Principles (GAAP).
One thing that becomes pretty clear from the audited financial statements is that Forbes has some bad numbers. I said in 2011 that they probably did, and I was right. To wit:
|Fiscal Year 2012||Forbes||Audited Financial Statements||Variance||Nature|
|Revenue||$269,000||$256,862||$12,138||Overstated by Forbes|
|Operating Expenses||$257,500||$223,550||$33,950||Overstated by Forbes|
|Operating Income||$11,500||$33,312||$21,812||Understated by Forbes|
|OI/Revenue||4.28%||12.97%||8.69%||Understated by Forbes|
|Return on Equity||1.34%||3.33%||1.99%||Understated by Forbes|
|Debt||$188,640||$48,541||$140,099||Overstated by Forbes|
|Fiscal Year 2011||Forbes||Audited Financial Statements||Variance||Nature|
|Revenue||$257,000||$247,730||$9,270||Overstated by Forbes|
|Operating Expenses||$225,800||$169,073||$56,727||Overstated by Forbes|
|Operating Income||$31,200||$78,657||$47,457||Understated by Forbes|
|OI/Revenue||12.14%||31.75%||19.61%||Understated by Forbes|
|Return on Equity||3.81%||8.36%||4.54%||Understated by Forbes|
|Debt||$183,600||$60,719||$122,881||Overstated by Forbes|
Forbes is overstating Revenue by a little, and Operating Expense by a lot, and that’s causing them to understate Operating Income significantly in both years. That’s a huge factor to valuation, so this is big news, if you're the kind of person who'd ever find themself trying to do a reasonable valuation of an NFL team.
They’re also significantly overstating Debt in both years. Among the noncurrent liabilities in the partnership’s balance sheet, most of it doesn’t qualify as Debt, because there isn’t any interest to be paid on it. There are about $10 million in customer deposits for both years, for example, and those are just security deposits on luxury boxes. The partnership holds the cash until the end of the lease, and then returns it.
The $11 million of deferred revenue in each year represents the noncurrent portion of cash received from buyers of Personal Seat Licenses for season tickets, often called PSLs. The partnership has a lease with the stadium to play there through 2016, and the money from the PSLs is taken to revenue evenly for every year until 2016. If a PSL-holder doesn’t renew their season tickets, the PSL is forfeited, and the remainder of the cash received for it goes to revenue immediately.
The implication of actual debt being so much lower than Forbes reported is that equity is higher – we know that because of the simple formula Debt plus Equity equals Value. If equity is higher, and income stays the same, then Return on Equity (ROE) is lower.
If you look at what I have for ROE in the tables, I’m calculating Equity (the denominator) as being the Forbes value ($1.048B in 2012, and $1.002B in 2011) less the Debt. The numerator is Operating Income. The 2012 (presumed) actual ROE of 3.33% is better than Forbes indicated, but it’s still weak. I do tend to agree with the team’s statement that 2011 was an aberration, because they didn’t spend any money prior to the lockout, so I won’t put too much stock in the 8.36% result there.
The major premise of my 2011 article was that teams are overvalued – that in fact, the NFL is like the housing bubble in the sand states circa 2006.
The NFL is, today, the functional equivalent of the California real estate bubble of the early to middle 2000s. Do you want to know how you know if your home is overvalued? There’s a really simple way to figure it out. Find out how much you could rent it out for, per month, and then multiply that number by 12 to get annual gross rentals. The rule of thumb is that you should buy a house at 10 times annual gross rentals, and sell it at 20. The houses in some parts of California, like Los Angeles and San Francisco, were trading at 35 to 40 times gross rental, right up until the crash in 2007. That is lunacy, just like buying a modest-growth business at 30 times EBITDA is lunacy.
Subjectively, I would expect that an NFL team should trade at a multiplier of no more than ten times Operating Income (referred to in my 2011 article as EBITDA). For the Panthers, that means that using a basic multiplier approach, I’m saying that the franchise is worth $330 million, if you consider it as a business whose mission is to make acceptable profits.
What I can now do with the audited financial statements is to apply a more rigorous valuation approach, using Operating Free Cash Flow. The model I used, based on some judgment that an NFL team is a mature enterprise, is a modified version of the Gordon Constant Growth Model, which is ubiquitous in finance school. See here for details.
I’m also going to use the no-growth approach listed there, and run it over 15 years, which in tax law, is the expected ownership/allowable depreciation period for a sports team. (As Tommy Craggs notes in the Deadspin article, the fact that the government allows team owners to depreciate the entire purchase price is nonsense, and it amounts to even more welfare for the rich, at the expense of everyday taxpayers.)
In any case, here's what I came up with:
|Based on 2012 Results|
|Operating Free Cash Flow||$39,840|
|Return on Invested Capital||23.45%|
|Weighted Average Cost of Capital||10%|
|Gordon Constant Growth Value of the Firm||$370,286|
|No-Growth Value of the Firm||$303,026|
I derived the Operating Free Cash Flow from the financial statements, where it says Net cash provided by operating activities, about halfway down the Statement of Cash Flows. To get the Growth Rate, I calculated Return on Invested Capital and Retention Rate, in accordance with the Investopedia approach. The partnership’s growth rate is high primarily because most of the earnings are retained, and not taken out of the business by the partners – thus, the value of the business grows.
The Weighted Average Cost of Capital (WACC) that I’m initially using is a bit of a guess, because I don’t have 100% of the information that I’d need to calculate it exactly. I do know (from the audited financial statements) that NFL teams can borrow at LIBOR (which is 0.75% today) plus 0.75%, so I am figuring that the debt portion of the weighting is much lower than that of other businesses, and that 10% sounds about right in total.
The constant growth model gives me a valuation of $370 million for the team. The no-growth model, run out over 15 years, gives me a valuation of $303 million. Put that together with the result I got from the multiplier approach, which was $333 million, and you can see that we have three data points that form a coherent range.
|Valuation Approach||Multiplier (10X)||Gordon Constant Growth||No Growth|
|Equity % X ROE||10.00%||9.00%||10.99%|
|Debt % X (LIBOR + 0.75%)||0.22%||0.20%||0.24%|
|Total Implied WACC||10.22%||9.19%||11.23%|
When I then back into what the WACC would be, given the parameters of all three approaches, I see that my guess was pretty good, because the WACC falls between 9 and 11 percent across the board.
What I’m saying, for those whose eyes glazed over while I was going through the math, is that the Carolina Panthers are not worth anywhere near $1 billion. I had a pretty good sense that that was the case, even while not trusting the numbers Forbes put out. Now, I have numbers that I know I can trust, because Deloitte audited them.
With that evidence, I feel extremely confident in saying that anybody who’d spend $1 billion on the average NFL team (which the Panthers embody, financially) is either a sucker, or is knowingly spending a bunch of money on an asset that’s going to substantially underachieve, relative to the price paid for it.
The lockout improved financial conditions for the NFL and its franchises, and that’s pretty indisputable. What it didn’t do, though, is substantially close the gap between the real value of the franchises, and the nonsense that Forbes puts out.