Interview: Jorge Costales — business of baseball fiend

For those of you who haven’t read his work, Jorge Costales is an accounting and tax consultant for small businesses. In his spare time he tries to dissect the Marlins’ financial situation to find out how much loot Jeff Loria is trousering. You can read his work at his personal website 2thinkgood.

Regular readers of THT know that I tend to get on my high horse when it comes to business of baseball matters, especially the Forbes accounting data. To this end Jorge and I share a similar passion, so he graciously agreed to answer some of my banal questions:

The interview

John Beamer: Before we kick off do you want to say a few words about yourself for the people who don’t know you so well?

Jorge Costales:
I grew up in pre-Marlins Miami. Aside from Baltimore Orioles spring training games, the connection to MLB came through the NBC game of the week with Curt Gowdy and Tony Kubeck and the Atlanta Braves radio broadcasts which were picked up locally [don't recall what Friendly Bob Adams was selling, but it was often].

My career path may have been revealed when I chose to keep a scrapbook of the entire 1972 season [age 13] for both the Dodgers and Yankees along with my handwritten and computed stats. In a rare instance of good judgment, I dumped the evil empire [Yankees] for the Dodgers & the National League after the season. Buying the local afternoon paper [the now-defunct Miami News] on Saturdays to scan the west coast pre-USA Today skimpy boxscores with Kreskin-like powers of deduction, was my idea of fun. Surprisingly, I am today a CPA.

I left the Dodgers with Lasorda and thankfully the Marlins came in as a National League team. I have been a fan of the Marlins since and have survived and/or outlasted two carpet-bagging ownership groups and fully expect that number to hit five before Gloria Estefan’s grandkids purchase the team in 2025.

JB: Jorge, you’re a CPA and a Marlins fan … how long have you been interested in the business of baseball and what work have you done in the field?

JC:My interest in the business of baseball was solely driven by being a Marlins fan and a Miamian who hoped to see the team stay in the area. In the last few years, as the Marlins’ payroll was significantly reduced, I would read and listen in slight amazement as the team’s management suggested that they were not profitable. I understood their motivations, but that’s different than considering it ethical, especially while simultaneously soliciting public monies for their new facility.

This year after the Cabrera & Willis trade, I decided to try and document their profitability using the Forbes numbers and any other information I could obtain in the public domain. While I used my professional background to produce the work and give the P&L a look of authenticity, none of it was work produced for a client, unfortunately.

JB: The new Forbes numbers came out recently. What did you make of them and where do you think the biggest holes are?

JC: Since my interest in the Forbes numbers is so specific as to the Marlins operational profits, the numbers this year once again confirmed the obvious as to their continued profitability. I did some analysis with the non-player expenses for the five teams under $150 million in revenues and found those figures to be within reasonable ranges of 38-44 percent of revenues—with the Minnesota Twins as an outlier at 30 percent.

I know you have done some work which questions the Forbes valuation methodology, but even there I noted that you did not take issue with their revenues reported as opposed to expenses, which you indicated may have been understated in the years prior to 2005.

JB: What do you make of the Marlins’ numbers specifically? Do you have a feel for anything that may be missing from them?

JC:
I don’t have a feel for what may be missing. As opposed to other teams, the Marlins don’t have a team-owned RSN and a very limited local revenue stream. My understanding is that those are the two areas most susceptible to hidden revenues and/or inflated expenses. The Marlins’ non-player expenses line item—the National & Other Local Expenses—is within a reasonable range for comparable revenue teams.

In fact, the Marlins’ lack of revenue options, which drove their efforts to obtain a new facility and provided them the advantage of negotiating with MLB’s relocation stick at their side, probably make the analysis of their finances simpler than any other MLB team.

JB: You mentioned after the Cabrera trade you did some work to document the Marlins’ profitability. What were your headline findings?

JC: While Forbes provides the most vital elements of MLB’s financial puzzle, there were gaps to be filled on the revenue side. Namely, the breakdown between the local vs. national revenues—Forbes provides the revenue from gate receipts and the total revenues.

In 2006, MLB released details of national revenues for 2005—both the Central Fund and Revenue Sharing for each team. This was very useful because it allowed me to confirm the reasonableness of assuming a moderate [7 percent] growth for the non-Gate Receipts-related Local Revenues based on the USA Today individual account forecasts for 2001 as a starting point. As a reasonableness check, the USA Today 2001 individual revenue account forecasts [published in Nov 2001] reported $79 million in revenues vs. Forbes subsequent reporting of $81 million in revenues for the year 2001.

In 2004 there was a State of Wisconsin review report on the finances of the Milwaukee Brewers. That report provided Central Fund revenues from 1998 through 2003 and confirmed the Central Fund revenues reported by USA Today in 2001. In a 2004 article, Rob Manfred from MLB, noted that the Marlins had received $41 million across the two years ending in 2003 in Revenue Sharing monies. Each of these independent confirmations help build the case for the reasonableness of the Forbes estimates and the manner in which I have broken them out for presentation purposes. I’m sure there is more reporting out there which can help narrow the estimates on the P&L I created, but I have not yet come across them.

JB: The Marlins have (or look to have) secured funding for a new stadium. Can you enlighten us on how the franchise intends to finance the stadium?

JC: I reckon that the Marlins are planning to use Revenue Sharing [RS] monies to finance their portion of the stadium construction costs. I would have said that the Marlins are using their RS monies to reduce any debt from the purchase of the franchise—approximately $24 million out of pocket on the cost of the franchise, net of the price for the Expos and the $15 million interest-free loan eventually forgiven by MLB—but those $24 million would have already been recouped by operating profits totaling $44 million through 2007. So a case can be made that since halfway through 2007, the Marlins have been saving their RS monies for their planned contribution towards the stadium construction.

The team is supposed to cover cost overruns, unless delays are caused by the city or county. I am starting a pool on when the Marlins will initiate a lawsuit which will allege that delays are the local government’s fault—over and under on the date of the lawsuit is July 2009.

The team’s contribution is supposed to be $155 million, of which $35 million will come in the form of annual rent payments. So their target booty is $120 million. At the end of 2007, based on their operating profits less their out of pocket cost for the purchase of the franchise, they are $20 million there. The Pirates recently disclosed that they are scheduled to receive $35 million in RS in 2008. I think it’s reasonable to assume the Marlins would receive at least that much.

So if the Marlins maintain their current strategy—in effect budgeting to break even while ignoring RS monies in the equation—they would have fully funded their stadium obligations by 2010, just in time to increase payroll for the stadium opening in 2011. In a way, the Marlins have accomplished what the federal government can only dream of, a [RS] lock-box that really works. Amazing, who could have predicted that John Henry would end up helping to pay for a stadium in Miami, years after he sold the team!

JB: What impact do you think the new stadium will have on the revenue and expense line? Also what do you think the scope will be to increase the payroll?

JC: The Marlins should have a significant increase in terms of ticket prices, naming rights, luxury boxes etc. If I draw a rough comparison with estimates of what the Pirates derived in 2007 from Gate Receipts & Other Local Revenues, the Marlins could expect to receive an additional $30 million in yearly revenues, which would be partially offset by a reduction in RS monies received as their revenues increase. So a $20 million-per-year increase would be a conservative estimate.

I would expect to see most of those monies applied towards player salaries as the team attempts to rebuild fan interest. Until then, building up their stadium fund clearly appears to be their #1 priority. They assume fans will have short memories. P.T. Barnum and Jeffrey Loria apparently have similar opinions of their customers.

JB: With Hanley Ramirez now signed to a longer-term deal how does that change your thoughts on this team and their finances? A cynical view might be that the Marlins have locked up a great player at a discounted (ish) deal so they can shop him in a couple of years to the highest bidder?

JC: As a Marlins fan I was thrilled with the news. However, upon closer inspection the signing by itself does not represent a shift in strategy in terms of the Marlins pocketing all their revenue sharing monies since 2005. The first two years of the contract [2009 and 2010] prior to the scheduled opening of the Marlins’ new ballpark [2011], his contract is for $5.5 and $7 million—both years would represent a savings to the Marlins compared to what he would have likely been awarded in arbitration. This combined with the fact that the Marlins reduced their major league salaries by $9 million heading into 2008, means that even with the new Ramirez contract, the Marlins are still scheduled to be under their 2007 major league salaries level in 2010, based on current salaries of course.

This is an important point for Marlins fans to grasp, given that when management is asked if they intend to lock up some of their other good young players, Uggla etc—the response, in effect, is that they can’t afford to lock up the others, Ramirez was the exception. I think most fans would be surprised to learn that the Ramirez deal still leaves them under their 2007 major league salaries level. The bottom line is that when you can double your 2008 opening day major league salaries and still have the lowest payroll in MLB—no amount of spin can make you look generous. The Marlins could sign three more Hanleys and not yet reach the salary level of those wild-eyed spenders in Tampa.

JB: The Marlins have surprised everyone this year by charging to the top of the division. Do you think if the team is in the mix come July that the ownership will splash out on a couple of players to lead a division charge?

JC:
Obviously, I don’t think they expect to make the playoffs, but I think it’s very important to management to appear to be willing to spend money to improve the team, without actually making any significant financial commitments. So I believe they would add a veteran player who might help—especially a pitcher—but in true Marlins style, someone who would not represent a commitment beyond the current year.

JB:
The Marlins don’t use revenue sharing for its intended purpose. Is this a problem and any idea how it can be fixed?

JC: The issue of how to deal with teams which don’t use revenue sharing [RS] monies for their intended purpose is a problem for MLB. It undermines the entire revenue sharing structure which most would argue has served MLB well. Whatever “on-field performance” has come to be interpreted as in order to meet CBA provisions is almost irrelevant; it clearly was meant to help low-revenue teams compete by allowing them to increase their payroll beyond their normal means—MLB’s version of the ‘keep hope alive’ mantra.

The 2008 Florida Marlins are making an argument against a salary base. The fact that no salary base was part of the new CBA probably means that it had some support, but not enough votes this time around. But not wanting teams to profit from RS monies received is a two-part equation. Salary expenses are only one side of it. The other is revenues.

Why not limit RS-receiving teams revenues by forcing them to refund a certain amount of the RS monies received back to their fans? Begin with season-ticket holders and other fans which have purchased ticket packages. Reduce ticket prices dramatically for defined periods.

The mechanics can be worked out obviously, but the philosophical rationale is straightforward—eliminate the incentives for teams to pocket their RS monies. That way, those teams who wish to go with young players and minimum salaries can do so, but without the full MLB welfare check. What is it we say in business: a principle is not a principle until it costs you something.

This idea would address MLB concerns about teams pocketing RS monies, avoid a salary base which limits a team’s independence, create goodwill among their loyal fans and likely increase attendance. It probably won’t happen, but someone please tell me why it shouldn’t happen?

JB: Finally, we’re all familiar with the Moneyball hypothesis that due to market inefficiencies there are parts of the market where abnormal returns are still possible. If you were a general manager is there any area in baseball ops (eg, the farm, scouting etc.) where you believe there is serial underinvestment?

JC: Sorry John, but I would be grasping here so I’ll have to pass. The one area where I’d like to see more research is on pitching injuries—I think that area is ripe for radical approaches. Are pitchers more fragile toady’s than they once were, etc. That’s my perception—I’d love to see analytics about that.

References & Resources
Many thanks to Jorge who took the time out to answer these questions. Don’t forget to check out his site.

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