Would you be so kind as to provide some preferred stock with that deal?
With the King County Council poised to approve the arena deal and pass the ball to the Seattle City Council, I have been reflecting upon a case study about stadium financing that I learned while in graduate school. The bottom line: By socializing the costs of their infrastructure through low cost access to capital, professional sport franchises are able to sustain incredibly high operating costs–in the form of labor–that would be unsustainable in other businesses.
It’s just not that easy to pay your employees more than $5 million each–the NBA’s current average pay per player– or more per year without some creative financing on the capital and operating side. The philosophical framework of whether that makes any sense is for another day. In my view it’s inevitable at some point, in some scenario, in some structure and time, that this business model will come crashing down.
Here I’d like to merely articulate another view from my private sector background more than my official government role: The vast majority of the scrutiny of the deal has been on the ‘downside’ of the public tax dollar risk and mitigation efforts. I understand that concern and I share the sentiment since it’s a primary fiduciary obligation to protect taxpayers. On a sophisticated financial level, however, the nuance of what is missing from the proposal in my view is a more mature understanding or negotiating position of the ‘upside.’ That’s where our private sector partners on the other side of the table are actually focusing more of their strategic thinking, I suspect. That’s where the deal pencils for them and why the business plan is viable.
In effect, the city and county are so concerned–even frantically consumed– with the real and perceived downside that they are effectively leaving immense, untapped investment and financial value on the table.
In my professional business (day job), I lead business development for an early stage technology company. We have raised private equity capital from Europe to design, build and deploy our software products. Our shareholders have two types of equity: common and preferred stock. This is a standard operating procedure of equity investing.
In this deal, the public is investing a total dollar amount near, equal or more than any other single funder (I don’t know if this is true because we haven’t seen the financial) and yet we don’t have many of the traditional benefits of preferred investors in a major deal. Examples include: a position on the board of directors, veto rights over business location, interest income or dividends, a portion of equity in the asset that is the brand and business value, a small percentage of revenues from sale of TV, radio and media rights, ability to institute a small surcharge on admissions, the right to place a ‘call’ on investors’ requirement to invest additional resources into the team when losing games and attendance, and other random business ideas.
According to Forbes, 39 of the nation’s 122 professional teams lost money last year. Teams lose money because they lose games. Those that invest in winning games, win financially. We should have a seat at that table.
Our key mistake, it seems, isn’t that we might accept too much risk, but that we’ll fail to realize that the driver of the larger asset is also about a long-term increase in value.
Without equity of some fashion, we’re just living paycheck to paycheck. The money is made in the long-term value proposition of the investment growth of the asset, not in the sunk infrastructure.
Like any sophisticated and major investor in a deal ultimately worth billions, our focus should be on BOTH mitigating for financial risk, downside and failure, AND maximizing value for taxpayers and the community. From what I can tell from the outside, we are negotiating as if we have common stock in a deal where we should enjoy preferred terms and conditions. And yet, an even more skeptical argument suggests that we’re not even gaining the benefits of common stock. We are, in effect, doing the deal (i.e. reducing investors’ cost of capital and giving up the opportunity cost of bonding capacity) in exchange primarily for the intangible but meaningful value of ‘building community.’ That might be enough. That’s a legitimate judgement call.
But this is, unfortunately, the symbolic representation of why public private partnerships too often don’t go well for the public: We socialize the risk and costs and allow the market to realize the full benefits of the upside without aligning the long-term financial interests of ownership.
The public’s value in a stadium is usually driven by three metrics: 1) risk mitigation to avoid losing money through default on the bonds, 2) intangible value of community spirit, pride and engagement, 3) incremental revenues associated with some form of incremental taxes. The case study, I seem to recall, effectively discounted number 3 almost entirely because the revenues either pay off the bonds or disappear in increasing congestion, police, fire, EMS or other direct and indirect costs.
I know the Seattle City Council is aggressively exploring these and other questions. I ask my friends on the council to focus not only on the risk mitigation strategies, but on the value and upside as well to capture the full, long-term externalities of the deal.
I am not, by any stretch, suggesting full public ownership or even extreme or unreasonable investment demands that would crush the deal before it got off the white board. I am not even formally supporting or opposing the deal as it stands, I am merely pointing out that we should have a percentage of equity ownership in the overall asset–and other normal, traditional and common sense investment terms and conditions–that more intelligently and capably equals our substantial investment of public resources (opportunity cost of bonding authority–especially non essential bonding authority compared to paying for critical public infrastructure– is a public resource).
We deserve preferred not common stock in this deal. My gut check is that we’re leaving too much value on the table.
Key Arena is in my legislative district. I love taking my four kids to Seattle Storm games and I treasure the day the mighty Sonics return to Seattle. I think there is a win-win scenario to be realized that can accommodate the parties. I’d just like to ensure that the terms and conditions on the table are a bit less common and a bit more preferred.
Your partner in service,