Elliotte Friedman got to talking about about the Oilers’ lease on Twitter tonight. I’ve pulled together some tweets into paragraph form:
Here’s the thing I wonder about Daryl Katz and Seattle: In Edmonton, problem is he does not own or run the arena. So what is better option? Being a second tenant behind future NBA team in Seattle (ask @TedLeonsis about that) or making a deal to own/run in Edmonton? Obviously, Oilers are not going anywhere…but the threat just doesn’t make sense.
If I was advising Katz (and I’m not, obviously), I wouldn’t have gone to Seattle. But, if deadline passed without new Edmonton arena, I would’ve put up team for sale. His arena deal is one of worst in the NHL and walking away is a better threat than relocation.
A few of you are asking, but yes, by NHL standards, Katz’s deal is one of worst because he does not own/operate arena. Market excellent but there are plenty of worse markets with better arena control, especially on non-NHL events.
You hear this line from a lot of Oiler employees masquerading as journalists (it’s sort of appalling how many people who present themselves as journalists are taking Daryl Katz’ shilling in one form or another, but that’s another issue). Friedman’s better than that though. With that being said, he errs in presenting this information without two critical pieces of context. First, Katz got what he bargained for when he bought the Oilers. Second, there’s no reason to think that, even if the Oilers do have one of the worst arena deals in the league, it’s at all relevant.
Let’s take the first point. In 2008, Katz bought the Oilers from the Edmonton Investors Group. He paid something like $200MM for the team. How do people arrive at these prices? With the caveat that I am not a corporate lawyer and don’t do these transaction, I understand that, generally, people arrive at a price on the basis of the profitability of the entity. Some number times future earnings. In the normal world, people demand some return on their money. If there’s an industry in which 50% returns on equity are available, capital will flood the market until the ROI decreases. If there’s an industry that’s only returning 1% on equity, capital will leave that industry and go into more profitable places.
Katz presumably entered his negotiations with EIG thinking that he wanted an X% return on his investment. The difficulty with investing in sports teams is that owning a sports team is kind of awesome. Malcolm Gladwell wrote a really good piece about this on Grantland. He compared owning a team to owning a nice piece of art, in that the benefits that you derive from doing so are not entirely economic. You feel good about it. The EIG probably derived psychic benefits from owning the team, in the sense that it is really cool to own the Oilers if you’re a northern Alberta boy. Former EIG member Neal Allen put it this way when reflecting on the internal debate about selling the team:
“We lived through all this stuff. We just finally got our finances in place and things are going along good. Why do we want to sell? I was perfectly happy to carry on. I didn’t really need the money.”
Let’s take Allen at face value and assume that things were going well for the EIG and they were in the black. Let’s also take Katz at face value and accept that he’s suffering big losses now. I’m not entirely sure I believe that but, for the purposes of this piece, I’ll accept it. How did Katz end up getting the team? I’d guess that he ended up making an offer so good that it exceeded the financial and psychic benefits that the EIG got from owning the team. Which created a problem for him in terms of getting the same return on his investment as he might expect in an industry without psychic benefits.
It’s easy to understand how you might buy a team anyway if you imagine yourself as a billionaire. Money doesn’t really matter to you. If you read this site, you’d probably love to own an NHL team. If you were set for life, what kind of a return would you require from the hockey team you own? Would 0% be fine? -5%? If you’re worth $1B and you’re turning 8% on your investments a year, that’s $80MM. What’s spending $10MM on a hobby then, especially if you can write it off?
There’s lots of reason to think that the EIG guys thought this way – Allen says as much. And it took Katz a lot to pull the Oilers loose from them – basically a months long PR campaign to poison the waters against them, promises of new arenas and rinks for the University of Alberta and a massive pile of money. It worked though. Katz was able to buy the revenue streams that the Oilers generate. He undoubtedly paid more than you’d pay for the same revenues if they flowed from a meat packing company, but he got them.
The revenue streams that the Oilers get from the arena are directly tied to how much cash the team will kick out though and it would be reflected in the price that Katz paid for the team. Imagine an alternate world in which the Oilers had the best arena deal in the NHL in 2008. Say, just for kicks, that the City was in the business of writing the Oilers a $50MM cheque annually to play in Rexall. How does that change what happens when Katz decides he wants to buy the team?
The price for the team would have exploded. Katz would have had to still pay the EIG enough to cover the psychic and cash benefit that they drew from the team and that price would have been way higher to take into account the $50MM a year the City was throwing in. However you figure it though, the arena deal is a big part of the function of the price. Katz might have the worst arena deal in the league but, and this is what matters, he didn’t have to pay the price for the Edmonton Oilers + an awesome arena deal.
If you accept that the only way in which the EIG was going to sell the Oilers was if they were handed so much money that it’d be impossible to turn a profit on the team, then whether there was a great arena deal or a poor one, Katz was going to end up making losses once his cost of capital was taken into account, taking him at his word that he is making such losses. The arena deal was irrelevant – the problem was that the cost of buying the team included buying a non-economic component from the EIG. If it takes $50MM extra to get them to give up owning the Oilers, that’s money you’re earning nothing on. The issue isn’t the arena deal – it’s the non-economic component of the EIG’s price, the psychic benefits.
So that’s point one: Katz paid a price for a team that included this arena deal. If it was better, the team would have cost him more. If it was worse, it would have cost him less. Either way, I’m not sure how you end up with Katz buying this team at a price that lets him turn a profit in Rexall (assuming, of course, that he’s being truthful), given that the EIG was happy owning the team in 2007. Meeting their price meant guaranteed losses because he had to pay that non-economic component.
Which leads to my second point. I might have some sympathy for Katz’ complaints if things had changed drastically in the NHL since he bought the team. Say there were fifteen new arenas, or the Canadian dollar crashed or a bunch of other teams had opened up revenue streams that weren’t available to the Oilers. In those circumstances, I could see how he might have screwed up his projections or had things outside of his control which had driven up his losses beyond what he was willing to carry. None of that’s happened, as far as I can tell. This isn’t a case in which everyone else got more money unexpectedly, which screwed up Katz’s economic model. The world is about the same as it was when he was doing his math and buying the team.
A brief diversion: owners can’t really pull these stunts in European leagues. The teams aren’t franchises and the league has little control on a team’s presence in the league, something that really should be written into law in Canada and the United States. As such, there’s no artificial scarcity, something that has been exacerbated by the eagerness of stupid municipal governments to make tax giveaways to teams. Oh, and there’s no collective bargaining like here, so fans don’t suffer these asinine extended lockouts or strikes. Teams are worth way, way less money as there are many more teams available to own and, outside of a select few, no profits to be made. It’s a much healthier environment in which to be a taxpayer.
Back to my main point: I alluded to this state of affairs in a comment on a post last summer when I wrote:
(The EIG) could have told Katz that part of the deal was signing a new 30 year lease with the City on the same terms. That would have driven their price down. They took the inflated price and now Katz wants your tax money or the team is gone.
That’s still correct, as far as I can tell. I don’t blame EIG for taking the money. What I (and everyone else) screwed up in thinking at the time is that Katz wasn’t going to look to the taxpayers in Edmonton and Alberta to make him whole when 2014 came. We swapped the EIG for a guy with much bigger incentive to play hardball and put a gun to Edmonton’s head because (if we take him at his word), there’s money flowing out of his pocket every season and it’s too much to expect him to get management that doesn’t pay guys NHL money to play in the AHL or make the playoffs on occasion.
But that’s all secondary: if you take nothing else from this piece, take this: Daryl Katz got the arena deal he paid for. The EIG could make money running the Oilers without screwing the Edmonton and Alberta taxpayer to the degree Katz would like to because they didn’t pay a massive premium to buy the team. Katz paid a huge premium and now everyone who pays taxes in Edmonton and Alberta is be expected to pay for it. The arena deal is just a convenient thing to complain about to draw attention away from the non-economic premium he paid. In a lot of ways, the North American version of early 21st century capitalism sucks.Email Tyler Dellow at firstname.lastname@example.org