Major League Sport Continues to Draw Private Equity Crowds
U.S. sports franchises have become big business for private equity over the past few years, as ownership restrictions have eased and valuations have soared. Since the beginning of 2021, the sector has seen over $100bn in private equity-backed deal volume and over $115bn of capital raised for private funds focused wholly or partly on the sports industry1. A survey of senior sports executives found that 83% believe investment in the sector by private equity and sovereign wealth funds will continue to grow over the next three to five years2.
While many private equity founders have for some time invested in sports franchises in their personal capacities, private equity funds started to get in on the act in the 2000s, primarily in the less controlled European market where they have now become ubiquitous investors in motorsports, soccer, and rugby. Private equity firms now hold ownership stakes in more than a third of all of Europe’s top football clubs3. Private equity firms have also been active in the media rights space, as well as other adjacent sectors such as sports real estate, betting, and hospitality.
However, the industry has entered a new era with the opening of U.S. professional sports franchises to private equity investment4. Major League Baseball (MLB) was the first to modify its ownership rules in 2019, allowing private equity investors to hold passive, minority interests in multiple teams. Since then, the National Basketball Association (NBA), Major League Soccer (MLS), and National Hockey League (NHL) have all followed suit. Only the NFL has yet to take the plunge, although speculation that it may also open the door to private equity investment is ongoing. At the same time, many states have eased their restrictions related to sports gambling, so that today, some 35 U.S. states offer some form of legalized sports betting5. This trend is likely to create further interest in the gaming/gambling sectors and sports investing at large.
Although a whole host of private equity firms are gearing up to take advantage of this burgeoning opportunity, those interested in entering the space should be aware of both the opportunities and challenges presented by sports strategies.
While many private equity founders have for some time invested in sports franchises in their personal capacities, private equity funds started to get in on the act in the 2000s, primarily in the less controlled European market where they have now become ubiquitous investors in motorsports, soccer, and rugby. Private equity firms now hold ownership stakes in more than a third of all of Europe’s top football clubs3. Private equity firms have also been active in the media rights space, as well as other adjacent sectors such as sports real estate, betting, and hospitality.
However, the industry has entered a new era with the opening of U.S. professional sports franchises to private equity investment4. Major League Baseball (MLB) was the first to modify its ownership rules in 2019, allowing private equity investors to hold passive, minority interests in multiple teams. Since then, the National Basketball Association (NBA), Major League Soccer (MLS), and National Hockey League (NHL) have all followed suit. Only the NFL has yet to take the plunge, although speculation that it may also open the door to private equity investment is ongoing. At the same time, many states have eased their restrictions related to sports gambling, so that today, some 35 U.S. states offer some form of legalized sports betting5. This trend is likely to create further interest in the gaming/gambling sectors and sports investing at large.
Although a whole host of private equity firms are gearing up to take advantage of this burgeoning opportunity, those interested in entering the space should be aware of both the opportunities and challenges presented by sports strategies.
The Opportunity Set
Consistent Underlying Demand
Private equity has been lured to sports investing by resilient demand from a loyal fan base, both in stadiums and on-screen, which continues to defy an otherwise challenging economic environment. The numbers certainly stack up. For example, the average return for an NBA team between 2002 and 2021 was 1,057%, compared to 458% returns on the S&P 5006.
Incumbent Owners Seeking Liquidity
Rule changes facilitating private equity investment are being welcomed by many incumbent owners as a possible solution to a liquidity challenge. As in many other sectors, sports team owners may be facing succession planning and cash flow issues either currently or in the near future. But as valuations skyrocket, the number of ultra-high-net-worth individuals comprising the potential buyer pool shrinks. These owners see private equity as a largely untapped source of liquidity.
Private Equity Value Add
In the U.S., franchise-adjacent investments involving media rights, real estate, and hospitality have largely been controlled by the relevant league and team owners. These kinds of investments in particular present an opportunity for private equity firms to add value and improve operations and outcomes, given their deep business networks and operational experience in similar situations.
The Opportunity Set
Consistent Underlying Demand
Private equity has been lured to sports investing by resilient demand from a loyal fan base, both in stadiums and on-screen, which continues to defy an otherwise challenging economic environment. The numbers certainly stack up. For example, the average return for an NBA team between 2002 and 2021 was 1,057%, compared to 458% returns on the S&P 5006.
Incumbent Owners Seeking Liquidity
Rule changes facilitating private equity investment are being welcomed by many incumbent owners as a possible solution to a liquidity challenge. As in many other sectors, sports team owners may be facing succession planning and cash flow issues either currently or in the near future. But as valuations skyrocket, the number of ultra-high-net-worth individuals comprising the potential buyer pool shrinks. These owners see private equity as a largely untapped source of liquidity.
Private Equity Value Add
In the U.S., franchise-adjacent investments involving media rights, real estate, and hospitality have largely been controlled by the relevant league and team owners. These kinds of investments in particular present an opportunity for private equity firms to add value and improve operations and outcomes, given their deep business networks and operational experience in similar situations.
The Challenges
Minority Stakes = Less Control
Although some U.S. leagues recently have taken steps to relax restrictions on private equity investment, it remains a highly regulated industry with substantive restrictions on private equity ownership that vary by league. These restrictions can apply at both the firm level and the investment professional level and can, for example, limit: overall ownership by private equity firms in a single franchise; the ownership stake one private equity firm can own in a single franchise; and how many franchises a private equity firm can invest in within the same league.
These restrictions are primarily intended to prevent private equity firms from acquiring controlling interests in teams and leagues. Sponsors looking to enter the space will need to research the applicable restrictions and adjust expectations accordingly. Although minority stakes typically result in lesser control, sponsors should also consult with counsel to determine to what extent some control mechanisms can be built into deal documentation.
League Due Diligence and Effect on Other Business
In addition to the diligence a private equity firm should undertake before launching a sports strategy, the sponsor should expect that investments in certain U.S. franchises may require league approval, which may entail the league conducting due diligence on them. As part of this process, the league may request information about the sponsor’s underlying investors and its other sports-related holdings. Private equity firms should keep in mind that this may have perpetual knock-on effects with respect to their ongoing business.
While the restrictions clearly impact a sports fund or strategy, a team investment may also come with limitations on investments by the sponsor’s other funds, accounts, or investment professionals in related businesses or other assets that may be sensitive for the league. Private equity firms considering investing in sports franchises should contemplate the prospect of significant, ongoing interaction between the league and the sponsor, and related conversations the sponsor may need to have with its investors.
In light of these considerations, the sponsor should also consult with counsel to determine whether the fund documentation provides for adequate flexibility regarding terms like disclosure and exclusion.
Exit Approvals & Longer Holding Periods
Exit opportunities and other transfers may also be subject to league and/or team owner approvals. In some instances, the team’s majority owner may have a right of first refusal with respect to any disposition of the private equity fund’s interest. Private equity firms investing in this space should pay careful attention to any such restrictions on exit opportunities, both at the league level and in deal documentation. Sponsors looking to enter the sports sector should expect these kinds of restrictions to translate into a longer investment horizon. In anticipation of a potential longer hold period, it is also important to consider the cash flow profile of prospective investments. Many sports franchise investments may be pure capital appreciation plays that do not generate interim distributions, which may impact strategy design and marketing.
While investment in sports, and investment in U.S. major league sports in particular, is a relatively new opportunity for private equity, it is an area that appears to be poised for significant growth. Although it is too early to say how exits in this nascent sector will ultimately pan out, the relaxation of limitations relating to private equity investment, combined with a discrete number of investment opportunities, is likely to increase competition and further support valuations. The interest in sports investing by private equity is gaining momentum, but those looking to enter the space for the first time would be well advised to ensure they have the right resources and expertise to identify and navigate the pitfalls associated with the sector.
The Challenges
Minority Stakes = Less Control
Although some U.S. leagues recently have taken steps to relax restrictions on private equity investment, it remains a highly regulated industry with substantive restrictions on private equity ownership that vary by league. These restrictions can apply at both the firm level and the investment professional level and can, for example, limit: overall ownership by private equity firms in a single franchise; the ownership stake one private equity firm can own in a single franchise; and how many franchises a private equity firm can invest in within the same league.
These restrictions are primarily intended to prevent private equity firms from acquiring controlling interests in teams and leagues. Sponsors looking to enter the space will need to research the applicable restrictions and adjust expectations accordingly. Although minority stakes typically result in lesser control, sponsors should also consult with counsel to determine to what extent some control mechanisms can be built into deal documentation.
League Due Diligence and Effect on Other Business
In addition to the diligence a private equity firm should undertake before launching a sports strategy, the sponsor should expect that investments in certain U.S. franchises may require league approval, which may entail the league conducting due diligence on them. As part of this process, the league may request information about the sponsor’s underlying investors and its other sports-related holdings. Private equity firms should keep in mind that this may have perpetual knock-on effects with respect to their ongoing business.
While the restrictions clearly impact a sports fund or strategy, a team investment may also come with limitations on investments by the sponsor’s other funds, accounts, or investment professionals in related businesses or other assets that may be sensitive for the league. Private equity firms considering investing in sports franchises should contemplate the prospect of significant, ongoing interaction between the league and the sponsor, and related conversations the sponsor may need to have with its investors.
In light of these considerations, the sponsor should also consult with counsel to determine whether the fund documentation provides for adequate flexibility regarding terms like disclosure and exclusion.
Exit Approvals & Longer Holding Periods
Exit opportunities and other transfers may also be subject to league and/or team owner approvals. In some instances, the team’s majority owner may have a right of first refusal with respect to any disposition of the private equity fund’s interest. Private equity firms investing in this space should pay careful attention to any such restrictions on exit opportunities, both at the league level and in deal documentation. Sponsors looking to enter the sports sector should expect these kinds of restrictions to translate into a longer investment horizon. In anticipation of a potential longer hold period, it is also important to consider the cash flow profile of prospective investments. Many sports franchise investments may be pure capital appreciation plays that do not generate interim distributions, which may impact strategy design and marketing.
While investment in sports, and investment in U.S. major league sports in particular, is a relatively new opportunity for private equity, it is an area that appears to be poised for significant growth. Although it is too early to say how exits in this nascent sector will ultimately pan out, the relaxation of limitations relating to private equity investment, combined with a discrete number of investment opportunities, is likely to increase competition and further support valuations. The interest in sports investing by private equity is gaining momentum, but those looking to enter the space for the first time would be well advised to ensure they have the right resources and expertise to identify and navigate the pitfalls associated with the sector.
Built with Shorthand