One Baseball Statistic Remains a Mystery: The Real Bottom Line
Owners Have Been Warning Of Catastrophe for Years; Economists Are Skeptical
The Games Accountants Play
By Timothy K. Smith and Erle Norton

04/02/1993
The Wall Street Journal
PAGE A1

With a new baseball season about to begin and the sport said to be on the brink of a crisis, two statistics should be borne in mind:

1. A home run by Jeff Blauser of the Atlanta Braves last July 4 was the 1776th big-league homer hit on Independence Day.

2. The average major-league home run, if hit on the moon, would travel about 4,200 feet.

What these statistics remind us of is that baseball is a natural haven for people who are mathematically curious and have way too much time on their hands. So when financial gloom descends on the sport, team owners talk of crippling losses and the end of the game as we know it is called a possibility, we can be sure the numbers have been well and truly crunched.

Can't we?

"I certainly don't think that you can take them at face value," says Bill James, the baseball writer and statistician extraordinaire.

Warnings of catastrophe in baseball have been reverberating ever since CBS and ESPN let it be known that they had overpaid for the rights to broadcast games nationally and aren't inclined to bid as much when contracts are renewed next year. The specter of a drop in revenue would rattle any industry -- even one that, like baseball, has unregulated monopoly power, municipally subsidized facilities, a depreciation allowance for personnel and no foreign or domestic competition.

But in baseball's case, the news is especially bad because player salaries keep rising, and the divergent trends of revenues and salaries are said to carry a dire implication.

"Professional baseball is on the wane," in the words of Albert Spalding, a former player and league executive. "Salaries must come down, or the interest of the public must be increased in some way. If one or the other does not happen, bankruptcy stares every team in the face." Granted, Mr. Spalding has been dead for 77 years, and he issued this warning in 1881, but he said, in a nutshell, exactly what baseball-team owners are saying today.

Baseball's health is affected by intangible, hard-to-measure factors, such as the modern, shrinking attention span and the continuing scarcity of minorities in management and in the stands. But the game's health is most directly determined by economic factors that are basic, tangible -- and practically impossible to measure. The teams are privately owned, and their owners understandably keep a firm lid on their financial data.

Nevertheless, the preseason air of catastrophe has some economists scratching their heads. The average team, they note, pulls in $50 million to $60 million of annual revenue, which goes to support 25 players (more after Sept. 1), a half-dozen coaches, the front-office staff and player development. The leagues are exempt from antitrust laws, and when a team changes hands, Internal Revenue Service rules let the new owners depreciate what amounts to a big chunk of player contracts. Gangs of millionaires sue to obtain the privilege of buying expansion franchises. How bad can things be?

"Baseball is going through really a serious economic crisis," says Peter Magowan, Safeway Inc. chairman and managing general partner of the investor group that paid $100 million to acquire the San Francisco Giants last fall and immediately signed outfielder Barry Bonds to a $43.8 million, six-year contract. Richard Ravitch, who is representing team owners in labor negotiations with players, says: "The player compensation system and distribution of revenue among the clubs must be changed if baseball is going to compete effectively for the entertainment dollar in the decade ahead."

Economists, and players, consider grim diagnoses of baseball perfectly accurate according to generally accepted accounting principles -- and, broadly speaking, baloney. A baseball team has three strong incentives to show paper losses: to obtain a tax write-off (usually to offset profits from the owner's other businesses); to present a bleak picture in labor negotiations with players; and to scare municipalities into subsidizing baseball with additional tax dollars (for a new access road, a parking lot or a whole stadium).

"It's absurd," says Andrew Zimbalist, a professor of economics at Smith College and the author of "Baseball and Billions," a book about the baseball business. "I'm quite convinced that the economic return on baseball is very high."

The scant figures that have trickled out over the years indicate that team owners go to considerable lengths to inflate expenses and deflate revenue. Turner Broadcasting System Inc., which owns the Braves, paid the team $9 million in 1991 for a TV contract that observers say is worth several times that. Anheuser-Busch Cos., which owns the St. Louis Cardinals, runs concession revenue at Busch Stadium through an affiliated corporation, and it doesn't show up on the Cardinals' books. Owners commonly form a corporation to buy a team, lend the corporation the purchase price and collect interest from it, pocketing the interest payments while increasing team expenses.

Owners pay themselves multimillion-dollar salaries and consulting fees, and they pile expenses into the "general and administrative expense" column, economists say. "You're always on club business. You get an unlimited expense account," says Gerald Scully, an economist who wrote "The Business of Major League Baseball."

All this leads players to mistrust team owners' financial statements and has engendered an impressive perversity: chronic labor strife in an industry with a minimum wage of $109,000 a year (that is the minimum contract an owner can offer a major-league player).

In 1985, as part of a negotiating stratagem, the owners "opened the books" and showed the players' association audited financial statements indicating that the teams had had a combined loss of $42 million in the previous year. The players' association hired Roger Noll, a Stanford University economist, to review the figures, and he concluded that although some teams lost money, overall they had a combined operating profit of $9 million -- not a bonanza, but certainly not a disaster.

For generations, baseball has been going through an eccentric business cycle driven by ritual tantrums. In 1965, when 84 years of robust growth had passed since Albert Spalding's alarm, a book called "No Joy in Mudville" examined "the decline and fall of baseball." When the players turned to collective bargaining in 1966, team owners said the game would not survive. When free agency came along in 1976, and certain players could sell their services to the highest bidder, baseball officials predicted that competitive balance would be destroyed, that the entire American League would fold and that several teams in the National League would strike out, too.

All the while, the values of franchises, measured by the prices at which they change hands, have risen inexorably. In the past 90 years, prices paid for teams have doubled about every nine years, and the pace has picked up lately, according to economists Rodney D. Fort and James Quirk, co-authors of "Pay Dirt," a book about the business of professional sports. They calculate that "for franchises that were sold in the 1970s and then sold again in the 1980s, on average it took about 5.5 years to double, and for the two franchises (the Mets and the Rangers) sold twice in the 1980s, on average it took a little less than three years to double in price."

Owners say this long ride is ending. "The price escalation is over," says Jerry Reinsdorf, chairman of the Chicago White Sox. On the other hand, financier Eli Jacobs is on the verge of selling the Baltimore Orioles for $145 million; he paid $70 million in 1989. Expansion teams in Colorado and Florida last year fetched $95 million apiece.

Even so, team owners insist that this year the game really is imperiled. The problem, they say, is that players keep asking for more money and that some owners, maddened by pennant lust, give it to them. Civic pride, they contend, will eventually lead teams to spend so much on player talent that they will go bankrupt.

And it isn't just the stars' mind-boggling contracts that threaten the game, owners say; it is also the practice of salary arbitration. Arbitration is supposed to be a kind of compromise between a player's indenture -- his first three years in the major leagues -- and his freedom, which he obtains after six years. If a player and his team can't agree on his salary during this interval, an independent arbitrator picks either the amount demanded by the player or the amount offered by the team.

Because the arbitrator takes into consideration what comparable players at other teams are paid, the teams must "pay players what our dumbest competitors pay players," says Mr. Reinsdorf. When the practice was adopted 20 years ago, New York Yankees principal owner George Steinbrenner warned that "arbitration will be the cancer of baseball." And though the intervening years have been the most prosperous in baseball's history, owners say the time has finally come when only rich teams in big markets will be able to pay competitive salaries. Thus, competitive balance will be lost and the game destroyed.

Economists say, however, that arbitration actually is a fairly good compromiseand a necessary one, because in addition to being a monopoly, baseball is for the first years of a player's career a monopsony, a market with only one buyer. Some observers contend that even under arbitration, players still aren't paid what they are worth: Mr. Zimbalist calculates that players with arbitration rights are paid between 50% and 64% of the value of their contribution to team revenue.

Overall, player salaries equal about 58% of revenue, says Mr. Ravitch, the labor negotiator for the owners. Mr. Scully says it is more like 50%. Neither number is particularly high for a labor-intensive business, management consultants say. Advertising agencies and consulting firms generally spend between 50% and 60% of revenue on worker pay, according to Alan M. Johnson of Johnson Associates, a New York management consulting firm. Russell G. Roberts of Sibson & Co. in Chicago, another consulting firm, says the percentage can be as high as 75% at law firms.

"The sky's not going to fall," Mr. Scully says. When player salaries reach 60% to 65% of revenue, he predicts, "the bidding will stop. You're not going to bid yourself into bankruptcy."

On the revenue side of the equation, owners predict that the value of national television contracts will be halved, from about $350 million a year currently, when they are put out for bid again next year. Players don't deny that the contracts may shrink -- after all, CBS Inc. has estimated a total after-tax loss on its current four-year contract of $170 million -- but they argue that this won't be catastrophic because national broadcasting accounts for less than a quarter of baseball's revenue.

Mr. Fort goes so far as to predict that increases in the value of local cable-TV contracts will "more than swamp what's going to happen in a national TV contract." And whatever happens in the immediate future, baseball observers suggest that if the much-discussed vision of interactive, pay-per-view media comes to pass, the future value of baseball as software will be vast beyond calculation.

Economists and player representatives say baseball-team owners' public worrying, and the attendant blizzard of nail-biting press coverage, are linked to the current negotiations over the sport's collective-bargaining agreement. "This is all part of a ploy that's been going on for 100 years," Mr. Scully says. Marvin Miller, the former head of the players' association, says, "It's a game, and I expect them to play it. It is rare that a company talks enthusiastically or optimistically about its profits unless there is some special reason, like a stock issue, and baseball is no exception to this."

In the current labor negotiations, which have been going on since January, owners are expected to argue that several teams are on the brink of bankruptcy; players are expected to argue that rich teams should share more of their revenue with poor ones; owners are expected to argue that they will do that if players accept a cap on their salaries; players are expected to laugh in the owners' faces; and the whole thing is expected to slide into the usual scuffle.

Will it kill the game?

"I don't know where it's going to stop except at the end," says Yogi Berra.