Behind the NFL Lockout: A worthy read that puts the owners and NFL in a bad light

[bassrique]

While one could argue that the players are overpaid, I approach this from a fan's perspective. The players would like to keep the status quo [and play next season], while the owners are ditching the last collective bargaining agreement early to squeeze the union several ways [and scuttle the 2011 season].

This essay comes from the perspective of an economist that's not fond of the NFL cartel. This is worth your time if you are a pro football fan. It made me re-think some of my opinions on the subject.

Over the past 90 years, the National Football League has outgrown its roots as a collection of under-financed midwestern teams and is now the single most popular ongoing entertainment enterprise in the US. This year the NFL recorded some of its highest television ratings ever. Beyond the league’s 32 franchises there are a host of subsidiary enterprises, including an all-NFL cable network, sports-talk radio, fantasy football and gambling (much of it “illegal”), merchandising, and so on. If you ask the typical NFL sycophant, the league’s success will last forever — nothing will ever bring down Lord Football!

Except, of course, the people who actually run the NFL. Which is why we’re less than a month from a league-imposed “lockout” that could conceivably deprive millions of their entitlement to football come the fall of 2011. Wait, what?

How can a business be so popular — and profitable — yet prepare for such a self-destructive act. Unlike most labor showdowns, this isn’t the product of political rabble-rousing by the workers. The NFL Players Association, the union, was content with the collective bargaining agreement they signed with league owners in 2006. It was the owners who not only terminated that agreement early — they are now demanding radical changes to the present labor system.

One major rallying cry is the lack of a so-called “rookie wage scale.” The NFL likes price controls. Check that — the NFL loves price controls. The owners prefer to restrict the mobility of its workforce as much as possible. In and of itself, this is not morally objectionable or contrary to free-market principles. All employers have budgets for their businesses. And a sports league is almost by necessity a cartel in that it represents a partial “merger” of firms with respect to certain aspects of their common business.

The problem here is that the “rookie wage scale” smells an awful lot like red herring. Superficially, it sounds weird that the NFL would grind a multi-billion dollar industry to a halt over the lack of wage controls for a handful of entry-level employees. Yet the NFL has gone out of its way to sound the alarm bells. Last month Green Bay Packers President Mark Murphy wrote a panicky editorial in the Washington Post lamenting the plight of the poor owners:

The purpose of Murphy’s article was to focus press and public anger against the players. Indeed, the NFL’s entire public-relations strategy during the present labor negotiations has been almost Marxist: Generate middle-class resentment against players who earn exorbitant salaries to play a mere game.

What Murphy neglected to mention was that in the same year that those 256 rookies earned $585 million in guaranteed compensation, the NFL owners cleared a profit of over $1 billion. In fact, the NFL’s profitability isn’t tied to labor costs at all — but more on that later.

Even under the current agreement, there are limits on overall rookie compensation. The expiring CBA provides for complex formulae used to limit how much rookies receive. Murphy and his bosses want to go a step further and literally dictate what every player makes before they enter the league. This is what the NBA actually does: set maximum salaries based on the point where a player is selected in the rookie draft. As Murphy admitted, the goal is “eliminating individual negotiations” with players and their agents — whom Murphy also paints as part of the problem.

All this begs the question of how the league got itself to this point. Let’s take one of the players on that Sports Illustrated list Murphy referred to. Matthew Stafford, the Detroit Lions quarterback, signed a rookie contract in 2009 that guaranteed him just under $27 million in signing bonuses and base salary. Murphy says this is outrageous — Stafford hadn’t even proved himself on the field before getting such an enormous paycheck.

But who is responsible for this? Um, the NFL owners, that’s who. The union didn’t put a gun to Detroit’s head and make them pay Stafford $27 million. To the contrary, the NFL insisted on a labor system that produced this outcome. Now they’re trying to blame everyone but themselves.

As noted above, NFL owners want to avoid player “free agency” at all costs. Murphy’s actually on the money when he says “no other business operates this way” when it comes to new hires. No other business would get together with its competitors and allocate the most promising talent to the worst performing firms. You know how the Lions came to sign Stafford to a $27 million contract? Because the team lost every single game the previous season.

The NFL Draft goes in inverse order of team performance so that the worst teams always pick first. Once a club “drafts” a player, no other club may negotiate a contract with that player. If the player refuses to sign with the club that drafted him, he must wait a year and is subject to being “drafted” a second time.

What this does is create a monopoly on both sides of the equation. The Lions draft Stafford. Stafford is stuck in that he can’t sign with any other NFL team, but the Lions are also stuck in that they can’t go back and take the next-best-available player. So that’s one reason you end up with seemingly large rookie contracts.

Another factor — which you don’t see in most other businesses — is that these so-called entry-level workers are in fact known commodities long before they sign their first NFL contract. There’s an entire sub-industry built around the NFL Draft. Starting with heavily marketed college games and extending to pre-draft activities like the NFL Scouting Combine, and culminating in the television Draft itself, rookie players are subject to a level of hype that has no real non-sports equivalent. All of this is reflected in the value of the top rookie contracts.

If the NFL wanted to reduce incoming player costs without resorting to the blunt instrument of wage scales — a system more common to a government teacher’s union than a robust free-market enterprise — the league could simply switch to a less hype-driven system. Sure, there’s nothing the NFL can do about college football. But instead of a televised Draft, why not simply hold a closed-door silent auction where each team could submit bids for the players it wants? This would fulfill the NFL’s stated goal of eliminating agents and protracted “holdouts” from the process, while ensuring a more rational allocation of incoming players.

But the NFL would never do such a thing for two reasons. One, the league won’t give up the hype. Just this year the league expanded the Draft to three days and aired the first round on Thursday night in primetime for the express purpose of increasing hype.

The second reason is that any deviation from the present system is declared a threat to “competitive balance.” In fact, when the union proposed to accept a rookie wage scale in exchange for allowing players to become unrestricted free agents after three seasons, the owners rejected in out of hand — because allowing free agency that quickly would destroy their vaunted “competitive balance.”

So what of this? Is “competitive balance” essential to the NFL’s success? Most people are conditioned to uncritically accept this as truth. I don’t. In one sense, competitive balance is a mirage: as a commenter to one of my prior posts noted, there are 256 regular season games in the NFL each season, which means no matter what you do the combined record of all teams is 256-256 (barring ties). Everything naturally pulls you towards the median.

There’s an easy way to demonstrate this. I examined the starting orders for the past ten NFL drafts (2001–2010). I noted the teams with the first ten selections in each Draft (excluding trades); this reflects the ten worst-performing teams from previous season. This essentially produces a table of the bottom-third of the NFL from each of the past ten years.

In theory, perfect “competitive balance” would mean each team appears in the top ten about three times. Of course, that’s not what I found. It turned out that the results produced a near-perfect bell curve: Eight of the 32 NFL teams had a top-ten position three times, 12 had it more than three times, and 12 had it less than three.

The aforementioned Lions were the worst overall performer, holding a top-ten Draft position in 8 of 10 years. This provides further insight into Matthew Stanford’s sizable contract. He was going to a team with a history of poor management and poor on-field performance. The Lions were desperate for a star quarterback to rebuild the team around.

From his perspective, Stafford was taking an enormous risk playing for a team that would almost certainly continue to be bad (the Lions are 8-24 since drafting him) at a difficult position that tends to produce just as many failures as successes. Add to that the average NFL career is about four seasons, and suddenly you realize that Mark Murphy’s protests notwithstanding, players like Stafford are far from typical “entry-level hires.”

Ultimately, the comparatively high salaries for top rookies reflects the price of the NFL’s decision to subsidize poorly managed franchises in perpetuity. It has nothing to do with unscrupulous agents or a union unwilling to impose more bureaucracy on its members. It’s about the league failing to remove ownership groups with a demonstrated record of incompetence. All the talk of a rookie wage scale and overpaid players is just an attempt to create a scapegoat.

If you look at the distribution of top-ten orders that I mentioned above, you’ll actually find that many of the teams on the low end of the distribution — the teams one or no top-ten draft positions in the previous decade — actually made a higher-than-average number of overall draft selections. Teams like New England (1 top-ten appearance) and Philadelphia (0) routinely acquire multiple additional picks from other teams through trades. That reflects smart management practices. If “competitive balance” was really the NFL’s top concern, it would ban such “unscrupulous” attempts to game the system.

For that matter, if allocating top player talent through an inverse-order Draft is really so effective, then why not apply the same principles to coaches, general managers, and other executive talent? Why should a hot, up-and-coming coach be allowed to auction his services off to the highest bidder? After all, a coach often has more direct impact on a team’s competitiveness than a single player taken in a Draft, even a quarterback in most cases. Shouldn’t the Detroit Lions of the world be given the same exclusive right to monopolize the services of a potentially great coach as it would a player?

Of course, the players, coaches, and general managers are the real entrepreneurs of professional football. The owners — and their handpicked commissioner — are mostly just bureaucrats. They contribute little to the creation of the actual product or customer value. Yet they hold the political reins of the entire operation. That will be the subject of another post later this week.

Behind the Lockout, Part I

Part II coming up...

[bassrique]

In April 2009 NFL Commissioner Roger Goodell made the defining statement of his five-year tenure: “We have not found a saturation point for pro football, which is a good thing. I don’t want to be around if we do.” Gregg Easterbrook, the pseudo-intellectual ESPN.com writer, replied at the time with some uncommon wisdom:

Notice the key words used by each man. Easterbrook spoke of the NFL being “profitable”; Goodell spoke of “saturation.” This is the key to understanding the current labor dispute between the league’s franchise operators and its players union.

The NFL encapsulates, perhaps better than any other single business entity, the popular conceptions — and misconceptions — about capitalism and the nature of markets. The league is the epitome of statist “crony” capitalism. Its franchise operators demand huge government subsidies for stadiums while jealously guarding its prerogatives as a “private” business. Governments (and their media enablers) largely go along with this because they’ve been led to believe the NFL’s popularity is so immense that no respectable city can go without a franchise.

Professional football is the ethanol of the entertainment industry. Since 1990, nearly every NFL franchise has either opened a new stadium, made substantial renovations to existing stadiums, or is currently in the process of obtaining a new stadium. Over this 20-year period the league’s franchises obtained over $7 billion in taxpayer subsidies raging from direct taxes to publicly backed bonds. Ten stadiums are 100% government-financed, while another 19 are at least 75% government-financed. Every single franchise receives some amount of government subsidies.

Welcome to Jerry World

This year’s Super Bowl is most notable for its location, Cowboys Stadium, a $1.3 billion facility opened in 2009. Dallas Cowboys owner Jerry Jones built the stadium with “help” from $325 million in taxpayer funds from the Dallas suburb of Arlington. It is the largest domed stadium in the world and may hold as many as 111,000 people for Sunday’s Super Bowl.

Mark Thornton of the Mises Institute wrote a few years ago about the “skyscraper index,” a correlation first studied by economist Andrew Lawrence, which purports to connect downturns in the business cycle with the construction of the world’s largest skyscraper. Thornton did not suggest the “skyscraper index” was an infallible predictor of economic downturns, but there was ample empirical evidence to suggest “the cause of skyscrapers reaching new heights and severe business cycles are related to instability in debt financing and that the institutions that regulate debt financing should be reevaluated, if not replaced with more efficient and stabilizing institutions.”

Cowboys Stadium may prove to be the NFL’s version of the Chrysler Building, where the groundbreaking occurred a month before the stock market crash of 1929. By most accounts “Jerry World” is the most opulent, luxurious stadium ever built for an NFL team. Not surprisingly, it is also a debt-ridden project that exists only because Jerry Jones had easy access to a government-backed credit card.

The question is: Why did Jerry build it? Indeed, what drove this rapid buildup of football stadiums over the past two decades?

Television to the Rescue

The NFL is really two distinct products. There’s the in-stadium product represented by Jerry World and its taxpayer-financed brethren. And then there’s the way most people consume football, the television product produced by the major broadcast networks and ESPN. NFL-TV is a great product whose popularity remains high. NFL-Stadium is struggling to pay the mortgage.

Originally, of course, the NFL was purely a stadium product that relied on ticket sales and concessions. Television was viewed with skepticism and hostility in the early days, to the point where the NFL of the 1950s banned all telecasts of a team’s home games for fear of cannibalizing live attendance. A few decades later, television has proven to be the lifeblood of NFL expansion.

The stadium boom that started in the 1990s was not inevitable. In the late 1980s there were many NFL observers who saw the Roman Empire in decline. The league suffered two major labor strikes and courtroom defeats in antitrust litigation brought by Raiders owner Al Davis and the defunct United States Football League. One contemporary book I reviewed postulated the NFL was in its declining years because the television network money would start to dry up; the existing networks wouldn’t continually increase their payments for a stagnant product.

What this author couldn’t account for at the time was a little something called the Fox Network. In 1993, the still-fledgling network paid a premium to wrest away half of the NFL’s Sunday afternoon contract from rival CBS. It was a loss leader for Fox, whose immediate goal was not to profit from football, but provide an attractive carrot for independent CBS stations to switch their affiliation to Fox. And it worked.

This, along with the rapid growth of ESPN in the 1990s, created a rising tide that lifted the NFL’s ship — not the other way around. The NFL took advantage of the more competitive television market by undertaking a questionable round of expansion. In 1993, the NFL announced new teams for Charlotte and Jacksonville. The latter was particularly dubious. Jacksonville’s selection had little to do with the merits of the city as a viable NFL market (it’s currently the 49th largest television market) and more to do with then-Commissioner Paul Tagliabue’s desire to bring Wayne Weaver, the head of the Jacksonville group, into the league as an owner.

As the credit-fueled booms of the 1990s and 2000s came and went the NFL brought in new owners. In 1999 the Washington Redskins sold for a record $800 million to Daniel M. Snyder. Snyder assumed $155 million in debt on the Redskins stadium, which was built two years earlier, and obtained an additional $340 million in credit to finance the overall purchase.

Of note is Snyder’s background. He rose to wealth and prominence as the CEO of Snyder Communications, a marketing company that rode the 1990s credit booms as well as any. The company used its successful IPO — and boom-inflated share prices — to acquire a host of smaller companies through stock swaps. Snyder was lucky enough to cash out of the market in early 2000 and acquire the Redskins when he did.

He wasn’t the only one. In 2002 the NFL awarded an expansion team to Houston’s Bob McNair, who in 1999 sold swapped his company for Enron stock and promptly cashed out to the tune of $1.5 billion, which helped finance the $700 million “expansion fee” he offered to the NFL owners just to get a seat at their table. And of course, McNair built a shiny, new $449 million stadium — with 57% government financing — to house his new toy.

The NFL doesn’t just insist on majority-government financing for its stadiums; it demands the beneficiaries of these stadiums are primarily wealthy individuals. The NFL bans corporate ownership (with one exception). The NFL Constitution limits the number of members of a franchise ownership and requires the controlling partner own at least 30%. The league also bans most cross-ownership of football and other types of sports franchises.

What this means is NFL teams can’t rely on one of the most common form of financing large capital projects like stadium construction — public offerings of stock. The NFL simply forbids it. The exception is, coincidentally, one of this year’s Super Bowl participants, the Green Bay Packers. In the 1920s the Packers were organized as a non-profit stock company that sold shares over the years to help finance the club (although the Packers also receive taxpayer funding). Today there are about 112,000 shareholders, although they earn no dividends and any profits are put back into the team or its charitable foundation.

Stock companies, of course, would mean a loss of control for 32 oligarchs who currently run the NFL as “owners,” although in reality most of them own little more then massive debts. A free market in NFL ownership would open up poorly managed franchises to “hostile” takeovers. In the current system, however, incompetent ownership can persist for decades without consequence — the taxpayers will usually make up for it with additional funds.

The only real asset most NFL teams have is their 1/32nd share of the league’s massive television contracts — the rights fees paid by the four major networks to broadcast games. As long as this revenue stream holds steady, it almost doesn’t matter what the franchise operators do. The broadcasters have proven time and again to be innovative and entrepreneurial, qualities the majority of NFL “owners” lack.

Bureaucracy and IP: Partners in Freedom

The NFL’s massive popularity is also a testament to other outside, non-ownership forces, such as sports-talk radio, the Internet, gambling, and gaming. Once again, the 1990s proved to be unintentionally beneficial to the NFL, as “fantasy football” began to spread, first through individual grassroots leagues, and then through the Internet into a standalone industry. The NFL’s leadership couldn’t plan this. Customers simply found a new way to enjoy the game.

Gambling certainly has been synonymous with professional sports for over a century. Like most leagues, the NFL officially opposes all “legal” gambling on its product. Ostensibly there’s a fear of gamblers corrupting the integrity of the game. While that’s a slight risk — whether or not gambling is approved by the state *— the real issue is that the NFL opposes any revenue stream it cannot directly control. For example, NFL teams routinely sponsor state lottery games, while simultaneously lobbying legislatures (and courts) to oppose the de-criminalization of other forms of sports wagering.

There is, in fact, a strong “intellectual property” mentality throughout the NFL. Literally this is reflected in the league’s fanatical prosecution of its trademarks and copyrights. But on another level, there’s a belief in “The Shield,” the image of a league that must be protected at all costs from any hint of negative press.

When Roger Goodell became commissioner, he took this idea to laughable excess. No longer content to enforce the league’s on-field rules, Goodell anointed himself a crusader against all perceived wrongs. He routinely suspends players for off-field incidents – even mere allegations — that have nothing to do with the actual game of professional football. His rationale is that any action by an NFL player that may reflect poorly on him also hurts the league somehow. (Of course, that doesn’t apply to Goodell’s employers, the franchise operators, who are free to be sleazy, racist, and dishonest businessmen, e.g. Daniel Snyder).

Then again, as a lifelong NFL bureaucrat, Goodell is simply extending the league’s on-field thinking to off-field situations. The NFL product is increasingly bureaucratic and not very “consumer friendly.” The league obsesses over trivial matters — fining players $5,000 for wearing the wrong socks, banning all truthful criticism of officiating mistakes, changing rules on the fly in the middle of the season — to the point where we’re no longer talking about private businessmen but quasi-governmental officials. Indeed, what private business outside of professional sports has a “Commissioner”?

Not that any of this is surprising. When the majority of league stadiums are government finances, that mentality seeps into the league’s operations. When you attempt to circumvent the laws of economics by continually subsidizing poor management, what you’re left with is a even poorer management.

A Labor Drama in One Sentence

I began this piece by mentioning the ongoing NFL-NFLPA dispute, yet I have yet to mention anything having to do with the union or labor agreements. Well it’s simple really: The owners overspent on unnecessary stadiums, and now they want the players to work more for less pay to help pay down the debt. That’s your entire labor dispute in one sentence. The league expects — nay, demand — the NFLPA to act like a local government in a stadium dispute and simply give the franchise operators what they want for little or nothing in return. Maintaining the “owners’” social standing is of paramount importance.

Of secondary importance is the “saturation” that Roger Goodell spoke of two years ago. The franchise operators don’t just want to maintain their status quo, they want to maintain the illusion that their product has inelastic demand and they can continue consuming at will from local governments, fans, television networks, etc. This isn’t about maximizing profit. It’s about maximizing consumption for the sake of consumption. That’s why places like “Jerry World” exist, not to satisfy customers but to satisfy the egotistical lunatic who manipulated easy credit.

I suspect most NFL fans were more satisfied in the “old days” of 20-or-so years ago, when stadiums were smaller, more centrally located, and the emphasis was on the field and not on secondary marketing. And obviously the price was a lot lower. But today’s NFL is about the debt-manufacturing bureaucrats, not the customers.

Indeed, Goodell’s “saturation” remark was a harbinger of what has become the public centerpiece of the current labor battle: the franchise operator’s proposal to expand the number of regular season games from 16 to 18. Goodell and company spin this as a mere adjustment to the present “20-game schedule” where currently four games are “preseason” exhibitions. Why not simply “convert” two preseason games into regular season games? The union, quite reasonably, notes that the added stress of two more “real” games will increase the number of player injuries and decrease the overall quality of the on-field product.

The truth is that Goodell has little concern for product quality. Yet again this is an attempt to get others to pay for the mistakes of the franchise operators. NFL clubs generally bundle their preseason and regular season games together in a single “season ticket” package. In other words, you pay for eight regular season and two preseason home games. Fans would obviously prefer to not pay for the preseason at all in most cases. A customer-friendly NFL would simply unbundle the preseason and regular season games. Heck, given the television and concession revenues, the NFL could simply give away their preseason tickets and likely enjoy increased attendance and profits. But don’t hold your breath on that.

Adding two games to the schedule is also a backdoor form of expansion. There’s no Bob McNair available right now to give $700 million in free money to the owners for a new team, and aside from Los Angeles, the NFL is running out of cities to fleece. An 18-game schedule would have the same impact on the inventory of available games as adding two expansion teams. Nevermind the lack of consumer demand.

Conclusion

The NFL produces three things: stadium debt, intellectual property, and bureaucracy. None of these things should be confused with “free market” values. The league is a prime example of what happens when you mix politically influential egos with easy credit and a media environment that largely promotes economic ignorance. You have the perfect boom business.

But all booms eventually end. NFL acolytes — and they are presently the majority — will insist, as Homer Simpson once did, that “everything lasts forever.” One media writer I correspond with insisted to me recently the NFL will be even more popular in 20 years then it is today. Go back to 1991 and think about all of the businesses you could have said that about, incorrectly, at that time.

That’s not to say professional football will cease to exist, nor even that the present labor situation will yield some disaster beyond imagination. What I am saying is that all the positive, pie-in-the-sky press in the world can’t alter economic reality. The NFL isn’t just a house of cards. It’s a house of cards built atop a pile of toxic waste. The only thing keeping the house from sinking is a support structure composed of television contracts.

But the networks face their own economic challenges, and unless you can guarantee that Fox, ESPN, CBS, et al., will be stronger then they are now in 2031, then you can’t say with any confidence the NFL will survive and thrive indefinitely. The league is built on consumption, and when you adopt that model, eventually you’ll eat yourself out of your $1.3 billion house and home.

Behind the Lockout, Part II

Interesting take, no?