The NBA’s Revenue Solution: Expansion Teams

The NBA’s Revenue Solution: Expansion Teams

The NBA is a league that was built on expansion. It was a mandate that was issued by David Stern, Adam Silver’s predecessor. Stern had an insatiable appetite for getting professional basketball in front of as many eyes as possible. Expansion was a tool for achieving this objective.

Stern was responsible for adding seven teams into the NBA during his tenure as league commissioner. Stern’s actions grew the game in Canada and built on the strong foundations laid down by Bird, Magic and Jordan. He used the league’s marketing power to expand the NBA’s business and increase profitability. 

League expansion at the time was shrewd business, but there were effects on the quality of the game. The rapid expansion diluted the talent pool and games became less watchable.

Silver’s next frontier

When Adam Silver became commissioner of the NBA in early 2014, he wasted no time in making his mark on the league. Silver dealt effectively with Donald Sterling’s racist behavior; Sterling was expelled from the league and the Clippers were sold to Steve Ballmer.

Silver’s tenure has been very different to the approach taken by Stern. The former led with a velvet wrapped iron fist; the owners did what he advised and the league followed his strategic direction. Silver has been more collaborative, consulting stakeholders before laying out his plans for the NBA. This style of leadership has meant that issues such as mental health, racism and sports gambling have been discussed fairly frequently over the last six years.

Expansion has been pushed to the back of the cupboard by the NBA during Silver’s time as commissioner.

There have been a few comments here and there but nothing concrete. Silver has not committed to a policy of expanding the league to new markets such as Mexico City or Kansas City. However, it is entirely possible that the league reconsiders its stance in this current financial climate.

Silver’s shortfall

The NBA’s finances are in a messy state. It was recently reported by Yahoo Sports that the NBA missed revenue projections for 2020 by $1.5 billion. This is a serious hit to the league’s profitability and there is little sign that the financial climate will improve over the medium term.

COVID-19 has changed the business model for most NBA teams. A hugely important revenue stream dried up overnight when it was announced that fans would not be allowed into arenas. It doesn’t appear that arenas will approach maximum seating capacity for much, if any, of the 2020-21 season. Silver revealed that game day operations constituted 40% of the NBA’s total revenue.

It is difficult to see this reality changing over the next two years even if the vaccines from companies like GlaxoSmithKline, Pfizer or AstraZeneca continue to speed through the authorization and distribution process.

The vaccine will only be distributed to the general public once the most vulnerable in society have been addressed, and at this point in time, it is hard to say how much time a roll-out would take. And the only vaccination approved in the US–from Pfizer–was not studied to determine if it eliminates transmission from those who take it, even as it prevents their contraction of the virus. Public trust and fear in how we emerge from the pandemic is anything but settled, and fans’ demand for seeing games in persons once technically safe may not recover soon (if ever).

Most owners would have been fine stomaching a loss if the loss was an isolated event in a sea of profitability. However, this is simply not the case. COVID-19 has created financial uncertainty that could do damage to the league’s revenue over the next three years.

via NBA

Recouping what’s lost

Expansion would be a useful tool for addressing the losses incurred by the NBA. When a team is admitted to the NBA, the new ownership has to pay a fee to the current 30 teams. This fee is usually based on a team’s valuation.

The recent sale price of an NBA team is a valuation method that has been floated by many people who are advocating for expansion. The Utah Jazz were recently sold by the Miller family for upwards of $1.6 billion. Thus, the sale price method would value an expansion team and an expansion fee at $1.6 billion–just above the drop in league-wide revenue from last season.

This methodology is not perfect and I believe that this valuation technique has serious flaws. The first being that this approach fails to account for inherent risk. A new NBA team carries higher risk due to the fact that it is an uncertain proposition. It is highly possible that the team cannot succeed in a new market and is unprofitable. A new owner assumes risks that current owners do not have to account for. Higher risk will drive the valuation downwards.

In a time like this, a conservative baseline figure should be used to value an expansion team. At the time of writing, the Memphis Grizzlies have the lowest estimated worth out of all 30 teams. The Grizzlies are valued at $1.3 billion, what I’d consider a fair market value for an expansion team.

Using this more conservative estimate, the addition of two expansion teams would net $2.6 billion for the league. This sum of money would go a long way to stemming the flow of losses for every single team in the NBA. This fee is divided equally among all 30 teams, which would mean that every single team would receive close to $90 million. This payment would provide relief for NBA teams who are currently running in the red.

For a team like the Thunder, it is estimated that $103.2 million is generated from game day operations in a typical season. Oklahoma City’s ownership badly need fans back in the arena, otherwise OKC will be staring down a huge deficit in revenue. Expansion would go some way to alleviate those financial pressures.

Receiving their cut from the expansion fee would significantly reduce a potential revenue deficit for a team like the Thunder from $100 million to the neighborhood of $16.6 million. OKC would obviously prefer the team to be a profit-making organization, but a small yearly loss could be absorbed without much fuss.

Expansion makes sense for the Thunder, and it makes sense for the league financially.

Hidden costs?

There are real basketball questions associated with expansion. Another drop in quality is a big fear, but I feel that this fear is overblown. The talent pool of players who could feasibly play in the NBA is much larger than it was in the 1990s. In the last four or five years, nations outside of the USA have become much better at producing NBA talent. Leagues like the Euroleague are veritable sources of talent, with players who could feasibly compete at the NBA level.

Moreover, the development of the G-League as a legitimate minor league means that teams have more resources to call upon. In recent years, G-League players such as Pascal Siakam, Duncan Robinson, Josh Richardson, and Lu Dort have proven they have the ability to play in the NBA.

The development of these two talent pools means that there are more players than ever before who could play in the NBA without a huge drop off in quality. I do not believe that a two team expansion would do a lot of damage to the NBA’s product.

There have been numerous cities floated as landing spots for an expansion team. Mexico City, Las Vegas and Louisville have all factored into the conversation over the last four or five years. However, I would argue that there are only two viable cities who have the infrastructure to support an NBA team.

Seattle and Kansas City.

No longer team-less in Seattle

I believe both of these cities could support an NBA franchise, but Seattle is the stand-out candidate. The old KeyArena is undergoing renovation that will completely modernize the facility. Now named the Climate Pledge Arena, the building will house 18,600 at maximum capacity and it will have the type of luxury suites that drive revenue. The renovation is set to be complete in June 2021, meaning the city of Seattle will have a world class arena at their disposal. The new arena has already attracted an expansion hockey team to the city for 2021 (the Kraken). It would be wise for the NBA to join the NHL and head back to Seattle.

The marketplace is busy but basketball is beloved in the Pacific Northwest. The Supersonics played in Seattle for 41 years before the team was moved to Oklahoma City. During that time period, the KeyArena was always full and the Key was known for being one of the best atmospheres in basketball. An intimidating place for opposing teams to play, the arena was deafeningly loud and fans were vociferous in their support of their team. The Supersonics were loved and there was a lot of hurt when the Sonics left in 2008. A return of the Seattle Supersonics would be widely supported, and might finally bury the hatchet between Seattleites and Oklahomans.

The PNW has no shortage of billionaire investors who would be interested in purchasing a new Seattle basketball team. The most likely investor would be David Bonderman. Bonderman is the majority owner of the aforementioned Kraken and is also a minority owner of the Boston Celtics.

Bonderman has already shown an interest in bringing the NBA back to Seattle. Currently worth $4 billion, Bonderman would certainly have the financial resources and connections to fund an NBA team. He was a founding partner in TPG, a firm that is currently one of the biggest players in private equity.

Bonderman will have a book of contacts in the financial sector who could partner with him in buying an NBA team. For the Kraken, Bonderman brought in Jerry Bruckheimer and Tod Leiweke as investors. He would likely be able to do the exact same thing when it came to funding the purchase of an NBA team.

Seattle has the facilities and finance needed to support an NBA team. Moreover, Seattle’s local government has been welcoming to sports in recent years. Mayor Jenny Durkan is a sports fan and has spoken about a willingness to bring professional sports to Seattle. An expansion team would get support from the Seattle City Council.

The return of the Sonics would create a few interesting selling points. When the Sonics left in 2008, the I-5 rivalry died. There could no longer be the same sort of tight, tense regional struggle with the Trailblazers now that the nearest team was now hundreds of miles away (although the Thunder did have a fun little rivalry with Portland while it lasted).

Seattle would have a natural rival in the Blazers and the renewed PNW rivalry would draw a lot of attention, a historic match-up that would do a lot to bolster the NBA’s offering in the Northwest.

The other selling point revolves around the Oklahoma City Thunder. A lot of Sonics’ holdover fans do not like the Thunder or Clay Bennett at all (to put it mildly). There will be animosity and bad blood when the Thunder travel to the Climate Pledge Arena. It could be the sort of deep-seated dislike that produces hugely entertaining battles. Hopefully the players would appreciate the spirit of the rivalry and help keep it on this side of fun and intense, instead of veering into bitter and toxic.

A KC homecoming

Kansas City is another market that could support an NBA team. KC currently has a very good arena in the form of the T-Mobile Center, which seats 18,970. Nearly all current arenas have a similar seating capacity. The benefit of this arena is that no professional team currently inhabits it. An NBA team could move in with minimal fuss. 

Kansas City also has a rich basketball history that the NBA could lean on when marketing the expansion team. The Kings played in KC in the 1970s and 1980s before moving to Sacramento. The team was moderately successful, boasting Tiny Archibald as its leading man. Archibald was one of the most exciting stars of the 70s.

Moreover, the state of Kansas has a storied history in the college game. James Naismith, the founding father of basketball, coached Kansas. Larry Brown, Gregg Popovich and Bill Self–these are just a few of the names who have walked on the ground where Naismith made his home. 

This narrative could be sold with the league’s return to Kansas City: the NBA returning to one of basketball’s spiritual homes.

The financing aspect is an issue with expansion to Kansas. Clifford Illig would have been a strong candidate, but he has previously declared that he is already very busy with Sporting Kansas City (MLS) and his other businesses. There are simply not enough billionaires in the state who could feasibly afford a franchise by themselves. A consortium of investors would be required in order to put together the necessary funding.

Still, there is an investor pool who would be interested in bringing the NBA back to this market for the first time since the 1980s. A family like the Kempers, responsible for the growth and creation of two prominent banks in Kansas, would certainly be a viable partner. The Kemper family is well known for philanthropy and championing local commerce. They would make sense as leading members of a consortium of owners.

Kansas City is a crowded sports market; the city currently supports the Chiefs, Royals and Sporting KC. That’s three teams in the five major sports leagues, and the NBA would be number four. This could make drawing local corporate money difficult. This is the only red flag for KC as a market.

Corporate money is one of the largest revenue streams for an NBA team, especially for a small market team. This form of revenue is steady and more reliable than jersey sales or game day operations in this covid climate. In most small markets, there is only so much corporate money in the town. Business people will purchase boxes and hospitality packages to entertain clients or staff but this is an expensive outlay. An NBA suite can cost upwards of $3,000 per game. Over the course of an 82 game season, this is a costly business expense.

Business people will carefully consider which corporate hospitality option provides the most value for their money. The sheer abundance of sports teams will create a highly competitive environment for that corporate cash in Kansas City.

The NBA and any Kansas City investors will have to be aware of this potential pitfall. Corporate money will follow the success of the team in a busy market, so any plan to bring professional basketball to Kansas has to address this risk in detail.

Still, if it happens, KC basketball makes sense. Aside from the historical homecoming narrative, Kansas City is also fairly close to Oklahoma City. A natural rivalry could easily emerge between the two teams, as past geographical rivalries in the NBA would suggest.

Conference ripple effects

Two additions in the Western Conference would mean that the league would have unbalanced conferences for the first time in years. However, the issue is fairly easy to rectify: Memphis moves to the Eastern Conference, making it an even 16 teams in either conference.

The Grizzlies are the Western Conference team furthest east. They don’t really fit easily into any division in the West–they’re actually closer to the Southeastern corner of the USA than their current Southwest Division opponents.

Oklahoma City is in a similar sort of situation. The Thunder play in the Northwest with the Blazers, Jazz, Nuggets and Timberwolves, a holdover from the times when the Sonics played in Seattle. 

However, the Thunder’s divisional placement makes little sense today. Oklahoma City is much closer to all of the Texas teams than it is to Minnesota or Denver. OKC playing in the Southwest is much more logical.

It all makes sense

Memphis to the Southeast. Oklahoma City and Kansas City to the Southwest. Seattle to the Northwest.

The Sonics would continue their rivalry with Portland, while Oklahoma City, Kansas City, and Memphis would add spice to their respective divisions, which are currently relatively low on intrigue.

We often hear that fatigue and schedule management are issues that the NBA is trying to solve. The divisions being redrawn like this would go a long way to mitigate both of these issues. Travel distances would be significantly shortened, and there would be ripple effects in designing league-wide road trips. If the NBA’s experimentation with short series in the same city goes well this season, that amplifies the redistricting’s positive effect. Oklahoma City could play a three game Texas swing over the course of a week, or even a three-team road trip without eating up the eight or nine days that a typical Northwest jag requires now. 

An expansion of the NBA would bring necessary revenue to the league’s finances. It would also tap into two historic basketball markets that will widely support a team. Money and hoops. Any option that provides profitability for the NBA and entertaining basketball for the fans is a good one.

Author