Cash Flow

Hockey Fight

A brawl over accounting could give the National Hockey League a black eye.
Joseph McCaffertySeptember 29, 2004

The sports pages say that the ongoing dispute between players and owners in the National Hockey League, which threatens to put the 2004­2005 season on ice, is about the owners’ desire to install a salary cap. It’s really about accounting.

The owners contend that most of the league’s 30 teams incurred staggering losses last season, and that its poor financial health is getting worse. But the NHL Players’ Association claims the owners are hiding millions of dollars of hockey revenue in their other businesses, such as arenas and cable television networks. Teams are in better health than they let on, the union charges, and player salaries are actually in line with revenue growth at NHL clubs.

As long as the two sides disagree on what the bottom line looks like, negotiations about a salary cap will go nowhere. NHL commissioner Gary Bettman has indicated that when the collective-bargaining agreement expires on September 15, the league will lock out the players unless a new agreement is reached that includes some type of cap. But Ted Saskin, senior director of the NHL Players’ Association, says the union won’t even discuss a cap. “It’s not on the table. The owners are saying they need to be saved from themselves — that they will act irrationally if they don’t put [a salary cap] in place,” he says. “We don’t think it makes sense.”

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It’s common for labor and management to hold differing views of a company’s financial health during contract negotiations. General Motors Corp. and the United Auto Workers, for example, constantly bicker over how profitable the automaker really is. Labor disputes can even lead companies to profess extreme pessimism as they try to win concessions from unions. US Airways Group Inc., which recently reported a profit for the second quarter of 2004, was quick to point out that the airline expects future losses, and that another bankruptcy is a distinct possibility.

But large, publicly held airlines and auto companies release audited financial statements that are difficult to dispute. Most hockey teams — and most sports franchises, for that matter — are privately owned and are not compelled to release such documents. Teams that are owned by publicly held entities, such as The Walt Disney Co.’s Anaheim Mighty Ducks, are too small a part of their company’s overall operations to show up in segmented reporting. In other words, when teams say they are doing poorly, players are asked to take management’s word for it.

Each year, the NHL issues a Unified Report of Operations (URO) that includes aggregated revenues, costs, and — for the past few years — losses. But the players’ union dismisses those numbers as inaccurate and too derivative to verify independently. The players claim that teams manage sales figures down and don’t use uniform methods to account for varying types of revenue. “They offer selective disclosure,” says Saskin. “If they want to claim poverty, they should open up the books and give full disclosure.”

Levitt’s Opinion

Last year, the owners did what they thought was the next best thing: they hired Arthur Levitt, the respected former chairman of the Securities and Exchange Commission, to conduct an in-depth analysis of the NHL’s finances and report on his findings. The NHL insisted Levitt’s findings could be trusted by player representatives and, perhaps more important, hockey fans. “He’s unimpeachable,” says Rodney Fort, a sports-business expert and professor of economics at Washington State University. “His integrity is unquestionable.”

Sure enough, Levitt’s findings were not good. Nineteen of 30 teams reported losses for the 2002-03 season. Combined, NHL clubs lost $273 million, Levitt found, confirming what the league reported in its URO. Moreover, player salaries ate up 75 percent of a team’s revenues on average — by far the highest in major professional sports. (By comparison, players get roughly 64 percent of revenues in the National Football League.) “I don’t know of any business that could continue to operate and pay that much out in salaries,” says Levitt. “It’s a terrible business. I would never invest in it.”

The report was just what the owners had hoped for — Exhibit A for the argument that a cap was needed to curb out-of-control player salaries. “It couldn’t have been better if Jesus himself walked out of the mist and said, ‘Hockey’s in trouble,’” says Fort.

Yet the players’ union, and plenty of sports experts, didn’t have much faith in Levitt’s numbers. They argued that he could report only what the individual teams gave him. In other words, says the union’s Saskin, “Garbage in, garbage out.”

“The truth is that we still don’t have an accurate picture of the league’s finances,” agrees Fort. Most likely, he says, teams gave Levitt only the data that would back up their argument that they are losing money. Critics complained, too, that the report didn’t contain any detailed information on individual teams. “The results can’t be verified independently,” maintains Fort.

Indeed, the union goes as far as to say that the results are just bogus. They also disagree with the estimation that players get 75 percent of all hockey revenue. “It’s a contrived percentage that is not fully reflective of what hockey is really making,” claims Saskin.

But Levitt, who knows a thing or two about fraudulent reporting, counters that he went well beyond what the teams showed him. He visited team offices and asked tough questions about their related businesses. And, he says, he used the most conservative definitions that would maximize hockey-related revenue. “The deal was that the clubs would give us access to everything we asked for, on the condition that we didn’t reveal the names of the clubs, for competitive reasons,” he explains.

On Thin Ice

The credibility of the Levitt report aside, it’s clear that the NHL is in precarious financial condition. Last year, two teams, the Ottawa Senators and the Buffalo Sabres, were forced into bankruptcy. In 1999, the Pittsburgh Penguins declared bankruptcy.

Independent sources confirm that the league is losing money. Andrew Zimbalist, a sports economist at Smith College, thinks the NHL is in bad shape (although he too doesn’t put much stock in the details of the Levitt report). Zimbalist estimates that the league’s collective losses for the 2002-03 season, properly adjusted for related-party transactions and other factors, were in the neighborhood of $150 million to $175 million. “Clearly, the economic model isn’t working,” he says. An independent report by Forbes magazine, which analyzes the value of sports teams each year, puts the losses for the same season at $119 million.

Even this year’s Stanley Cup winner, the Tampa Bay Lightning, says it was barely profitable. The team just pushed into the black for the first time in its 12-year existence, says John O’Reilly, CFO of Palace Sports Entertainment, the holding company that owns the Lightning. Still, “you can’t build a business based on winning the Stanley Cup every year,” he says.

It’s hard to argue that player salaries aren’t at least partially to blame for the estimated losses. From 1996 to 2003, the average salary nearly doubled, from $984,500 to $1.8 million. O’Reilly, who also has a view into the finances of the Detroit Pistons basketball team — held by Palace Sports as well — says that player salaries in basketball are, on average, in the low 60s as a percentage of revenue. “That 10 to 15 point difference [compared with the NHL] makes a huge impact on how successful the teams are financially,” says O’Reilly.

Unlike other professional sports leagues, the NHL can’t count on big network-television contracts to offset rising salaries. “It appears that network TV has maxed out as far as being a vehicle for growth,” says Sandy Lipstein, CFO of Comcast Spectacor, which owns the Philadelphia Flyers. ABC dropped hockey after ratings for the past regular season and Stanley Cup finals dipped more than 20 percent from 1999-2000 levels. The league just signed a new TV contract, with NBC, but the new deal is about 50 percent of the one at ABC, notes Lipstein. The NBC deal doesn’t include any royalties — just an agreement to share advertising revenues.

Bad Timing

A compromise could be the only way to save hockey this year. Patrick Rishe, a professor of economics at Webster University who focuses on the business of sports, calls for the NHL to adopt team revenue sharing and a luxury tax (like the one Major League Baseball adopted last year, but with more teeth). Under a luxury-tax system, teams that spend over a certain total salary threshold must pay a fixed percentage of that premium to the league, which is then distributed to the teams with the lowest revenues. “The sport with the worst revenue-generating ability has no cost-containment system,” comments Rishe. “That doesn’t seem right.” The NHL Players’ Association has indicated that it could be open to a luxury tax.

But after negotiations broke off in July without much progress, and as the September 15 deadline approaches, the two sides seem no closer to reaching an agreement. Commissioner Bettman implies that the league wants to cap team payrolls at $31 million. That would amount to a 25 percent across-the-board cut in salaries from the current team average of $41 million. Players accuse the league of being unwilling to compromise. A lockout is likely, and the entire 2004-05 season may be in jeopardy.

The timing couldn’t be worse. Slumping fan support and sagging TV ratings have already cut into revenues. Many experts say the NHL may not be able to survive a protracted lockout. Fans would rather see the two sides talking about rule changes to make the sport more exciting than watch rich people squabbling over money. When a strike cut Major League Baseball’s season short without a World Series in 1994, baseball lost millions of fans. Ultimately they came back — but not until the 1998 season, when Mark McGwire and Sammy Sosa were vying to break the home-run record. The NHL can’t count on such a draw.

In the meantime, some hockey players are making other arrangements for the season. One, Joe Thornton, a star for the Boston Bruins, signed a conditional contract to play with the HC Davos team of the Swiss Elite League — for a fraction of what he would get in the NHL.

Other players say they will consider playing in the World Hockey Association if they are locked out. The WHA, which provided an alternative to the NHL from 1972 to 1979, is making a comeback this year. It will begin play on October 29, in anywhere from 8 to 12 cities. However, NHL defectors may have to check their principles at the door: the WHA has a $15 million salary cap.

Joseph McCafferty is news editor of CFO.

The Red or the Black?

The Philadelphia Flyers wear orange and black on the ice. But financially, are they in the red or the black? Apparently, it depends on whom you ask.

In May, three months after former SEC chairman Arthur Levitt’s report on league finances was issued, Ed Snider, chairman of the Flyers, told reporters that the team was 1 of the 19 that were losing money — despite having one of the highest attendance records in the league and making it to the playoffs in the 2002-03 season. At the same time, team president Ron Ryan told reporters that the Flyers were not one of the teams losing money. His explanation did little to clear up the contradiction: “Where it becomes confusing is that it sounds like there are two sets of books,” Ryan told the Philadelphia Inquirer in May. “The difference is that the report we make to the league, as directed by the [NHL] Players’ Association, is different from our own internal audited statement, which we view as the more accurate statement. So we were talking about two different reports,” he said. Ryan’s explanation seems to indicate that the team considers its own financial statements to be more accurate than those reported to the league and then to Levitt.

Sandy Lipstein, CFO of Comcast Spectacor, owner of the Flyers, says the team also lost money during the 2003­04 season, despite playing nine home games in the playoffs and ending up just one game shy of going to the Stanley Cup. “Player payroll was way too high,” says Lipstein. The Flyers paid out more than $68 million in player salaries last season, the fourth-highest payroll in the league. Lipstein says the difficulty the Flyers have had making money — even when many games were sold out — indicates that something is wrong with the business model. “I don’t think the current system works,” he says.

The Players’ Association, however, says the system is fine, but the team is hiding revenue. “For someone to say that the Flyers lose money is ludicrous,” says Ted Saskin, senior director of the Players’ Association. One major dispute concerns the accounting for luxury-box revenue. Comcast Spectacor also owns the Philadelphia 76ers basketball team; the Wachovia Center, where both teams play; and Comcast SportsNet, which televises Flyers and Sixers games locally. The company leases luxury boxes that are available to the occupant for any Wachovia event, including concerts. How those revenues are then attributed to the different teams and the arena itself (which opened in 1996 and was built with mostly private financing) is debatable. The same goes for concessions, parking revenue, and advertising on arena signage. —J.McC.

The Haves and the Have-nots
Top- and bottom-five NHL teams based on revenue for the 2002-03 season (in $ millions).
Top 5 Revenue Total Player Salaries
New York Rangers $113 $76
Dallas Stars 108 62
Toronto Maple Leafs 105 55
Philadelphia Flyers 101 65
Detroit Red Wings 89 68
Bottom 5
Phoenix Coyotes $43 $36
Nashville Predators 46 24
Edmonton Oilers 48 28
Buffalo Sabres 50 28
Calgary Flames 51 32
Sources: USA Today (salary information), Forbes magazine (revenue)

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