As an owner of a business degree, I have taken several courses in accounting, finance, and economics. Despite some professional experience with all three topics, yesterday was probably the first day that I actually felt like I put the knowledge to use. While trying to read every possible bit of information about the Pirates’ finances, I also took a look at some of the comments around the various forums, and noticed several questions. The big question was “how can the Pirates compete at these profit levels” which I addressed earlier. However, there were plenty of financial questions which I also wanted to address.
While I do have plenty of knowledge of the subject of accounting and finances, I don’t consider myself capable of giving professional explanations of the subject. Therefore, I turned to CPA and Pittsburgh Pirates fan Brian Beerman to provide the answers to a lot of the questions I saw yesterday.
Brian Beerman is a Certified Public Accountant and a partner in the firm Beerman, Piper & Associates LLC. Brian has 25 years of professional experience including 16 years with an international accounting firm and has served both publicly and privately held clients in a variety of industries. Services provided include performing financial statement and forensic auditing services and advising clients on merger, acquisition, divestiture and major financing transactions. Brian also works with entrepreneurial and start up companies in a business advisory capacity.
Here is Brian’s take on the Pirates’ finances:
1. It’s now been reported that the Pirates have made about $35 M in profits over the last three years. Is this enough information to know the long term finances of the team, or is more information needed?
More information is definitely needed. The Pirates haven’t provided financial information for any period prior to 2007, and they also haven’t disclosed how much they have in cash and investments, so that makes it difficult to get an accurate financial picture of the organization as of today.
2. The Pirates made $15 M per year in 2007 and 2008, with similar attendance and payroll levels to their previous seasons. Can we assume that they also made $15 M per year going back to the 2004 season?
You can try to project what net income was for 2004-2006, but you’d also have to know how much revenue sharing was for those years as well as how much they received from broadcasting rights. Attendance did increase during those years as they approached the All Star Game year of 2006 and payroll did increase slightly. Operating expenses can also fluctuate from year to year. While I think it’s difficult to say they made $15 million for those years, it would appear to me that they did have profits.
3. The Pirates’ owners took out money to pay taxes for the 2006 and 2007 seasons. Is this any different than taking out profits for personal gain?
Because the team made profits during those years, the owners have the legal right to their share of those profits in the form of cash distributions. The owners are also required to pay their share of the federal and state income taxes and it’s common practice for a partnership to distribute to the owners an amount equivalent to their share of the taxes. So since the tax remittance goes to the federal and state government, this would be different than the owner receiving the remainder of their distribution that is due them. They will receive the remainder of what is due them at some point.
4. The Pirates receive revenue sharing from other teams, and end up with a profit. Should other teams be upset over this, or should it be expected for teams to generate a profit, regardless of their major league records?
I firmly believe that the point of revenue sharing was to keep at least several franchises from going bankrupt. In the Pirates case, the AP reported from documents that they received that the Pirates revenue sharing for 2008 of $70 million was slightly less than half of their total revenues. If this is the case and the Pirates made $14.4 million in 2008 also as reported by the AP, I find it hard to believe that they could stay in business without revenue sharing. Also, Frank Coonelly stated that the Pirates budgeted to break even in 2009. This is just another indicator that without revenue sharing, maintaining liquidity would be next to impossible.
If other teams are upset by this, well this is what they’ve agreed to in collective bargaining. Even the Rays said before the 2010 season that they’ll have to drop payroll for 2011 below the $60 million level so it’s difficult to make a profit for some markets and produce a quality major league product year after year.
5. Major League Baseball is made up of 30 teams. If a team like the Pirates were to suffer financial losses, would that have any negative impact on the other teams in the league?
I don’t think so. Now if those losses are recurring and cause a team to dissolve or be contracted, I think that’s bad for the league overall especially if it’s an older franchise but I don’t see a negative impact on any team.
6. There was an interest payment to Bob Nutting on a loan he made to the team. What is to stop Nutting from charging a ridiculous interest rate on that loan to inadvertently profit?
The IRS would object to a below market rate of interest but not to a high rate. The IRS publishes the minimum rate allowed when a business receives a loan from an owner but the IRS basically wants their income so they don’t care how high a rate is used. It wouldn’t be in Nutting’s best business interest to charge a high rate and the Board would likely have to approve it in any event.
7. One common argument is that the Pirates are increasing the franchise value by paying down debt. Why is this incorrect?
While it’s always good to liquidate debt which shows a stronger balance sheet, people want to own a sports franchise because sports are fun and the celebrity status that comes along with it. That’s where the value is. Paying down debt is obviously done with cash so you’re satisfying a liability with an asset while not affecting your net equity. Think of your mortgage on your house. Your house today might have a market value (the price at which you can sell it) of $250,000 but by continuing to pay down your mortgage, you’re not affecting that market value at all. You might be increasing your borrowing capacity on that asset however.
8. Some might argue that if you pay your mortgage down quicker, you benefit by receiving more money when you sell the house for the $250,000 market value, due to having less debt. Would they be correct, or would these two actions pretty much off-set each other in the long run?
You would be receiving more money when you sell the house but you still used cash to speed up the mortgage payments to it’s pretty much an offset. But by paying down your mortgage quicker, you are experiencing some savings as it relates to interest expense and your making payments now that you can afford so you don’t have to make them later. You’re basically freeing up cash down the road by paying debt down early.
9. We know that owners make money when they eventually sell a team, so why can’t they break even every year, or pay the taxes out of their own pocket, knowing they will eventually get their payday?
Nobody wants to pay taxes out of their own pocket if they have a legal right to a distribution to pay those taxes. It all comes down to cash flow. Those taxes could build up over years of ownership into some pretty large amounts and some owners may not even have that kind of cash each year to pay those taxes, so they want their distribution. It’s really a common practice and most partnership agreements I’ve seen have the stipulation that they are required to distribute to owners an amount so they can pay their tax bill on their share of profits. And nobody really wants to just break even. They want profits largely so that the business can cash flow itself without having to borrow.
10. Is there any reason why these numbers can’t be trusted? Could the Pirates have “cooked the books” in any way to show low profits?
Sure the books could be cooked. We all know about Enron, WorldCom, Phar Mor, etc. It’s just difficult to do and it doesn’t happen often. It would require cooperation from the Pirates executives, internal accountants, and independent accounting firm that performs the annual audit. Also, the Pirates are a much simpler business than those other companies so it’s more difficult to hide assets or move liabilities off of the balance sheet.