On Wednesday, the Reds announced a much-anticipated agreement with FOX Sports Ohio that extends the networkÃ¢â‚¬â„¢s visual broadcast rights for another 15 years. FSO has televised Reds games since 1998.Ã‚Â Before we analyze what we know about the deal, let’s consider the context.
Important, but not all-important
Local broadcast revenue is important, but not all-important for a major league baseball organization. Teams receive revenue from four primary sources: people who attend games; corporate advertising; MLB profits and revenue sharing; and local broadcast rights, both visual and radio. On average, 25 percent of team revenues comes from the latter. For the Reds, visual broadcast rights haven’t even been 15 percent.
The Reds other sources of cash flow have been up and down in recent years. Attendance at GABP has suffered the past two seasons as a result of the Reds poor record on the field.Ã‚Â But Major League BaseballÃ¢â‚¬â„¢s contribution has grown substantially with cash from new lucrative national television contracts ($25 million per team) and booming digital platform sales ($10 million-plus per team per year) rolling in. Small market teams like the Reds continue to benefit from MLBÃ¢â‚¬â„¢s base and supplemental revenue sharing systems.
Forbes Magazine estimates total 2016 revenues for the Reds at $237 million. The FSO contract is one piece of the club’s financial picture.
We tend to focus on the shiny annual payment figure in regional sports network (RSN) contracts. But local broadcast deals often include granting ownership (equity) shares of the media company to the team, where the club and network become formal partners. More than half the major league teams have an equity share in a RSN and that number is growing. For example, the Angels and Phillies receive a 25 percent share; the Cardinals, 30 percent.Ã‚Â Teams, as owners, receive a cut of the television networkÃ¢â‚¬â„¢s profits.
The reason professional baseball teams are eager to obtain an equity stake as compensation is that income earned that way is exempt from MLBÃ¢â‚¬â„¢s revenue sharing. The current Collective Bargaining Agreement requires teams to send 34% of their baseball revenues back to MLB. That money is then redistributed in roughly equal shares to each team.
But teams are required to share only their baseball receipts. Profits from owning a television network are considered media revenue, not baseball revenue. The same goes for other non-baseball revenue the team may earn. ItÃ¢â‚¬â„¢s a loophole in the revenue sharing rule big enough to drive a Paul McCartney concert through.
In terms of actual new cash flow to the Reds, we donÃ¢â‚¬â„¢t know how much profit FSO earns on an annual basis. But equity in an RSN increases the value of the baseball club even if it doesnÃ¢â‚¬â„¢t increase annual revenue streams much. RSNs are worth differing amounts. The Phillies possess a 25 percent ownership stake in Comcast SportsNet Philadelphia, a network that also owns the rights to the Flyers and Sixers. That’s a valuable property.
If the Reds now own, say, 20 percent of FSO, then the baseball franchise has increased in value by one-fifth the amount FSO is worth. It’s an excellent time to own part of the company that holds exclusive rights to broadcast ClevelandÃ¢â‚¬â„¢s baseball and basketball teams.
Since Bob Castellini bought the Reds in 2006, the value of the club has increased from $270 million to over $900 million (Forbes). That doesnÃ¢â‚¬â„¢t include the new partial ownership of FSO or the RedsÃ¢â‚¬â„¢ cut of MLBÃ¢â‚¬â„¢s digital operation, estimated to be worth $200 million per team. The growing value of the Reds may not translate directly into higher payroll spending. But if the Reds have suddenly become worth a half billion dollars more, ownership could depart from their break even business model.
The fuzzy value of payroll
All that said, what most of us care about in the short-run is what the new deal with FSO means for payroll spending. But keep in mind that payroll doesnÃ¢â‚¬â„¢t buy wins the way it did a decade or more ago. The connection isnÃ¢â‚¬â„¢t zero, but the correlation between payroll and wins continues to decline.
The reason for this is easy to understand. What separates the big spending teams from the rest are expensive free agent contracts. They are paid mostly late in a playerÃ¢â‚¬â„¢s career, when heÃ¢â‚¬â„¢s well down the slope of his aging curve. In a perverse sense (or glorious, depending how you look at it), mega contracts are equalizers. Twentysomethings under team control and relatively cheap produce the most WAR in PED-free baseball.
Related current events anecdote: The Dodgers and Cubs may be at the top of this list, but Cleveland is at the bottom.
My old debate coach used to say whether youÃ¢â‚¬â„¢re rich or poor itÃ¢â‚¬â„¢s good to have money. Of course she was right. But being smart about how you spend it matters more.
The Reds revealedÃ‚Â at the FSO announcement that they explored the possibility of starting their own sports cable channel.Ã‚Â Other teams operate their own networks with varying degrees of success. Difficulties include finding sufficient supplemental non-baseball content and having to negotiate distribution with content carriers.
The owners of ClevelandÃ¢â‚¬â„¢s baseball team created the SportsTime Ohio network in 2006 to carry their games. They ended up selling STO to Fox Sports Ohio six years later. The Houston Astros began a new sports network with the NBA Rockets and had a terrible time reaching an agreement on fees with CATV and satellite companies in Houston. Their network went bankrupt in less than two years. Cautionary tale. Yikes.
The Reds decided they didnÃ¢â‚¬â„¢t want to take that risk. And as far as we know, no company other than FSO, like Time Warner, offered a competitive bid. But itÃ¢â‚¬â„¢s possible the Reds were able to use their dabbling with a Reds-owned network as leverage with FSO to improve the deal. Hope so.
15 years, cord cutting and in-market streaming
The one number we do know for sure about the Reds/FSO agreement is that it runs for 15 years, through the end of the 2032 season. ThatÃ¢â‚¬â„¢s the same duration as the deal the Cardinals signed last year. A few years ago, longer contracts were commonplace. But with rapidly rising revenues in the sport, itÃ¢â‚¬â„¢s not clear that longer is better. After all, Reds fans have been eager to see the current deal end.
When the new agreement was announced, Phil Castellini mentioned the uncertainty of the marketplace. He was likely talking about the potential instability of the current RSN business model and the threat posed by cord cutting.
Cable and satellite-based content providers (carriers) like Time Warner and Dish pay regional sports networks like FSO a fee to carry the local baseball team broadcast. Right now, carriers build the FSO fee into the basic cable or satellite bill, paid by every consumer, not just those who watch baseball.
Those fees generate a lot of money for FSO and other sports companies like ESPN. ItÃ¢â‚¬â„¢s why the Big Ten expanded to Rutgers and Maryland, reasoning that the content providers in the New York and Baltimore/Washington D.C. areas would add the Big Ten Channel to their basic cable package. That happened.
The risk: Given the growing ability to find most programming online, consumers are cutting ties with expensive cable and satellite providers. ThatÃ¢â‚¬â„¢s called cord cutting. If enough consumers do that, content providers will have to sell sports programming like ESPN and Reds baseball by specific subscription, like they do HBO, Showtime and other premium channels. Under that system, FSO would only get fees from people who actually watch the Reds, not every cable or satellite subscriber in Cincinnati and surrounding areas. RSN revenues could plummet, making their previous agreements with sports teams untenable.
So RSNs are hedging when they negotiate new deals with sports teams by asking for shorter contracts. Baseball teams offset that by taking on equity. RSNs go along because the partnership mitigates downside risk.
How real is this scenario? ThatÃ¢â‚¬â„¢s open to speculation. People, particularly younger consumers, are cord cutting. But so far there are clear limits to how many television viewers are willing to do it. Recent deals signed by the Cardinals and Diamondbacks showed little signs of a popped bubble.
On the good-news side for RSNs, in-market online streaming of major league baseball is coming. So far, the only way in-market fans can watch Reds games online is if they buy a cable or satellite service. The RSN monopoly on visual rights is behind the unpopular blackout for local fans on MLB.TV.
But if cord cutting becomes more common, RSNs can change the basic arrangement with content providers and sell stand-alone online streaming to individual consumers. Imagine a world where FSO could sell every household with a Reds fan — whether in Cincinnati or China — a $50 subscription to watch all the team’s games. In-market streaming could make broadcast rights more valuable than they are now.
A guess at the annual amount
The Reds have been quirky and secretive about the terms of their new media deal other than its duration. Maybe they’ll reveal the details soon. It’s puzzling why they haven’t since the industry practice is plainly to disclose. The Reds operate like a quaint family business in some ways. A quaint, $1 billion family business.
Even if we knew the amount, thereÃ¢â‚¬â„¢s no point in bemoaning how little the Reds received in comparison to mega deals made by big market teams like the Los Angeles Dodgers ($334 million/year), Philadelphia Phillies ($200 million/year) and Texas Rangers ($150 million/year).
That’s comparing apples to gold-plated apples.
Instead, the RedsÃ¢â‚¬â„¢ situation more closely parallels the Cardinals ($66.7 million/year), the Padres ($60 million/year) and the Diamondbacks ($75 million/year).
RSNs pay out based on the number of television sets in their region plus projected eyeballs as game ratings determine advertising rates. ItÃ¢â‚¬â„¢s common knowledge that Cincinnati is one of the smallest television markets. But FSO broadcasts to over 5 million fee-paying households in neighboring cities and states.
The Reds have a track record of high ratings Ã¢â‚¬â€œ the percentage of households with TVs that watch Ã¢â‚¬â€œ at least when the team is competitive. San Diego and Arizona have larger markets, but the Reds have had better ratings.
IÃ¢â‚¬â„¢ll dial back my predictionÃ‚Â a bit from more than a year ago. Although I still think the Reds did better than San Diego. The Padres got $50 million/year, a 20 percent equity share and a $200 million signing bonus.
BestÃ‚Â guess: $65 million/year average and 20 percent of FSO. The annual payment will grow over the course of the contract, starting around $50-55 million in 2018.
Effect on payroll
The new FSO contract guarantees a higher income stream for the future. Reds chief operating officer Phil Castellini described it as a nice increase in revenue. General manager Dick Williams says it puts the club in a good position to continue the work started the last couple years.
The Reds will boost payroll spending as they have with enhanced revenue streams in the past. From 2010 to 2013, the club raised payroll by about $25 million — from $80 million to $106 million. ThatÃ¢â‚¬â„¢s the income increase each major league club experienced those years from MLBÃ¢â‚¬â„¢s new national broadcast contracts and digital platforms. The Reds sustained that level at $114 million and $115 million the next two seasons.
Last year, the offseason rebuild moves cut the major league payroll to $90m and even further with the Jay Bruce trade. But the club made major new commitments in the amateur draft and international signings. The Reds spent nearly $15 million in the 2016 amateur draft, compared to about $8 million in 2015. They also signed contracts of around $12 million for international players.Ã‚Â Expect more of the same in 2017 with the #2 draft pick.
At a minimum, the new FSO contract will soothe concerns about the temporary decline in attendance-based revenues. In 2018 and beyond, with the Reds record and attendance rebounding, the new agreement should provide an additional $20-25 million in salaries. We could see the Reds raise spending to $140 million on their major league payroll in the not too distant future.
Keep your expectations in check. The Reds arenÃ¢â‚¬â„¢t going to go out and sign a 5-WAR player in free agency. But they might trade for one still under team control.
Fan concern about the money the Reds have tied up in a few big contracts is misplaced. Players earning league minimum will fill the bulk of the roster spots for now. The Reds baseline payroll (no free agent signings) could be well under $100 million in 2018. Brandon Phillips ($14 million) goes off the books that year, Devin Mesoraco ($13.1 million) becomes a free agent in 2019 and the Reds will no longer pay Homer BaileyÃ¢â‚¬â„¢s contract ($23 million) in 2020.
So how do we assess the new deal?
Without details itÃ¢â‚¬â„¢s impossible to judge how well they did in comparison to other clubs. If anyone tries to tell you it’sÃ‚Â a good or bad deal, they donÃ¢â‚¬â„¢t really know.
Again, payroll isnÃ¢â‚¬â„¢t destiny. Being smart is so much cheaper than being uninformed. The new deal starts in 2018 and the annual dollar amount will increase in steps. AÃ‚Â $15-20 million bump – and it could be twice that – is not nothing. ThatÃ¢â‚¬â„¢s a 20 percent increase. The Reds will have enough money to make intelligent moves.