In Baseball Between the Numbers, Nate Silver’s fantastic chapter, “Is Alex Rodriguez Overpaid?” highlighted a seminal fact about the player market: despite what your sports econ professor may have told you, the relationship between a team’s win total and its marginal revenue is not linear. Instead, there is actually a “sweet spot,” as he called it, at around 90 wins, where each additional victory is worth a great deal more than at any other range.
The reason is pretty simple: a team makes millions of extra dollars every time it hosts a postseason game. Nate estimated that, on average, a playoff appearance is worth just under $6 million, with plenty of room for upward mobility. A team that wins 100 games will almost surely make the playoffs, and a team that wins 60 surely will not. Adding a five-win player to either of these teams doesn’t do much to change their short term revenue potential.
On the other hand, doing so for an 85-win team certainly does. In the wild card era (including this season but not including the strike-shortened 1995), 27 teams have won between 85 and 87 games. Three of those (the ‘97 Indians, ‘00 Yankees, and ‘07 Cubs) have made the playoffs. In the sametime span, 27 teams have won between 90 and 92 games, with only six of those missing out on October baseball.
None of this is new information. But here’s where it gets interesting. I wrote on Monday that the A-Rod deal COULD have been a success for the Rangers had things broken a bit differently. Many of you disagreed. But what you are not considering is how baseball owners really make their money.
Let’s think about this. Last year, according to Forbes Magazine’s annual estimates, the average Major League team, excluding one, brought in an $18 million profit in 2006. Leading the way were the mighty Florida Marlins, who, thanks to low expenses, saw upwards of $43 million in earnings.
That one team that we left out of the sample? Well, those poor guys lost over $25 million, an incredible figure considering no other franchise was in the red.
If you’re reading this blog, you may very well already know who we’re talking about. Yes, of course, it’s the New York Yankees.
And how about this: of the top 17 profit-making teams, only two (the Dodgers and the Mets) made the playoffs.
So what is going on here? We just established that the playoffs can be a very lucrative venture for the teams involved, and yet those teams got their heads handed to them in terms of income.
But there’s another aspect to this, and this is what many people seem to be forgetting. Baseball owners make their real money through capital gains, NOT operating profits. Those same Yankees that lost $25 million last season also saw their franchise value go up $174 million, or almost 17%, whereas the average team saw its value grow just under 15%. Meanwhile, the seemingly cash-rich Marlins’ value went up just 8%.
In most industries, the companies pulling in the profits are the ones with the highest valuations. But spending more on payroll and fielding winning teams has tremendous long-term effects for a team’s brand identity. This, in turn, raises expectations for future revenue numbers, causing the franchise value to grow.
So what is the real value of a postseason appearance? Since Financial World and Forbes started printing their annual estimates in 1990, teams that qualify for the playoffs have grown at an average of about 5.6% faster than teams who missed out. With the average team valued at $376 million in 2007, that 5.6% figure represents over $24 million.
Now it’s not quite that cut and dried. Each team is different, and certain circumstances can play in. Detroit hadn’t seen a playoff team in almost two decades, so when the Tigers reached the World Series, the team’s value skyrocketed 22%, from $292 to $357 million. When the Angels finally won their first championship in 2002, their value went up 15% (from $196 million to $225 million) in a year when the sport saw zero net growth.
It’s true, flags fly forever. But even more importantly, memories last a lifetime. Teams that win championships, or at least come close, are much more likely to endear themselves to their fans. This builds brand image and fan loyalty, making the franchise as a whole a more valuable entity.
Consider the Rangers’ situation. When the team signed A-Rod, coming off a decent run of success, the franchise was valued at $342 million, while the average team was valued at $263 million. Six years later, the Rangers have stagnated, growing just under 7% since, while the average team’s value has ballooned 64%.
On-field success is clearly the driving force. While there have been arguments made that no team outside of a mega-market can win with a $25 million per year player on the roster, that logic is dubious at best, asinine at worst. The Rangers certainlymis -speculated, but saying the deal could not have worked simply isn’t true. Had the Rangers been run competently during those years and produced a competitive team around A-Rod, they could have easily been one of the highest valued teams in the sport today.
Feedback? Write a comment, or e-mail the author at shawn(AT)squawkingbaseball.com
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