Why Steve Ballmer Overpaid for the L.A. Clippers
Before former Microsoft CEO's just-announced deal to purchase the Los Angeles Clippers, the previous record high price for an NBA team was the $550 million paid earlier this month for the Milwaukee Bucks.
The amount Ballmer is paying makes it look like former Bucks owner Herb Kohl had his pocket picked by new owners Wesley Edens and Marc Lasry. Yes, Milwaukee is the fifth smallest market in the NBA, but it's hard to imagine that being the second most important team in Los Angeles is actually worth nearly $1.5 billion more.
When the Bucks deal was announced in mid-April many thought Edens and Lasry were over-paying for the team. The annual Forbes list of NBA team values, which came out in January, had the franchise ranked as the least valuable in the league at $405 million. The Clippers ranked 13th on that list with an estimated value of $575 million. So the Bucks sold for a 135% premium while the Clippers commanded 375% of their estimated value.
That's a huge multiple, which could change how sports franchises are valued. Previously it was not uncommon for teams to sell for more than their estimated worth, but the Clippers deal suggests that major sports franchises are the new status symbol for billionaires. Making money off a team or even being able to sell it for more than you bought it is not the point. The Clippers now join a growing list of teams being bought as toys by owners rich enough to pay pretty much any price.
How did the price get this high?
Ballmer, who is worth an estimated $20 billion, certainly can afford to buy any toy he wants. He also has enough money to outbid himself for the team just to make sure Shelley Sterling -- who was negotiating the sale on behalf of her family in a very complicated arrangement that is likely to end up in court -- chose his bid.
Ballmer, who was rebuffed in a bid to buy the Sacramento Kings to relocate them to Seattle despite being the highest bidder, left little to chance this time. The other bidders for the Clippers included Los Angeles-based investors Tony Ressler and Bruce Karsh, and a group that included David Geffen and executives from the Guggenheim Group, the Chicago-based owner of the Los Angeles Dodgers. The Geffen group offered $1.6 billion and the Ressler-Karsh group $1.2 billion.
Ballmer's bid was clearly designed to blow the others out the water. Basketball teams rarely come up for sale and Ballmer likes basketball enough that it was worth not only paying more than three times the estimated value of the team, but bidding $400 million more than his closest competitor.
What should the Clippers sell for?
The Clippers are profitable but only mildly so. According to Forbes, the team has revenue of $128 million and player expenses of $80 million. Add in other operating costs (like coach Doc Rivers' $7 million a year deal) and the team has an operating profit of $15 million. In theory Ballmer -- likely a better executive than previous operating owner Donald Sterling -- can wring out some extra profits.
The opportunities to do that, however, are somewhat limited. The team has a long-term lease with the Staples Center that runs through the 2023-24 season. The biggest chance to increase revenue is likely through negotiating an extension of the team's local television deal. The current deal with Fox's (NASDAQ: FOX) Prime Ticket service pays around $25 million a year. That number could go much higher as the Los Angeles Lakers, which share the Staples Center with the Clippers, have a $3 billion, 20-year deal with Time Warner Cable (NYSE: TWC). That's an average of $150 million per season.
The Lakers, however, are the more established team drawing better television ratings despite being much worse on the court for the past two seasons. Last season, the Lakers averaged a 2.15 household rating, or 122,000 households per game. The Clippers only averaged a 1.25 rating or 71,000 households per game, The Los Angeles Times reported.
Still Ballmer can likely expect a bigger deal. The Times suggested a figure closer to the $65 million a year the Boston Celtics are getting from Comcast (NASDAQ: CMCSA) would be a reasonable guess. At that number the team would add $35 million a year in profit. Let's assume Ballmer's touch can eke out another $5 million and the Clippers would pull in an annual profit of $55 million a year. Under that scenario it will take Ballmer nearly 40 years to see a return on his investment.
It's not about money any more
Most NBA owners have been content to earn a small operating profit, scoring the real windfall when they sell their team. That is certainly the case for Donald Sterling who paid $12.5 million for the team in 1981.
It seems unlikely that Ballmer will see a similar 15,900% return on his investment when he ultimately sells. But it's clear that purchasing the Clippers is not a business decision, it's an emotional one by a man who has professed his love for the sport. Ballmer did not buy the Clippers so he could get even richer. He bought them because owning a basketball team is a more enjoyable way to spend his post-Microsoft days than playing a lot of golf.
This deal will likely set a precedent that makes the value of sports franchises more about how many billionaires want in than any financial metrics.
Will this stock be your next multi-bagger?
Give us five minutes and we'll show how you could own the best stock for 2014. Every year, The Motley Fool's chief investment officer hand-picks one stock with outstanding potential. But it's not just any run-of-the-mill company. It's a stock perfectly positioned to cash in on one of the upcoming year's most lucrative trends. Last year his pick skyrocketed 134%. And previous top picks have gained upwards of 908%, 1,252% and 1,303% over the subsequent years! Believe me, you don't want to miss what could be his biggest winner yet! Just click here to download your free copy of "The Motley Fool's Top Stock for 2014" today.
The article Why Steve Ballmer Overpaid for the L.A. Clippers originally appeared on Fool.com.Daniel Kline is long Microsoft. He is a Boston Celtics fan. The Motley Fool owns shares of Microsoft. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.
Copyright © 1995 - 2014 The Motley Fool, LLC. All rights reserved. The Motley Fool has a disclosure policy.