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March 13, 2023

RSN Upheaval Should Create New Opportunities for Private Equity

Pending upheaval within the regional sports network business is threatening to cause short-term pain across the NBA, NHL and MLB. Some clubs may be subjected to discounted payments from their existing rights holder, while others will see their local cable home shuttered. Those clubs will reclaim their rights and try and recoup the lost revenues with a direct-to-consumer led solution.

“A two-thirds reduction is a very reasonable expectation,” one former NBA team president said.

Lou DePaoli (president, executive search and team consulting, General Sports Worldwide) thought that prediction may be conservative. “If a team could [retain] a third, they might be fortunate since the outcomes from these types of proceedings can vary wildly. They might get less.”

The revenue decline will force club owners to fill the gap. That could put well-capitalized private equity firms in an advantageous position to buy up limited partnership interests in teams.

“Some of these [owners] are likely going to need to replace that lost revenue and they’re not going to want to come out of pocket,” DePaoli said. “So, they may be willing to entertain offering equity shares in the team at a favorable rate just to make up for the shortfall.”

The former Mets, Pirates, and Hawks EVP said the opportunity resembles the Mets “situation in 2011 when ownership sold shares in the team at a reasonable clip, $20 million per share, at a valuation between $500-$600 million. The team needed a cash infusion, so it provided favorable terms. And those who bought their limited partnerships at the time, made out very well.”

The Queens baseball club sold just nine years later for $2.45 billion.

Diamond Sports Group recently skipped a $140 million debt payment, a decision that pushes the company closer to filing Chapter 11 bankruptcy.

And Warner Bros. Discovery notified clubs on its RSNs that the company intends to exit the business within the last 30 days.

Those moves have sparked fears amongst rights owners that the demise of the RSN business is imminent–and for some teams it is.

The fundamental issue those clubs will experience is that they are migrating from a media model that allowed them to collect small monthly payments from many subscribers, most of whom were not consuming their product, to one that exclusively charges those watching their games.

“Behind the scenes, the panic button is starting to get pressed by teams,” DePaoli said. Clubs are saying, “If we don’t get a payment, or we get a severely reduced amount, we’re in a tough financial position.”

That is because media rights are the number one or two source of local revenue for nearly every NBA, NHL and MLB club.

On an annual basis, the losses won’t compare to those suffered during the pandemic. COVID was a complete cessation of business. This is not that.

However, it will still likely cost teams tens of millions of dollars. And because many NBA, NHL and MLB clubs do not cash flow, there’s going to be a capital shortage across those leagues until the impacted can either reduce their cost structure or find ways to generate new revenues.

Team will try to cut costs. But there’s not much that can be done in the short term.

Clubs’ two biggest expenses are player payroll and stadium costs.

On the venue side, teams either have debt on their stadium or a lease with a municipality, and neither one of those are easy to change.

Organizations can move to reduce payroll (think: player trades). But reductions in the cap associated with declining local TV revenues will be phased in over time.

Some teams will likely conduct layoffs and cut luxuries (think: flying business class) as they try to reduce the deficit. However, those efforts are not going to make much of a difference. The bulk of dollars that go out the door go towards the players and venue.

There are levers clubs can pull to grow the top line. “Teams will need to evaluate their revenue generating operation and look to become much more creative and strategic at selling tickets [and] sponsorships,” DePaoli said.

Three quarters of MLB clubs still have a jersey patch opportunity to sell too. “That is a big-ticket item that should be a significant increase on their sponsorship revenues,” DePaoli said.

Hosting more non-game day events can also lift revenues.

As can winning on the field. “There are playoff revenues, and the associated spillover revenues the following season, if your team performs well,” DePaoli said.

If operating losses get too cumbersome, some owners could start looking for the exits.

But DePaoli does not expect the ongoing RSN turmoil to force a sale. He believes club owners will weather the short-term losses, with the help of PE, and hope the leagues can figure out how to replace the lost local media rights revenue.

There are reasons to be optimistic about the long-term value of local rights–most notably, the games remain among the most watched in every market, every night.

However, DePaoli isn’t convinced every club is going to come out ahead in the end.

“You’re not likely going to get back to these levels of rights fees that some of these teams were getting,” he said. “Now it’s coming to roost that [the RSNs] overpaid for some markets.”

The ongoing media evolution will increase the gap between the haves and have nots. Clubs with the strongest brands and largest fan bases will continue to reap lucrative RSN paydays, in some cases for more than a decade to come, while the less fortunate experience immediate reductions in local rights revenues.

It remains to be seen if the leagues will alter their respective revenue sharing models to help mitigate the losses and level out the playing field. But at least initially, the impacted clubs should prepare to deal with less.

The wealthiest clubs already believe they pay too much in revenue sharing and are likely to oppose any effort to increase their responsibilities. They simply aren’t going to see another club losing its RSN deal as their problem.

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