Professional Sports Teams - Case Study Example

Professional Sports Teams Professional sports teams in the US and world widely have grown stronger and richerover the years, particularly towards the end of twentieth century, leading to commercialization of the sector. Today, professional team sports are steadily reaping increased profits from sale of television broadcasting rights, team merchandise, and tickets (Eschenfelder & Li, 2007:26). The sort of income that professional team sports receive is enormous and is a major part of the gross domestic product of countries. A good example is the US where the National Basketball Association (NBA), Major Baseball League, and the National Football League (NFL) are a major source of attraction and income for the country (Dobson & Goddard, 2011:206). Commercialization of sports follows the principle of economic of profit maximization, and it is with such understanding that economists have taken a keen interest of evaluating sports club and franchises owners’ objective and their influence on regulations and structure of leagues. This paper seeks to analyze the objectives of team owners and the impact they may have on the regulations and structure of professional sports leagues. From an economic standpoint, professional team sports are a form of enterprise, the owners of the teams being the entrepreneurs and the game being the product. The customers are the fans supporting these teams, while the players and the coaching staff are the inputs (Mayhew, 2003:79). Professional players and athletes earn millions of dollars per season, with team prices shooting past 500 million dollars (for Washington Redskins and New York Jets). With such huge figures, professional sports teams have been organized into sealed leagues with the identity and number of competitors being fixed by the league members themselves, thus the influence of the league by the owners of these teams (Masterlexis & Hums, 2011:295). Figure 1: Graph showing one-year change in total value of football clubs in the US (emphasis on New York Jets and Washington Redskins). Retrieved from http://www.data360.org/dsg.aspx?Data_Set_Group_Id=1358 Unlike other contemporary economic sectors principle of monopoly, success of the professional team sports relies on extreme competition between the teams. The more competitive the game, the higher the ticket charges as well as the attendance, resulting to higher profits. The implication of this fact is that teams with consistent unbroken winning streaks become common and boring. This has led to the formation of leagues that manage and organize games with the aim of eliminating unfair competition in the sector (Rodney, 2004:25). These leagues have become so popular, going past the country’s border and spreading over the world. Prime examples include the Premier League in English football, La Liga football league in Spain, Super Bowl baseball league in the US, and NBA basketball league in the US (Kern, 2000:101). These leagues are multi-billion dollars ventures that contribute significantly to the GDP of their respective countries. Players’ drafts, salary caps, roster limit, and player trading restrictions govern the labor market of professional sports. Gate collection sharing, collective sale of television broadcasting rights, and joint merchandising limit economic competition in the product markets. These agreements apply to such leagues like the ice hockey, baseball, basketball, and American football. These agreements are based on the economic principles of profit maximization, which is often the objective of the professional team owners (Melicher, 2011:9). Team owners in Europe and the US have always deferred in objectives, with the paradigm of profit maximization dominating the North and non-profit making objectives, like maintenance of winning streaks, being a more embraced approach in Europe. In the economy of sports, the objectives of team owners, and the controlling leagues is important, considering the monopolistic nature of the league enterprise. The issue of profit maximization against utility maximization can be analyzed in two perspectives: whether the teams maximize profits or not, and whether leagues maximize joint league profits or not. Empirical evidence from the return rate of investment indicate that the North American sports teams and leagues emphasize on profit maximization, and also the fact that very few US professional sports teams make losses in any season (Downward & Dawson, 2002: 137). On the other hand, few European sports teams rarely make consistent profits and rely on donations from rich owners and directors, or supporters for their existence (Barros, et. al. 2002:113). Sports analysts use economic principles to determine whether teams pursue utility or profit maximization. The first consideration is that long-run losses do not exhibit profit maximization characters. Secondly, paying the teams players an amount that exceeds their marginal utility also opposes the concept of profit maximization. Thirdly, the idea of hiring a large squad without limits goes against the principles of profit maximization. Fourth, building stadiums larger than required translates to a marginal revenue capital product exceeding costs of capital is not consistent with maximizing profits. Fifth, tickets, and other merchandize pricing below the marginal costs violate the rules of profit maximization (Rodney, 2004:116). Lastly, some obscene charity donations also do not comply with the principles of maximizing profits. The above principle may assist in identifying the objectives of a team owner. However, there are constraints on utility maximization. The public holds most of the professional team sports in the US, and as a result, holding companies often face due pressure when the teams lose. In addition, the lack of major league teams in cities with huge populations avail sports teams with the possibility of relocation and taking advantages of subsidies (Fort, 2006:339). European teams have a slim chance of engaging in non-profit making activities as most of them are listed under the stock exchange. While individual team owners have diverse interests, major leagues concentrate on profit maximization. The league as an institution does not concern itself with the number of winnings by each team, as either way one of the league member losses. In order for the league to maximize profits, however, there must be a competition balance (Stefan, 2007:47). This is where the problem with professional team sports leagues lies. Leagues have to design and observe a structure that enhances joint profits maximizations, regardless of the team owners’ objectives. Again, there is no empirical evidence that may suggest that a league made entirely of team owners aiming to maximize profits will act any different from a league comprising of individuals with utility maximizing objectives. In essence, both team owners and leagues controllers more or less have the same objective of maximizing profits. Rich professional teams often dominate major sports league around the world. For instance, teams like Manchester United, Chelsea, and Liverpool have always dominated the English Premier League, and have been buying among the most talented players in the world. This portrays the somewhat monopolistic nature of sports teams, and this is what makes the issue of team owners so important (Wladimir, 2011:134). In economics, monopolistic firms have power over output and price of commodities in a market. Moreover, sports have been exempted from most competition laws enhancing the retaining and transfer of players, and the reserve clause. To understand the effects of competition imbalance, here is an example. Assume some team owners have πmax while others have Umax?→ may lead to imbalances as Umaxers are bound to invest beyond MC=MR (Rodriguez, Kasanne, & Garcia, 2006:203). Figure 2: Monopolistic profit maximization and competition imbalance. Retrieved from http://www.google.com/imgres?imgurl=http://images.wikia.com/economics/images/7/76/Monopoly.JPG&imgrefurl=http://economics.wikia.com/wiki/MicroS04-I.4&usg=__X8jhUM-YwAD8eiqWCryeOAA6QMw=&h=428&w=571&sz=22&hl=en&start=7&sig2=GtdJvXX-Urmo81Rn7LdZhQ&zoom=1&tbnid=7HDyq5xl3OtfVM:&tbnh=100&tbnw=134&ei=XoffTpOWKpCurAfPuMyECQ&um=1&itbs=1 Rotenberg’s hypothesis will explain why πmax may enhance the competition balance. According to Rotenberg, a league comprising owners with profit maximizing owners will consider the need for competition balance in the league; hence more restrained spending on the labor market. On the other hand, a league comprising of utility maximization owners will focus on winning games thus resulting to an aggressive competition on the labor market (Alistair, 2002:27). In this regard therefore, the nature of owners’ objectives influences the league either towards maximization of profits or utility. Assuming that owners intend to maximize utilities, they are bound to spend more on the labor market, but since the collective selling of broadcasting rights are equal, all teams will be equal in terms of revenue. This is because heavy spenders receive less revenues returns as low spenders receive high revenues returns. A prime example of how team owners’ objectives influence league regulations and structure is the English premier league, with the assumption that team owners primary objective is profit maximization (Goodman et. al., 2010:186). The major leaders in the English football league were advocating for a change in the percentage sharing of broadcasting revenues in their favor (Butenko, 2010:60). In their arguments, an equal share for all the teams in the league was not fair, as their marginal costs did not match their marginal revenues. They were threatening to break away from the league and form their own. Eventually, the leading teams broke and formed their own league, the current English Premier League, resulting to a major shake up in the football sector in the country. The result was the creation of several multi-hierarchical football leagues, with the members of each league in a mutual agreement with the other teams, or what is called a collective bargaining agreement (Groot, 2008:92). In similar style, this was the formation of the current rugby league and baseball leagues, National Football League (NFL) and American Baseball League (Trembley, 2007:263). These teams, following their collective bargaining agreement, are the backbone foundations for the structure and regulations of the leagues in which they are members. To understand the concept, consider a four-team league and two two-team leagues. Following Rotenberg’s theory, even the most advantaged teams will not acquire all the talent but rather obtain a sufficiently stronger team that will be the most likely winner of the competition, due to demand for uncertainty in contest and the diminishing returns to talent (Rosner & Shropshire, 2011:6). Considering the two-team league scenario, a change in the equilibrium of talent distribution will have an impact on how the four-league teams divide into two leagues with respect to market demand, though the separation into two leagues will not affect the demand of the players in the best market (Cox& Hess, 2006:103). Assuming that the best market team combines with the worst market team, the result will be that the two teams attain equal team quality, following the assumptions on demand. With this concept in mind, we may further characterize the impact of splitting a 2n-team league into two equal n-team leagues by two polar cases: two leagues having equal market aggregates and a condition that one league posses the n-best market aggregate (Preuss, 2004:2). From this point of view, a team (and its objectives) and a league have a vertical relationship. A league is thus an enterprise of a set of teams with the league being a joint-venture cartel manager. A prime case study is the Premier League organizes a double round-robin series of matches to determine the league’s champion. Nonetheless, monopoly is not exclusively applicable in professional sports teams as all the firms depend mutually on each other (Delaney & Madigan 2009:229). The league, assuming that one professional league exists for every sport in a given country, is a monopoly if viewed as one multi-plant firm supplying the market, or as a cartel if viewed collectively a single supplier in the market (Leeds &Allmen 2010:234). The general assumption concerning American professional sports team is that their objectives are profit maximization, while characteristics of European sports clubs tend to suggest otherwise (Berri & Schmidt, 2010: 109). Following Sloane’s utility function U=u (A, P, X, πR- π0 -T) on the condition that πR- π0 –T≥0, indicates that a team owner wishes to maximize utility with the constraint of financial solvency (Sandy, Sloane & Rosentraub 2004:125). The maximum utility is achievable when performance (P), attendance (A), league’s health (X), and a relative variance between the minimum acceptable profit (π0) and the recorded profit (πR) after taxes (T). Figure 3: Maximum utility graph. Retrieved from http://www.transwebtutors.com/economics/Utility_Maximization.aspx In this regard therefore, it is conclusive that the objectives of the club owners and franchises share a common link in the structure and regulation of a league. This link is the notion of competitive balance between the teams in a given league (Kenneth & Scott 2010:43). As a result, influential club owners who feel that the current trends in a league forgo their interests and objectives often institute the breakdown of such league for the formation of new one, and as such contribute to the design and implementation of the structure and regulations of the new league (Barzilla, 2002:46). As long as all the teams in a league maintain the same collective bargain agreement, they make the foundation of its structure and the regulations that govern them. The admission of new teams into the league is often a collective decision accompanied by some incentives from the new teams. 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