Last week, several sports media outlets reported that a group led by Jeb Bush and Derek Jeter are in discussions to purchase the Miami Marlins from Jeffrey Loria for a sum of around 1.8 Billion Dollars. I’m sure many Marlins fans were rejoicing, as Loria has long been known to run the team solely for his own personal profit, including getting public funding for a brand new stadium sized fish tank, splurging in free agency and then dumping payroll almost immediately when the team wasn’t good. This is nothing new in sports (ask any Newcastle United Fan), and as the owner of the team, this is absolutely within Loria’s rights as long as he doesn’t run afoul (get it?) of any of MLB’s rules regarding how he has to run the team. So certainly brining in a proven winner in Derek Jeter, and former presidential candidate Jeb Bush would seem appealing to a long suffering fan base.
Not so fast Marlins fans. There are two main problems here, one is financial and one is legal. Let’s tackle the financial first.
Unfortunately estimates of the net worth of Jeter and Bush combined, come in around 200 Million Dollars, meaning if Jeter and Bush liquidated all of their combined assets for cash, they would be able to come up with about one ninth of the purchase price. Skyrocketing franchise prices across sports have created some interesting problems for the sale of professional sports teams. Even billionaires likely wouldn’t have 1.8 billion dollars just sitting in a bank, as they would have deployed that capital to earn returns for them. Even if they did, it would be likely that such a person would still look to a bank or to private money to assist in the financing of the purchase (why spend your own money when you can spend someone elses). Especially after the Dodgers fiasco with Frank McCourt, commissioners and leagues have been very wary about the amount of debt that the league will allow the team to carry on its balance sheet. Rob Manfred, the Commissioner of MLB acknowledged this saying,
You can rest assured that the acquiring group, whoever it turns out to be, will have a financial structure — meaning some debt and the rest equity — that is consistent with the rules that we have, most notably the debt service rule. . . And more important than complying with the rules, [that] puts the franchise in a position that it can operate effectively. That’s really the commissioner’s office’s job in terms of approving any potential bidding group, and we are really focused on that issue with respect to the Marlins
What Manfred is speaking about here (without getting too bogged down into finance jargon) is that however the acquisition of the team is structured, the team must be able to pay its debts when due with cash from operations. So, sticking with Jeter and Bush, even if they put down two hundred million dollars in equity into an acquisition, that would leave 1.6 billion in debt. An 8/1 debt to equity ratio is likely well outside the bounds of what MLB would approve and almost certainly outside the bounds of what any bank would be willing to lend (a typical but aggressive cash flow based loan will lend about 4x one year’s free cash flow or net profits, while an asset based loan might be one or two times the orderly liquidation value of the assets of the business). Even granting that baseball and pro sports are likely more solid investments than your roommate’s app idea, it’s hard to see a simple deal structure here.
So what is the solution? Well, there are a couple solutions. One is to raise additional capital from private sources. One emerging trend is for private equity groups to step in and help fund the purchase of teams, for example when Guggenheim Partners put up money to assist Magic Johnson in purchasing the Dodgers. This can be an effective way to bridge the gap and cover the acquisition, but does come with some flaws. One is that your control over the team and equity becomes diluted the more outside equity you bring in. The other is that even for a large private equity fund, 1.6 billion is a huge chunk of money, especially considering the PE firm has fiduciary obligations to provide a return on investment for its investors (a typical life cycle for a PE firm is to buy a company and then sell it for a profit 3-7 years later). That is a large bet to place on the value of sports teams continuing to rise (even though that has been the case recently).
The truth is, it probably takes a combination of several outside investors, traditional debt, and private equity or venture capital money to fund a purchase this large. This can create problems with running the team. For example, who is in charge? Does Jeter or Jeb get to make the decisions on payroll etc.? Who gets paid back first, the PE firm investors or the bank debt? What ratios does the bank debt require the team to run under (for example debt service coverage ratio, debt to equity ratio, or current ratio, and what are limits for each)? What happens to the profits, if any? Do they get put back into the team or distributed as earnings to the ownership? The point being, that even if a deal gets done, it would be unfair to assume the Marlins would be able to plunk down a 400 million dollar contract on Bryce Harper or Mike Trout, because the capital structure of the team may not permit that. Even if one owner wanted to pony up money and put it into the team to fund a superstar contract, the other owners may object as such a move would dilute their ownership, add to the debt on the company, or change their “preference” order in terms of payouts. Notice that even the high spending Dodgers have decreased their payroll steadily since 2015 (around 305 million) to this year (around 245 million), and are successful with younger cost controlled players. Ditto the Cubs. It would be naïve to think that backroom ownership ideas on running a business and making profits weren’t driving some of that decision making.
The second concern for Marlins fans, is that we are nowhere close to a closed transaction for the sale of the team. To borrow a phrase from South Park, Jeter and Bush are still in the “collect underpants” stage of getting a deal done. According to reports, they have signed either a letter of intent or indication of interest with the Marlins. This is literally the first step towards getting most M&A deals done (If someone pipes up about a non-disclosure agreement coming first then good for you….). A letter of intent is an agreement laying out the rough (non-binding) terms of a deal whereby the parties agree to negotiate in good faith towards reducing the LOI into a definitive agreement for the acquisition. The LOI usually has binding provisions providing for some period of exclusivity in which the parties can negotiate without fear of another buyer coming in and paying more for the deal and the terms on which the potential buyer can do its due diligence. But, even after a signed LOI, deals can fall apart for a number of reasons. To give you an idea, in the four years I spent in-house at a boutique private equity firm, we probably closed half of the deals we signed LOIs on, and that was a pretty good track record (some PE firms are known to be LOI “factories” sending out LOIs to a variety of target companies, some of which may even be mutually exclusive to each other). Deals can fall apart for a variety of reasons. For example, Jeter and Bush could get into their due diligence reviews and years of tax fraud come up, or they find out the stadium is in dire need or renovation that will require a giant capital outlay post closing, or that Giancarlo Stanton’s girlfriend put a curse on his glove. While there are contractual ways to address each of those potential problems (and in the case of the glove you might have to call in JoBu), any of them are valid sticking points that could prevent a definitive contract from being reached. Even if a definitive contract is agreed, many do not provide for a deal to close at signing and the deal could still blow up post signing the definitive agreement. What would cause a deal to blow up at that point? It’s almost always because the buyer cannot secure financing, or cannot secure financing on terms that fit into the buyer’s model. So back we are to issue one again.
While it is good news that Loria seems to be considering selling the team, and new ownership could invigorate a fan base and hopefully inject some life into the franchise (something MLB should want as well), we’re just nowhere near that point. Jeter and Bush will have to secure financing and hope to avoid anything “fishy” on the way to closing the deal. Oh and by the way….this whole article ignores the fact that any sale has to be approved internally by MLB, which is not a guarantee (you don’t exactly want Martin Shkreli as part of an ownership group for example), just ask Mikhail Prokhorov. I really hope the deal gets done, and it seems like it could be in the best interests of the Marlins, but don’t let the fact that mainstream media has jumped all over this deter your skepticism. There is still a very long way to go.