(This article is Part 3 of my series on the Pac 12, including whether they should have brought on a strategic partner in 2012:
When Athletic Director U reached out a couple months back, I knew I wanted to collaborate with them on an article. Live sports will be a key component of future digital video bundles, and they currently prop up MVPD bundles. And I love UCLA and college basketball/football. So that’s a no brainer on my end.
I don’t know if Athletic Director U knew what they were in for. When I finally sent in my finished piece, it had exploded to 3,000 words. It’s like a New Yorker article, destined to sit in an unread pile for being too long. (So we split it into two.)
I went deep into the Pac 12’s finances so, of course, I had extra ideas. Those ideas would have interrupted the flow I had and since I was long already, many of those thoughts ended up on the cutting room floor. So here they are, including additional homework assignments for myself (and hopefully follow-ups to Athletic Director’s U). Today is thoughts about the model and what I learned; tomorrow is an opinion article with my advice for the Pac 12 CEO Board, from a business perspective.
The Missing Piece: Bottom’s Up Analysis
My initial “concept of the operation” to value the Pac 12 was to roll out a back of the envelope, top down and bottom’s up look. Like most plans, it didn’t survive first contact with the enemy, which in this case was a lack of data. Here’s my half-built bottom’s up model:
It was still useful to build, even without the data, because I got a great sense of the drivers of the Pac 12 Network, and what I did and didn’t know. Still, a model with that many guesses instead of estimates would have misled more than it educated. How much does it cost to run the Pac 12? In what areas? How much do they make on advertising? I just don’t know.
Though, if I can ever get my hands on Pac 12 financials…
One of the great things about building a model is, if you do it right, it can be very easy to update the model with a few inputs or tweaks and you can get a new output. And a few jump out that I absolutely want to build:
The $750 Million Equity Sale for 10%
I conveniently used $750 million valuation as the middle case in 2025, because that’s the number currently being trial ballooned by the Pac 12. (And it’s about one-third higher than the amount initially expected.) The key difference is this $750 comes a few years earlier than the 2024 “all distribution deals expire” scenario. Being 5 to 6 years earlier means the Pac 12 gets to keep more of the cash in a “time value of money” sense. So an equity sale could change the model.
But not quite so fast. As hinted in today’s column by Jon Wilner, an equity sale isn’t a long term solution. If you get money up front now, presumably your equity partners gets paid later. (Otherwise, how do the bankers make their money back?) This would mean estimating how much distribution the partner gets starting in 2025. It’s really a trade off of cash flows. It isn’t about generating more revenue or cutting costs, but timeshiftimg your flow of cash. (More on this tomorrow.)
The ESPN Extension
This is an intriguing deal too. As reported by the Sports Business Journal and confirmed by Jon Wilner, instead of getting $750 million in equity sales, the Pac 12 could have extended their deal with ESPN to 2030, and ESPN would have taken over distribution (with a split of revenue, presumably) of the Pac 12 Networks. The Pac 12 passed on this deal and my gut is that makes sense, but I could still run the numbers on it to prove it.
A Higher Cost of Capital
Sensitivity analysis is the name of the game here. Basically, you test your model on various inputs to see how much it changes. I sort of already did that with the low, medium and high revenue loss scenarios. But the other big input is the “cost of capital” which is how much the Pac 12 would lose or gain depending on how much return it expects on its capital. As you’ll recall, the current WACC is 9.4% for entertainment, but I used a lower 8%. That was generous to the Pac 12.
It would actually be really easy to plug in the 9.4% number and show you the difference.
You want me to do it right now? But I’m busy. I’d have to open up the model.
Really? Fine. Here you go.
So at the top end, it’s $60 million-ish in additional revenue to make up over the life of the deal. Which sounds small. But to make up that lost revenue means a deal that is larger by $600 million or so, in 2012 dollars. (That’s what the cut would have been to a partner in 2025.) That’s again something over $1.3 billion in 2025 dollars. So it adds up, but doesn’t crush the model.
The Range is Huge
If I wanted to drive better click bait—engagement! Right?—I would have been smarter with my final headline. Instead of giving a tremendous range ($267-869 million in lost potential revenue), and huge media rights needed ($6-12 billion for the middle range; at the high end you can’t make it up), I would have picked one number in the middle and put it in the headline.
But I can’t do that. There are so many uncertainties here. First, I have to estimate how much the Pac 12 lost in potential revenue, which is a judgement call of a hypothetical. That’s tough. I can’t tell you for sure that if the Pac 12 had signed on with ESPN they would have made $10 million extra per school per year. I just don’t know that. Maybe ESPN would have taken a huge cut and even with ESPN’s push, the lack of geographic footprint would have always meant the Pac 12’s ceiling is lower than the SEC’s ceiling. (A point which is true.) So maybe $10 million in extra revenue per school wouldn’t have happened.
So I gave you—finger’s crossed the you includes at least some Pac 12 Chancellors and Presidents—the range. That range is still useful. It gives at the least a scope of the problem facing the Pac 12 that hand waving about 100% of ownership doesn’t give you.
Biggest Unknown – The Value of Future Media Rights
I definitely punted on valuing media rights. How big are the media deals of 2021-2025 going to be? Huge? Astronomical? Or just larger, but not phenomenally so? God forbid…smaller?
If estimating a hypothetical is tough, but doable, forecasting the future is downright impossible. (Though many media and sports observers are excellent at it based on the confidence of their tweets.)
To split the difference, I just gave a scope of what the media rights deals would need to look like, an approximate a “breakeven”. I left the judgement of those breakeven values up to you.
But here is the good news: I think this is a really fun topic. And if I were presenting a business model to an investor or CEO, I’d absolutely figure out a better data set around media values and their trend lines to get a better estimate for what the value of future media rights deals could look like.
So that’s my homework assignment.
Strategy Thoughts – I have a ton more questions
I definitely know more about the Pac 12 than before I started, but I’ll be honest: diving this deep into the Pac 12 left me with more questions than I started. As a case study, the Pac 12 is more interesting than its peer conferences, except for maybe the Big 12. (The last one without a network, though the University of Texas has their own channel.) I may explore these ideas on my site, but here are my biggest “strategy” questions I’d love to put into context in future articles:
– If the Pac 12 is a “technology” company—otherwise, why is it in San Francisco?—why don’t they have their own OTT platform? I know, they have an app, but not the full OTT infrastructure. Why not own your own OTT and get all that customer data and be better positioned for 2025? How should they position themselves?
– Was the Comcast offer in 2012 (at $225 million per year for tier 1 and 2 rights) actually better for the Pac 12? Would Comcast have made more sense as a channel distributor?
– Is the Pac 12 considering the “right” partners now? How does private equity investment drive revenue growth? How does Tencent or Alibaba drive growth?
– Would Amazon, Apple, Hulu or Google make sense as a strategic partner? Or will they insist on exclusivity which limits exposure in the long run?
– There have been hints the Pac 12 wants to buy other media rights. With what money? And does that even make sense?
Conclusion – Please reach out if you have questions (or share on social)
As always, if you’re interested in this topic or have more questions, feel free to reach out. (Especially people in the athletic departments around the country/world or the professors in academia.)This is both one of the more complicated business issues out there, but also one of the most fun. And I’m willing to help out and answer questions as needed.
(Also, this has been a passion project so if you haven’t yet, consider following on Twitter and especially Linked-In. The latter is the “business” social platform and I’m trying to build my presence over there.)