Here's the draft pitchbook that Bank of America used to sell the Los Angeles Clippers on behalf of Shelly and Donald Sterling, the team's bitterly feuding owners. ESPN found it in the court filings in the Sterlings' divorce case, and I guess we should talk about it.
Right away one thing to notice is that the Clippers are always referred to as "Claret," because this is a highly confidential presentation, and you wouldn't want anyone to be able to figure out that the Clippers were for sale if it fell into the wrong hands. So there's not the slightest hint in this book that it's about the Clippers, except for little things like how on the first page it makes clear it's about a basketball team located in Los Angeles, on page 2 it mentions the Lakers as a comparison, and on page 7 it straight up has a Clippers logo. Also, everyone knew the Clippers were for sale: This deck is dated May 25, and in April the National Basketball Association had banned Sterling from owning the team and publicly told him to sell.
So I guess you could figure it out. But old habits die hard. Like the old habit of valuing companies based on the multiples of value to cash flow (proxied by Ebitda: earnings before interest, taxes, depreciation and amortization) achieved in recent comparable precedent transactions:
One thing to notice about that list of basketball deals since 2010 is that the majority of them had negative Ebitda, so the Ebitda multiple comparison column looks very silly. Most buyers of basketball teams were losing money from the get-go, buying properties that took in less money than they paid out. And even the ones who weren't -- the buyers of the Bucks and Kings, say -- were paying 40+ times Ebitda, meaning they were getting a 2-2.5 percent return on their investments, a bit worse than Treasuries. (As it happens, the Clippers actually sold to Steve Ballmer for $2 billion, or just about 100 times 2014 Ebitda.)
The reasonable conclusion to draw here is that people who buy basketball teams don't care about cash flow, but this is a pitch book prepared by a bank, so they fight that conclusion valiantly. Instead, they focus on metrics like multiples of "EBITDA ex-player compensation (due to the variable nature of player contracts)," and most importantly, multiples of revenue. The somewhat nonsensical idea is that
- if you buy a basketball team, you care about how much money it brings in, but
- you don't care how much money it pays out.
You can even ignore the actual data points here and just focus on that big arrow. The message of that arrow is clear: A basketball team is a prestige object. The point is to pay more than whatever the last guy paid. That's it.
But Bank of America went a step further than asking for more than what the last guy paid, and asked for a lot more than what the last guy paid. Part of this is justified by adjusting up the revenue numbers to reflect likely new television contracts, and part of it is vague subjective puffery (previous multiples "require adjustments to reflect Claret demographics and premium brand"), and part of it is just writing down numbers and hoping that someone's eyes would alight on them. Here's a sensitivity table that doesn't say much more than "we wrote these numbers down":
Remember that the highest price on their precedent transactions page is $550 million; this table starts at $824 million and goes up to just shy of $2 billion. Again, the Clippers actually sold for $2 billion. One assumes that Ballmer saw the table, took the biggest number, figured that was the Buy It Now price, and paid it. One good lesson here for young bankers on sell-side assignments is, always write a few really big numbers in your presentations, just in case the buyer likes the looks of them.
What other lessons are there here? One is, don't buy a basketball team, but you knew that. (Or, I mean, if you have money to throw away, go ahead, buy a basketball team, if you like basketball, why not?)
Another possible conclusion is that you shouldn't overrate the importance of financial analysis to mergers and acquisitions banking, particularly on the sell side. It's nice to convince buyers that they'll make money on the deal, but it's actually pretty far down the list of requirements. Much more important are things like knowing whom to call, having the connections to get them to pick up the phone, and creating a frenzied auction dynamic where buyers feel compelled to pay a lot. Detailed financial analysis might help with that, but it also might not, which might go some of the way toward explaining why talented bankers can strike off on their own and do hundreds of billions of dollars worth of deals without any analysts and associates to run their Excel models for them. It turns out the Excel models aren't that important.
Though I guess you could draw a very different conclusion from this book. After all, hand-wavy as the financial analysis here is, it's still here. You don't need to persuade the buyer of your financial analysis, but you do need to show it to him. Even when one billionaire couple sells a billionaire plaything to another billionaire -- with no board of directors to please, no fairness opinion to write and no real need to turn a profit -- they still feel compelled to hire a bank to run an Excel model and bless the results. Which goes some of the way toward explaining why, unlike owning sports teams, banking is a pretty good business.
I tease, but there's totally a good reason for using the codenames in this deck. Obviously if someone got and read the deck, he'd know what's up, but you want to instill the discipline of always calling the team "Claret" rather than "the Clippers" so that if someone overhears a phone call or reads an e-mail over a banker's shoulder he doesn't go running to the press. Having the deck say "Claret" gets everyone used to using it.
I am a skeptic of valuing anything on a revenue multiple basis, but I concede that it happens a lot. Here is a famous Long or Short Capital post arguing for valuation based on Earnings Before Everything.
By the way. This deck shows expected fiscal 2014 revenue of $164.9 million and Ebitda of $19.3 million, for a 12 percent Ebitda margin. Assuming very positive new TV contracts, it gets a pro forma 2014 revenue of $324.1 million, almost doubling revenue. But then it adds the entire extra $159 million of revenue to Ebitda, blithely saying, "Assumes new TV contracts create no additional cost." This gets a pro forma Ebitda of $178.5 million -- nine times the actual Ebitda -- and a margin of 55 percent. I am not an expert in NBA collective bargaining, but if I were a player representative and I saw this deck I would want to make sure new TV contracts create additional cost? I feel like the owners don't usually get 100 percent of new TV revenue? But, again, I am no expert.
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Matt Levine at firstname.lastname@example.org
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Zara Kessler at email@example.com