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A lot of criticism has been leveled at the owners for misrepresenting the true financial picture of the NBA.

The league declares they are losing hundreds of millions of dollars a year and has produced all ofthe financial records required to prove their point. The Players dispute this, saying the numbers the league is showing doesnt represent the entire financial picture. They cant both be right can they?

Whos telling the truth?

Well, it seems that both sides are. The owners are showing the players union what their profit and loss statements are for the teams they own. All 30 teams have provided this information during the lockout. During the life of the Collective Bargaining Agreement, only a few teams need show their financial records each year.

The problem is that a simple profit and loss statement doesnt tell the entire story. To quote the unions economist Kevin Murphy:

I would say the primary disagreement is not over the accounting numbers. It’s what you include and how you interpret the numbers … These people aren’t stupid, right? These guys are worth billions of dollars. So why did they pay all this money for franchises that, it looks like, lose money?

Well, the answer is pretty clear. There are a couple of things that are really attractive. One is, historically, you’ve seen franchises appreciate in value and that appreciation has more than outstripped any cash-flow losses that you’ve had. And if you’re in the right tax position, it’s actually pretty good because you’ve got a tax loss annually on your operating and you’ve got a capital gain at the end that you accumulate untaxed until you sell it and then pay at a lower rate. So you get a deferred tax treatment on the gains and an immediate tax treatment on the losses, that’s not a bad deal.

Secondly, it’s a lot of fun to own an NBA franchise…


What he is saying is that the price of ownership has traditionally risen year after year. So the teams, while losing money each season, get tax deductions on those losses while deferring paying taxes at the capital gains rate on the profit made selling the team that it makes financial sense to be an NBA owner despite being in a business model that loses money.

Dollar SignThis brings us back to the owners’ dilemma. Traditionally, the values of teams rise over time, but in todays difficult world-wide economic malaise, there is no guarantee that will continue to be the case. Consider what happened to the U.S. housing market over the last 3-4 years. Housing was considered to be an investment that rose at a rate greater than inflation over time prior to 2008. However, in 2008 not only did home prices not rise, they began a consistent decline in value to the point that a large percentage of homes are now worth less than the mortgage owed on the home. When you owe more than the home is worth, you are in trouble financially. It was reported by Reuters that up to 50% of all home mortgages could be under water this year.

Most NBA franchises are purchased with borrowed money. When the amount of money you should expect to make in the sale of a franchise drops below the price you paid, then NBA owners not only have lost money year to year, but they could lose money on the original purchase as well. The real nightmare is when the owner finds no willing buyers for the team. That is exactly what happened to the New Orleans franchise this past year. The league had to step in and buy the team from George Shin when he was on the verge of personal bankruptcy and no willing buyer could be found. There are a lot of owners suffering in these economic times.

So, the idea that teams always go up in value is not necessarily true in todays environment and is not guaranteed to be true in the future either.

But what about the yearly tax loss write-off? The players argument is those losses arent real dollar losses because they are simply deducted against profits elsewhere and so the losses save the owners from paying greater taxes.

Is that true? Yes and no. Remember that the tax deduction aspect is only an advantage if the team or owner has profits in other businesses that he can use to offset the losses on the NBA team. Some owners, such as the Miller family in Utah (car sales), the Maloof brothers in Sacramento (real estate) and Robert Sarver in Phoenix (banking) have seen their primary businesses suffering losses the last few years as well as their NBA teams. Deductions are capped at $3,000 a year when there are no profits to offset.

Therefore,some owners are facing situations where the losses on their NBA team are actual dollar losses now and not simply accounting maneuvers. It is one thing to offset a $10 million loss against $10 million in gains so you dont have to pay taxes. It is quite another to suffer an actual $10 million cash loss without corresponding gains to offset that amount.

Down Market

The United States may not be in a recession currently, but the economy isnt strong either. With domestic growth at a standstill, the European Union facing severe austerity measures, unemployment high, the middle-class fan base shrinking and the housing market in shambles, NBA owners are obviously concerned about the ability to stem losses on their NBA hobbies now more than ever in the past.

And yet, teams are still being bought and sold and, for the most part, the sellers are making apparent large profits when selling. The Golden State Warriors were sold for $450 million in 2010. Chris Cohan, the previous owner, had bought the franchise in 1995 for $119 million. While the Warriors made the playoffs only one time during Cohans ownership,the fans of the team routinely kept the stands full during games, and the San Francisco/Oakland metro area is populated by over 7 million people. Cohan was forced to sell the team because of troubles with the IRS. It was rumored he owed the IRS over $180 million from the sale of a cable TV company in the late 90s.

Players look at the recent sale of the Warriors, Nets and 76ers as examples of team values still rising. Owners, especially in smaller markets like Memphis, see the Shinn situation as a cloud on the horizon signaling bigger storms to come in the next few years. The small market owners (SMOs) in particular dont want to have to count on profits from other businesses to reduce the impact of their NBA franchise losing money. They dont want to have to rely on a white knight from Russia to save their butts when they want to sell their franchise. For these owners, the only solution is to make the league profitable for all teams not just the large markets.

That means both greater profit-sharing among the owners and concessions from the players. Relying on the greater fool theory for someone to pay more money for their team or a rapid economic turnaround is not enough for these hard-line owners. They want a way to make money and have a chance to compete. If they dont get what they want, the Donald Sterling view of team ownership could spread to other team owners and that would be bad for the entire league.

The players union struggles to understand the owners position because they have not had to risk capital in their careers. They feel that the owners are overstating the risk to the value of their franchises and not being honest about the losses. That isnt the issue for the owners. They dont want a system that relies on outside profits. They want a system that is a profitable model and enables well run to teams to be competitive and still profitable. They dont want to stay up at nights thinking of the millions they are losing on their teams or worrying if they will find some other fool dumb enough to buy him out for a profit.

That fear is what drives the SMOs these days. They saw it happen to George Shinn. It nearly happened to Robert Sarver. It could happen to the Maloof Brothers and other owners as well.

Those thoughts take away a lot of the fun of being an owner.

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