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Malcolm Gladwell on the Economics of the NBA
Published on September 27, 2011 by Sara Foss

Over at Grantland, Malcolm Gladwell takes on NBA commissioner David Stern and his claim that the NBA is about to fall to economic ruin.

Among other things, Gladwell argues that owning an NBA franchise is not a business, because teams are more like luxury goods, and that the economics of basketball teams are not actually about basketball.

Here's an excerpt:

"Earlier this year, NBA commissioner David Stern was interviewed by Bloomberg News. Stern was expounding on his favorite theme — that the business of basketball was in economic peril and that the players needed to take a pay cut — when he was asked about the New Jersey Nets. Ratner had just sold the franchise to a wealthy Russian businessman after arranging to move the team to Brooklyn. 'Is it a contradiction to say that the current model does not work,' Stern was asked, 'and yet franchises are being bought for huge sums by billionaires like Mikhail Prokhorov?'

'Stop there,' Stern replied. '… the previous ownership lost several hundred million dollars on that transaction.'

This is the argument that Stern has made again and again since the labor negotiations began. On Halloween, he and the owners will dress up like Oliver Twist and parade up and down Park Avenue, caps in hand, while their limousines idle discreetly on a side street. And at this point, even players seem like they believe him. If and when the lockout ends, they will almost certainly agree to take a smaller share of league revenues."

Gladwell continues:

"Bruce Ratner's original plan for the Atlantic Yards site called for 16 separate commercial and residential towers and a basketball arena, all designed by the superstar architect Frank Gehry. The development would be home to roughly 15,000 people, cost in excess of $4 billion, total more than eight million square feet, and make his company — by some calculations — as much as $1 billion in profit. To put that in perspective, the original Rockefeller Center — one of the grandest urban developments in American history — was seven million square feet. Ratner wanted to out-Rockefeller the Rockefellers.

Ratner knew this would not be easy. The 14 acres he wanted to raze was a perfectly functional neighborhood, inhabited by taxpaying businesses and homeowners. He needed a political halo, and Ratner's genius was in understanding how beautifully the Nets could serve that purpose. The minute basketball was involved, Brooklyn's favorite son — Jay-Z — signed up as a part-owner and full-time booster. Brooklyn's borough president began publicly fantasizing about what a professional sports team would mean for his community. The Mayor's office, then actively pursuing an Olympic bid, loved the idea of a new arena in Brooklyn. Early on, another New York developer, Gary Barnett, made a competing play for the railway yard. Barnett's offer was, in many ways, superior to Ratner's. He didn't want the extra 14 acres, so no land would have to be expropriated from private owners. He wasn't going to plunk a small city down in the middle of an already crowded neighborhood. And he tripled the value of Ratner's offer. Barnett lost. He never had a chance. He wanted to build apartments. Ratner was restoring the sporting glory lost when the Dodgers fled for Los Angeles. As Michael Rikon, one of the attorneys who sued to stop the project, ruefully concluded when Ratner's victory was complete: 'It is an aphorism in criminal law that a good prosecutor could get a grand jury to indict a ham sandwich. With regards to condemnations in New York, it can fairly be said that in New York a condemnor can condemn a Kasha Knish.'2 Especially if the kasha knish is being eaten to make way for a professional basketball arena.

Ratner has been vilified — both fairly and unfairly — by opponents of the Atlantic Yards project. But let's be clear: What he did has nothing whatsoever to do with basketball. Ratner didn't buy the Nets as a stand-alone commercial enterprise in the hopes that ticket sales and television revenue would exceed players' salaries and administration costs. Ratner was buying eminent domain insurance. Basketball also had very little to do with Ratner's sale of the Nets. Ratner got hit by the recession. Fighting the court challenges to his project took longer than he thought. He became dangerously overextended. His shareholders got restless. He realized had to dump the fancy Frank Gehry design for something more along the lines of a Kleenex box. Prokhorov helped Ratner out by buying a controlling interest in the Nets. But he also paid off some of Ratner's debts, lent him $75 million, picked up some of his debt service, acquired a small stake in the arena, and bought an option on 20 percent of the entire Atlantic Yards project. This wasn't a fire sale of a distressed basketball franchise. It was a general-purpose real estate bailout.

Did Ratner even care that he lost the Nets? Once he won his eminent domain case, the team had served its purpose. He's not a basketball fan. He's a real estate developer. The asset he wanted to hang on to was the arena, and with good reason. According to Ratner, the Barclays Center (the naming right of which, by the way, earned him a cool $400 million) is going to bring in somewhere around $120 million in revenue a year. Operating costs will be $30 million. The mortgage comes to $50 million. That leaves $35 million in profit on Ratner's $350 million up-front investment, for an annual return of 10 percent.3 'That is pretty good out of the box,' Ratner said in a recent interview. 'It will increase as time goes on.' Not to mention that the rental market in Brooklyn is heating up, the first of Ratner's residential towers is about to break ground, and his company also happens to own two large retail properties directly adjacent to Atlantic Yards, which can only appreciate now that there's a small city going up next door. When David Stern says that the 'previous ownership' of the Nets lost 'several million dollars' on the sale of the team, he is apparently not counting the profits on the arena, the eminent domain victory, the long-term value of that extra 14 acres, or the appreciation of Ratner's adjoining properties. That is not a lie, exactly. It is an artful misrepresentation. It is like looking at a perfectly respectable kasha knish and pretending it is a ham sandwich.

And let's not forget Mikhail Prokhorov. How does he feel about buying into the financial sinkhole that is professional basketball? The blog NetsDaily4 recently dug up the following quotation from a 2010 interview Prokhorov did with the Russian business newspaper Vedomosti:

'We have a team, we're building the arena, we've hired professional management, we have the option to buy into another large project, the building of an office center. For me, this is a project with explosive profit potential. The capitalization of the team will be $700 million after we move to Brooklyn. It will earn approximately 30 [million]. And the arena will be worth around $1 billion.'"

It's hard to read Gladwell's piece and regard the players as the villains in the NBA lockout. Sure, the players would like a greater share of league revenues. But are they really as greedy as Stern, Prokhorov and Ratner? I doubt it.

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