Q: Ontario Teachers was one of the first pension funds to invest in sports.
A: There have been historical examples of sponsors or institutions buying into sport, but most of them had not been successful. And sports had changed a lot since then. Fifteen years ago, European soccer and North American sports spent about 60% to 65% of revenue on players.
Over the last 15 years, because the sport and the business has grown so much and through collaboration with the leagues, North American sports leagues, on average, now put between 45% and 48% of revenue on players. In soccer, it remains 60% to 65%.
Think of players' spend as your cost of goods sold — and these are businesses with tremendous operating leverage — as players' expenses rationalized, revenues grew in North America. And, so, the structural profitability of North American sports changed dramatically, and the league started to impose very strict leverage limitations on ownership groups.
The average maximum allowable LTV (loan-to-value ratio) in North America is about 16% of value. That’s vs. 40% to 50% in LBO land, and as much as you can get in Europe for soccer.
And so what's happened over the last 15 years is North American sport has transformed into, really, two different things: Every North American sport team in the big five leagues has an equal, ratable ownership of the league and then a legal, local exclusive territory to operate a live entertainment business. It has this sort of monopolistic pricing power. And then the leagues, especially the big leagues, have monopolistic pricing power with their media and data and sponsorship partners because increasingly it is the most important content.
Q: So not unlike an annuity or a royalty?
A: Not unlike a music royalty or a mineral royalty or an investment, except it's better than an annuity because the leagues actually have an investment-grade rating. The Big Four sports leagues typically have an investment-grade rating on their league-provided credit facilities.
Every team every year gets a dividend from the league. And then they have this protected region where no one else in that sport can compete with them for ticketing, sponsorship. And they might own the arena and all the real estate around the arena. And those two businesses are hard to replicate. For most of these teams, even the ticketing can have an annual renewal rate of up to 80% to 90% and built-in escalators; if the economy dips down 1%, a hard GDP recession, doesn't materially impact the business.
Q: So how is sports a recession-proof business?
A: After food, beer, rent, for a lot of these customers, their tickets are the next most important thing. If the ratings go down — and they don't — but if they do, doesn't matter. And, so, the durability, the consistency and the predictability of the revenue streams is highly unusual and real asset-like. The margin has improved materially over the last 15 years and there's no or low leverage.
Q: What are the returns like for investments in sports compared to other assets?
A: In the 10 most accommodating years of my career — 2011 to 2021, before the big 2022 sell-off — Cambridge has pooled average buyout and venture returns totaling 17%-20% annually. Real assets was 9%, and the S&P 500 was about 9%-10%. North American sports? That’s 18% annually.
Q: How do you measure that?
A: We partnered with the University of Michigan and we now publish a quarterly benchmarking index called the Ross-Arctos Sports Franchise index. That’s all there, you can download the raw data yourself from the Ross-Arctos Sports Franchise Index. We have painstakingly collected all of this data and cleaned it, shared it. We think it's important for investors to have a benchmark, and data to test, and for academics to have clean data to use in their analysis.
Q: What is the total addressable market in sports? And have you essentially built a secondary market for sports properties and their owners?
A: There are about 200 of these kinds of properties in North America and premier global sports that have the characteristics described.
If you take the 150 big five North American clubs, you take the international properties that have some of these characteristics — the value of those when we started this firm was about $400 billion to $450 billion in 2019. Today it's close to $500 billion-$550 billion.
We built a proprietary database of the minority owners in those 200. And on average, there are 11 non-family member limited partners or minority owners in each of those platforms. So, there's a $550 billion TAM (total addressable market) with 2,000 non-family member minority owners who have no functional liquidity solution.
They have no way of meeting each other, and from time to time, they will want to or need to sell, just like pension funds, from time to time, need or want to sell. The reasons are just slightly different. Death, divorce, you want to buy into a different team, generational, liquidity. There is active portfolio management that needs to take place and for many of these owners, this has become a huge asset in their portfolio. So, our thesis was we could bring all of our lessons from other private markets’ secondary strategies and attack that opportunity.
If you can't use a lot of debt and you can't tap into institutional capital, your growth is constrained by your internal cash flow generation. And for many of these businesses, they have just now hit an inflection point where a new arena, a fan activation real estate platform around the arena, investing overseas and building your brand in Europe or in Asia — those are real opportunities for these businesses that take capital.
Q: Your firm owns minority stakes in many teams. Explain how you are employing capital.
A: About 50% of the money put into the sport strategy is providing liquidity to existing owners, full or partial, as a secondaries business, half is growth. The other half of our business is the Keystone Strategy, providing new capital to alternative asset managers to grow.
So we have come to ownership groups and said, “You guys have owned this asset for 12 years. We think your market is fantastic, think your management team is fantastic. We would love to be helpful if we can. We're willing to provide everybody with the option for liquidity on 10% to 15% of your position.” Just like we used to offer all of the LPs in a fund a tender opportunity. And, if 19 of them want to sell, awesome. If only three want to sell, that's OK, too.
We also say, “Are you guys thinking about any acquisitions? Would you like to buy any other franchises? Would you like to buy the parking lots across the street? Are there any capex opportunities in the arena that have a big ROI, because we would love to put capital on the balance sheet and help you do those things.”
Recent examples would be providing capital to the owner of the Utah Jazz in Salt Lake City, NBA team.
They recently acquired an NHL franchise called the Arizona Coyotes and moved it to Salt Lake City. It's now called the Utah Hockey Club. The ownership group is working with fans to name the team. So this season, in October, probably for one season and one season only, there will be an NHL team called the Utah Hockey Club!
The controlling owner of the team is a successful tech entrepreneur named Ryan Smith. He and his partners bought 80% of the Utah Jazz and the arena, with the option of buying the rest. We helped them buy that other 20% together, so Arctos is part owner of the team and the arena and some of the real estate around it.
We put up some of the money. We also helped them purchase the MLS franchise in Salt Lake City, called Real Salt Lake, which is owned by Arctos, Ryan Smith and David Blitzer. We bought that team together.
Q: What’s your edge compared to other sports firms?
A: Arctos is the only firm in the world that has league approval in all five leagues that allow institutional capital. No one else has that in even two leagues.
Because of our first mover advantage, because our firm was purpose-built for this strategy, it has allowed us to position ourselves as the partner of choice for this ecosystem. As soon as each league has made the decision to open to institutional capital, we've been right there with owners who want to partner with us, with the right architecture and the right team to get through that process.
It's not easy for other firms to do what we do because of conflicts that other (money) managers have because of their other investment activities.
Q: What would a conflict be?
A: If your firm owns a player agency or sports gambling business, you can't own equity in a club. Many firms that compete with us do not know this. If you've lent money to a team in the league, you can't own equity in a different team because integrity of the game is important.
If anyone in your senior leadership team has a personal ownership stake in a team, it's very hard for your firm to get approved to invest in another team in the same league.
Q: Can you estimate what some of the recent valuation multiples have been for sports teams? Is it an advertising revenue multiple or streaming rights?
A: There are many public transactions where the valuation and approximate revenue multiples are known. To actually understand the valuation framework of North American sports you should disaggregate the two assets — the royalty league, IP business — and then the local live entertainment business, because you're actually getting two different things. If you value the local live entertainment business similar to other live entertainment businesses, you get one number. If you value this really unique, global intellectual property asset, in a similar way — there are publicly traded leagues, like, Formula One, which trade publicly.
What people don't have is enough data and transparency to disaggregate those things. We have a tremendous data advantage in this space. We have a huge data science business, we provide all kinds of data services to this ecosystem, we collect all kinds of really unique data, and on top of that, we have invested a tremendous amount in our own proprietary machinery to understand the ecosystem and the operators in a very mathematical way.
For certain leagues, the league business is just a media stream, right? But if your media partners are Amazon, Netflix, Disney and Warner Brothers, those are interesting counterparties with 10- to 15-year contracts, annual escalators. One of the things that a lot of investors don't understand is in most industries, the competitive dynamics of capitalism make it actually really hard with confidence to know that any one company is going to be relevant, let alone exist over a 10-to-20-year time frame.
Obsolescence risk is almost unheard of in this industry. In North America you can't name many U.S. companies that have been around for over 100 years. In Japan, there are several companies that have been around for hundreds of years.
But in sports … the New York Yankees have compounded their equity over the last 119 years, at almost 10%, when U.S. equity markets are about 5.5% and inflation is 3%. That durability and resiliency is really unusual. How exactly the leagues in the local market operator monetize those brands and that content changes over long time frames. But that content is very important to its customer. So important, that they're called fanatics. And your cost to acquire a customer is almost zero.
Q: How does the cost of capital come into play?
A: Leverage drives the cost of capital and it drives the movement of this capital from asset class to asset class. Over the last 40 years, that institutional wave of capital and liquidity, if it's even considered this industry, it's hit a regulatory loan bounce back.
Because of the resiliency, the long-term nature of the contracts, and the brand connectivity to the consumer, the sports business fundamentals are also not correlated with most industries.
They're sort of anti-cyclical. It is low or no correlation to other asset classes.
It's negatively correlated with some things, it is weakly correlated with others, but in the aggregate, it reduces your overall risk and enhances your return as part of a diversified private markets portfolio. There are not many things that do that.
Q: Did you play any sports? What was the personal interest in sports?
A: If you grow up in Alaska, you better play hockey. There's nothing else to do.
And my wife was an athlete. My kids were athletes. I think sport is a beautiful thing because it teaches you how to lose, how to win the right way, how to be a good teammate, how to be coachable, how to be a leader, how to be the last person to make the team, and to be grateful that you were there, right?
So, I've always loved sport because of all the lessons that it taught me and the mentors that I had and the friends that I still have. I just wasn't a fanatic of a brand. I do have a favorite team, which is kind of funny.
Q: Which team is that?
A: I don't want to say!
Every once in a while, I would get to go with my father to visit his family, and I knew that the men I looked up to in my life, if they were going to communicate with each other constructively around anything, it was that team. They would sit around the fire and talk about that team. If I wanted to be part of that conversation when I was 9 or 10, I had to know that team.
But, that's the power of this industry... So it's a really, really crazy industry. It is tribal. And that's a beautiful word.
