#9 MLS in the Spotlight: MP&Silva and Adidas with Big Bets on Soccer in the United States (Part II)

August 30, 2017

 

 

After having taken a look at the reported major bid for the global MLS broadcasting rights by London-based MP&Silva in the first part of my “MLS in the Spotlight” - Series, I will now look at an issue that has far greater substance and is less hypothetical: the league’s contract extension with Adidas to be its exclusive kit and match ball supplier for all 22 clubs until the end of the 2024 season.

Adidas signed a league-wide partnership with the MLS back in 2004 - agreeing to pay USD 150m over a 10-year period in order to become the league’s first exclusive kit sponsor. Before, MLS followed the model that is deeply established in European soccer: every club negotiated its own deal for the team’s kit sponsorship. That initial agreement was then amended in 2010, as the two sides agreed to an extension through 2018 that was worth about USD 25m annually - a notable 66% increase back then.

 

Now, let us look at the details of the most recent extension of their partnership that were communicated during the league’s All-Star festivities in Chicago at the beginning of August:

 

Given the fact that the extension for the kit sponsorship package was signed long before it would have hit the open market, both parties seem satisfied with the recent development and future prospects of their partnership. Against the backdrop that Adidas has recently pulled out of numerous high-value kit sponsorships (e.g. Chelsea London FC, FC Schalke 04, Bayer 04 Leverkusen, NBA), the big financial commitment to the MLS and soccer in the United States in general can be considered somewhat surprising. Those moves of opting against contract extension for existing kit sponsorships have been part of the company's larger strategic shift towards less but more focused and premium sponsorships - outlined in 2015 in it its new strategy of “Speed, Cities, and Open Source” for future growth. Naturally, the question arises why Adidas makes suddenly such an enormous bet on soccer in the United States by increasing the annual value by almost 470% (!) compared to the previous deal. In fact, it will be by far the league’s most valuable marketing deal - surpassing its annual revenue for its national broadcasting rights easily. A situation that is pretty much unknown in professional sports and soccer in particular.

 

In the following, I want to tackle a few of those questions that had come to my mind when I heard about the news:

 

 

#1 How does the deal holds up against other league-wide kit sponsorships?

 

In general, MLS has incorporated characteristics of both the North American sports franchise system (e.g. closed-league system, salary cap, play-off and draft system) as well as European soccer (e.g. additional competitions such as the Lamar Hunt U.S. Open Cup and CONCACAF Champions League, FIFA rules of play and transfers) - having pretty much developed into a hybrid of both. In this regard, league-wide kit sponsorships are heavily entrenched in North American sports, but an absolute rarity in (European) soccer leagues.

Compared to other sponsorship packages in sports, kit sponsorships are generally the most valuable ones - given the direct refinancing stream for apparel manufacturers by selling the league’s or team’s gear to fans.

 

 

In comparison to its North American peers, MLS’ new deal holds up very well on the monetary level: Outdoing the recent deal of the National Hockey League with Adidas for becoming its exclusive apparel supplier by more than USD 45m on an annual basis is certainly impressive. However, collecting merely USD 8m less than a global brand such as the National Basketball Association is certainly even more astonishing. Both the NBA and MLS have the advantage that their gear is more suitable as streetwear fashion (and not just training or fan gear) than NHL jerseys. Thus, apparel manufacturers that engage as official suppliers in these leagues have a more attractive opportunity to refinance their monetary investments.

The Major League Baseball for its part has just announced its new kit supplier starting with the 2020 (or even 2019) season: Under Armour. Financial terms of the 10-year contract, however, have not been released yet. Therefore, let us look at the league’s current deal for comparison purposes: After becoming MLB’s exclusive kit supplier in 2005 in exchange for USD 500m over 10 years, Majestic Athletics extended its sponsorship in 2015 by means of “a double-digit percentage increase in the annual sponsorship fee”  for five additional years until 2020. Thus, the MLS’ new deal also shines in comparison to the comparatively meager USD 55m that the MLB reaps annually.

Nevertheless, the National Football League remains the leader when it comes to economic might: Whether TV ratings, overall revenue, or the specific revenue stream of kit sponsorships, no other US sports league comes close to challenging “America’s Game”: Exact financial terms of its 3-year contract extension with Nike, which started with the current league year (2017 - 2019), have not been disclosed yet, but the previous 5-year contract between both parties (2012 - 2016) has reportedly been valued at USD 220m annually. Assuming even just a modest increase, the MLS and NBA are not able to come nowhere near the national behemoth - despite its less fashionable gear for private purposes as far as I concern.  

Still, given that the MLS is still considered to be the fifth most followed league behind the more traditional sports in the United States, the league can certainly be more than happy with its continuing partnership with the Herzogenaurach-based company.

 

 

#2 In contrast to other soccer leagues around the globe, why markets the MLS the kit sponsorship collectively as a league?

 

The centralized marketing of the kit sponsorship is deeply entrenched in North American sports leagues, but pretty much unknown in European soccer. Thus, the question arises why the league does not allow its teams to negotiate their kit sponsorships individually? Admittedly, the English Premier League is not your average soccer league in Europe - rather being the global leader in many facets - but its shows the potential upside of having the apparel manufacturers to vie fiercely against its each other for mandates on the club-level. Using this approach, the EPL dwarfs even the NFL on a cumulative basis by a far margin - totaling USD 278.5m for the current 2017/18 season.

 

(As I already mentioned, keep in mind the limited comparability of kit sponsorships between different sports given the varying attractiveness of refinancing opportunities, which are ultimately the most important determinant for how much an apparel company would be willing to pay.)

 

Against the generally inward-looking view of the American (sports) identity, the MLS has shown in the recent past that it is increasingly willing to be open-minded towards trends and best practices from Europe - effectively having become a hybrid of both worlds. I have not come across any soccer league in Europe that markets its kit sponsorship centrally. Since those leagues, despite a different ownership structure compared to US sports, have shown the ability to work together on the economic front if it is beneficial for all parties involved, it seems that tendering the kit sponsorships on the club-level seems to have been established as best practice in soccer.

 

(The most obvious example for joint decision-making of soccer clubs is certainly the centralized tendering of a league’s broadcasting rights; however, the more recent case of the switch from a centralized to an individual marketing of the sponsorship package for the visual presence on the clubs’ sleeve provides convincing evidence that European league likely will opt for most lucrative decision when deciding how to market certain rights. For instance, Borussia Dortmund’s deal with German car manufacturer Opel alone (EUR 9m) will generate more revenue as the whole league did with its previous league-wide agreement (EUR 8m) with parcel delivery company Hermes.)

 

I am not convinced that a league-wide deal for the EPL would eclipse the NFL by as much as USD 50m per year as it currently does. Therefore, why does not the MLS also adopt that seemingly more lucrative approach? I do not think that is has anything to do with stubbornness on behalf the MLS. Rather, the league is just not in the position to follow that approach just yet. Keep in mind, the MLS as a whole is still a loss-making entity with numerous franchises that were just recently jump-started, have limited tradition and fan following as well as huge financial uncertainty in the long-term. Except for a few clubs such as the Seattle Sounders FC with large followings or tremendously attractive markets (e.g. LA Galaxy, New York Red Bulls), most teams do not have much to offer for potential kit sponsors in terms of its potential for reach, exposure, merchandise sales, and on-field playing success.

 

 

Today, the priority of the league is still to establish a viable product for the long-term. Few teams would be able to generate far more than the approximately USD 5m per year based on the current agreement - depending on how many new teams will be joining the league over the coming years. The majority would end up with a lot less and endanger their future even more. The following quote by USSF executive director Kevin Payne pretty much summarizes the rationale for the approach of the MLS and its current priorities: “The MLS system is designed to create a sustainable model for the long haul where every team has the opportunity, in any given year, to compete.”

 

 

#3 Why did Adidas move on from a brand like the NBA with global appeal and recognition and instead focuses on entities such as the MLS and NHL?

 

The little difference in terms of annual value between Adidas’ 7-year USD 700m with the MLS and Nike’s 8-year USD 1,000m deal with the NBA is simply astonishing to me. In the world of ever increasing rights fees, comparisons between such sponsorship or broadcasting deals in sports can be misleading due to the time when those agreements were signed. In this case, however, both contract periods almost overlap perfectly. Thus, the question arises why Adidas opted for letting its partnership with a globally brand like the NBA simply expiring - while signing a comparatively expensive agreement with a far less established entity?

Ultimately, I major factor is that jersey sales are just a majorly important source of revenue in basketball. The very limited visual presence of the company's logo on the NBA jerseys during their partnership certainly did not help to boost sales, support the manufacturer’s visibility on television, or promote brand association with the greatest basketball league overall either. Nike was willing to pay approximately 245% more compared the USD 400m that Adidas transferred to the NBA over the last 11 years - but is now also allowed to put its famous swoosh highly visible on the game jerseys.

More vital than NBA jersey sales for the financial success of the German company in the North American market, however, are footwear sales. After having sponsored NBA jerseys for ten years, the market share of Adidas shoes among NBA players still lagged enormously compared to Nike (incl. Jordan Brand).

 

More Evidence: #MarketShareAmongNBAPlayers #SignatureShoesByBrands 

 

I consider opting against an extension of the NBA kit sponsorship not as a sign of pulling out of basketball but rather a shift of resources - that promises a better financial return on the company’s investment. In fact, Adidas invested heavily but differently ever since they decided to pull out of the kit sponsorship: To get closer to the market leader, Adidas has been focusing on signing big-name athletes to endorsement deals, listening to customers, getting shoes into stores faster and using technology to come up with new styles and designs. Just since the announcement to end the kit sponsorship, new endorsement deals for NBA players include amongst others Kristaps Porzingis (c. USD 40m over 7 years), James Harden (c. USD 200m over 13 years), Damian Lillard (c. USD 110m over 10 years) as well as several highly drafted rookies such as Joel Embiid (2014), Justice Winslow (2015), Brandon Ingram and Jaylen Brown (2016).

Then, there remains the question why signing an expensive sponsorship deal with the National Hockey League starting with the upcoming 2017/18 season? Well, I do not see a huge opportunity here for Adidas as long as you view this move on an isolated basis. Instead, I think that NHL’s previous partner Reebok, a company in which Adidas acquired 100% of outstanding shares in 2006 valuing the sports apparel brand at USD 3.8bn, is the most relevant part of this story: Reebok struggled for a long time after its acquisition by Adidas and ultimately announced a strategic pivot in 2010. Specifically, the brand pulled out of mainstream (team) sports and wanted to position itself as the brand for fitness sports. As a result, the company terminated any partnerships in European soccer and was replaced as NFL’s licensed-apparel maker by Nike in 2010. Subsequently, it closed deals with CrossFit (September 2010), Spartan Races (January 2013), and the UFC (December 2014). The re-branding efforts and new singular focus on fitness were capped off by the revelation of its new delta logo in early 2014Therefore, I think Adidas really took the charge here and facilitated its subsidiary the opportunity to continue to strengthen its position as a fitness brand.

 

Finally, there are not just league-specific reasons why Adidas opted for or against an engagement in any of the above-mentioned leagues, but I also want to emphasis two strategic factors why Adidas is probably willing to spend big on the MLS in particular:

 

(I) The fundamental pillar of its new strategy is the company’s focus on five major cities around the globe: Tokyo, Shanghai, London, New York, and Los Angeles. Having potentially two soccer teams under contract in two of its five most important cities could be huge for Adidas. Given the enormous concentration of resources on these cities in the future, the presence in New York (New York City FC & New York Red Bulls) and Los Angeles (LA Galaxy & Los Angeles FC starting in 2018) alone could become more valuable than USD 117m annually.

 

(II) There is only one other league-wide (attractive) kit sponsorship available in soccer - and this might be the only league that can keep up with the MLS in term of ambitions and expected growth: the Chinese Super League. By chance or not, Adidas’ biggest rival Nike secured that exclusive sponsorship in 2015 for the next ten years (2016 - 2026), including both all 16 CSL teams and the Chinese national team. Before, the Chinese Football Association severed ties with Adidas at the end of 2014. During the contract’s life time, the US company reportedly pays merely USD 16m annually - certainly a bargain given today’s environment and the ambitious goals in soccer by Chinese president Xi Jinping. In this light, the investment Adidas in North American soccer can be viewed as a countermove against the possibility that Chinese soccer actually comes anywhere close to its goals.

 

 

#4 Long-term Outlook for the MLS

 

Overall, the biggest challenge for the MLS will be to become financially viable before its owners' willingness to invest ends and other funding sources dry up. Given the current environment in US sports (e.g. increasing discussion about health impact of sports such as American football and ice hockey) and trends in the North American society in general (e.g. Hispanics share of currently 17% will increase to c. 23% of the US population by 2035), I believe that soccer could be a tremendous success across the whole stratum of the society in the United States. However, it will take time and the question will be: Does the “Bubble of the MLS” bursts first?

 

With regard to the covered deals (MP&Silva and Adidas) in this two-part series: Surrendering its (global) broadcasting rights over 10 years for a total of USD 4bn does not look like a good deal for the MLS to me - as I outlined above. If that would be a lucrative deal for the league by 2023, the “Bubble of the MLS” will have already been burst - or would be shortly.

The deal with Adidas, however, can really be considered as a steal for the league. Considering (I) what other major sports leagues in North America generate through kit sponsorships and that at the same time (II) the league is not in the position to adopt the European model of a decentralized tendering process just yet, the German apparel manufacturer probably became the league’s most important partner for the foreseeable future.

Given the limited potential for revenue growth given that the majority of the league’s rights packages (e.g. broadcasting right, kit sponsorships) are contracted out for years now, the league is not going to be a profitable business for anybody (#revenuesharing) for years to come. Another fact to consider about the future of the MLS is that the league does not only compete on the national market for playing talent and viewership like the NBA, NFL, MLB and NHL, but on a global level against qualitatively better products of the German Bundesliga, Spanish La Liga, and the English Premier League. Due to the implementation of the "Designated Player Rule" to attract high-profile players from overseas, it does not benefit fully from its salary cap to control costs like other major sports in United States neither. An uncapped cost side while having limited upside on the revenue side can certainly not be a comfortable situation for the owners.

 

The term “Bubble of the MLS,” which I just used a few lines above, came to my mind when I read the latest valuation of MLS franchises by Forbes. EBITDA-multiples of 30x - if having a positive EBITDA at all - are more reminiscent to high-growth tech companies than sports clubs whose revenue growth is seemingly rather limited for the next years.

 

I do not want elaborate further on other concerns such as the risk of an "over-expansion" due to an insufficient talent pool and an even more watered-down product as a result. The priority of the MLS has to be to provide an investment- and youth development-friendly environment on its way to build a “league of choice” before starting to think about issues such as a system of promotion and relegation, incorporating a more European-like youth development system as well as adopting the season calendar of Europe's major soccer leagues. It has to look for its niche on the national landscape first before thinking globally.

 

(Example I: I heard many Germans, who have been attending US college on an soccer scholarship, complaining that the current system and its alignment with the MLS are no nowhere near to be a supporting environment for their development - especially compared to major US sports such as American football and basketball.)

 

(Example II: Keep in mind, the soccer season in Europe heavily overlaps with the seasons of the NFL, MLB, and NBA.)

 

For the upcoming years, the league can count on the incoming expansion fees as a lifeline (or life support?) - which will provide the league some financial breathing room. I also think that the league has with Don Garber a very capable man at the helm. And at least Adidas believes in the future potential of the MLS: “My guess is within 10 years, from a youth participation standpoint, soccer will be the biggest sport. And if kids who play soccer continue to be fans of the sport, then yeah, if you’re talking 20 to 30 years from now, I think MLS can be as big as NFL.” (Adidas US CEO Mark King)

 

Final nugget: A move to the United States or China is considered by many as the end of the international career of players. David Villa just proved the opposite by being recalled to La Roja after a 2-year absence in the wake of joining New York City FC in 2014.

 

 

I hope you enjoyed my take from a German perspective on the future of the MLS. I would be happy about any feedback and discussion, whether directly at yannick@offthefieldbusiness.de or in the comment section on the homepage.

 

 

 

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