Once again, the Real Madrid football team has broken the record for sports signings, paying 94 million euros for Portugal’s Cristiano Ronaldo, and 65 million euros for Brazil’s Ricardo Izecson dos Santos Leite, otherwise known as Kaká. But how will these moves play in terms of public relations, especially in the current economic climate? And will the team be able to recover its investment? In an interview with Universia Knowledge at Wharton, Antonio Martín, director of the IE Business School’s graduate program in sports management, and Francesc Pujol, member of the University of Navarre’s Economics, Sports and Intangibles Research Group, respond to these and other questions about the business of sports. The two scholars recently published a report about the marketing value of football in the 2008-9 season.

UKnowledge at Wharton: Sports, in general — and football, in particular — is a business that deals in billions of euros, even during the current economic downturn. Caja Madrid and Santander banks will underwrite the recent signings of Real Madrid with loans of 153 million euros. Are the two football players — Cristiano Ronaldo and Kaká — worth that price? Do you believe that this investment will wind up being profitable for Real Madrid?

Antonio Martín: The reality is that the price of a soccer player winds up being set by the marketplace, based on the interests of the two clubs and the interest of the player. It is unimportant to try to find any rational reason for this price. It is true that these figures have an impact, and that we are in a very difficult economic situation. But people are also buying and selling companies, and we don’t question the salaries of other kinds of social figures such as business executives, artists and politicians. Soccer clubs like Real Madrid, FC. Barcelona, Manchester United and Chelsea are authentic sports multinationals. Their budgets far surpass 300 million euros, and in some cases approach 400 million. Any of them would be in the highest ranks of companies in many countries.

As a result of these contracts, the value of corporate sponsorships [of Real Madrid] clearly increases. This gives Real Madrid the chance to renegotiate its contracts with its sponsors. This is about players whose media exposure goes beyond one country or one continent because they are athletes of global standing. As a result, the Real Madrid brand gets a very strong boost, more than it already has, and that opens new routes to sponsorship for it. When it comes to sponsors with a national reach – Mahou beer – and those with a global reach – Audi – perhaps these contracts enable those sponsors to aspire to improve their global brand. [It also allows Real Madrid] to search for sponsorships on a local level in other countries…. For example, Real Madrid could negotiate a sponsorship deal with a Japanese or Latin American beer. It could do this because its global positioning has clearly grown.

In addition, there are other routes to pursue such as radio and TV rights. This much is clear: Real Madrid has already sold those rights to the Mediapro production company at a closed, fixed price. But when the club organizes a tour, an exhibition game or some unusual event, Real Madrid is now a brand with better global positioning, so its radio and TV rights will have a higher value. All of those activities are in situ businesses, such as visits to the stadium, food purchases, merchandising. Beyond that, its brand will grow because of the fact that the team is now much better known.

The improvement in Real Madrid’s global positioning also opens new horizons for it in the realm of [product] licensing. Beyond uniform shirts, there are an infinite number of products that could bring [overall merchandising] revenues of some 10 million euros. In the past, the team was able to take in between 5 million and 7 million euros from merchandising. Now, thanks to these contracts, it could take in 2 million or 3 million additional euros as a result of added interest from other countries, markets and product sectors. With respect to tours and exhibition games, Real Madrid used to earn 1.5 million or 2 million euros for playing in China or the U.S. Now, they are in a position to ask for a higher sum. It adds up to a significant amount of money if, over the course of four or five years, the team can improve its revenue stream for every pre-season game by 20% to 30%, compared with before [the signings]. In addition, there are other aspects of the club that benefit a great deal. For example, Real Madrid’s TV channel can sell programs about the team’s activities and events that attracted less interest in the past. Now, when the [two] new players are introduced, many channels will ask them for interviews.

These revenue streams are not just going to come from [sales of] team jerseys, the way many people think. The big question is: How long will it take Real Madrid to recover its investment? Don’t forget that we are talking about athletes, and it depends on how well the players perform — the results that they achieve [on the field], and whether they are injured. Using a range of economic figures, we can conclude that, at best, they will manage to recover their investment within five or six years. But you have to remember that we are talking about people, about athletes.

Francesc Pujol: The point of departure for our analysis leads us to say that you have to view these contracts as an investment. That’s the way Real Madrid and the banks have looked at this. As an investment, this calculation of future profitability is tied to uncertainties. And like every investment, this one is subject to risks. The first thing that you have to figure out is this: Have they bought these assets for a price that gives the team a reasonable chance of recovering its costs? Have they paid too much? In our analysis, based on these athletes’ media value, we were able to establish a fair market price for Cristiano Ronaldo of 82 million euros, and for Kaká of 63 million. Our interpretation of this data (based on an econometric analysis of the transactions in the marketplace over the past three seasons, for more than 300 signings) is that the overall marketplace is not wrong. And if the market does not make mistakes, and if these evaluations are made in a way that makes buyers and sellers happy, then this means that they [Real Madrid] should be able to recover their investment in the five years that were forecasted.

We conclude that Kaká’s signing price is not excessive because the money that is being spent on him should be recovered. Ronaldo’s higher signing price makes sense for him, nevertheless, even if the team paid 94 million euros for him plus commissions; it is not very clear if commissions are included. We have estimated Ronaldo’s value at 82 million euros. This means that they themselves are working from a broadly optimistic scenario about the future. Short term, it is clear that they are going to increase their revenues after these stars join the team. However, it is an investment that they have to get a return from within the next five years. The current value of Ronaldo and Kaká, in media terms, is at the highest level, and this generates revenue. However, in order to recover this investment, they’ll have to wait another two, three or five years when these athletes’ media value rises [still] higher. By paying more than they needed to, what Real Madrid is saying is, “We hope that the value of these players in the media continues to go up over the next few years; we hope that we win championships and a European Cup, and we recover our investment that way.” However, this scenario could turn out to be too optimistic. If their performance [on the playing field] is only ‘okay’ they won’t recover all of their investment. And if their performance as players is bad, [Real Madrid] will lose a significant amount [of money].

UKnowledge at Wharton: These signings coincide with the return of Florentino Pérez to the leadership of Real Madrid after his departure nine years ago. But the current economic context is very different. At times like these, when excessive executive compensation has been criticized so much, do you believe that paying these sorts of salaries could damage the image of Real Madrid or any other team that commits such excesses?

A.M.: On the one hand, fans and members remember Florentino Pérez more for the positive things than the negatives. [The team won several titles between 2001 and 2003, but they didn’t win anything else until 2006, when he resigned.] These signings act as motivators, especially after the results of the latest season [when they did not win any title], when they lost at home to Barcelona by a score of six to two.

As for salaries, athletes have a very limited professional lifetime. And, on the other hand, when we talk about these numbers, although they are certainly spectacular, it is socially acceptable for athletes and professionals to be remunerated far above the usual average. I don’t believe that this idea is offensive if people devote themselves to a club, or wear the team’s colors, and so forth. Perhaps the larger problem is for the financial institutions that provide the money, but I don’t believe that Real Madrid will be harmed.

F.P: People who are not soccer fans view the sport as something that attracts too much attention. But those people and the press are not very important for Real Madrid because those people weren’t buying uniforms or tickets before [the signings] and they won’t buy them now. What’s more important about these deals is the public perception of Real Madrid and the brands with which it may want to associate itself. We’ll have to see what the perception [of the team] will be over the long term. Short term, all the communications media are getting involved, along with all sorts of analysts. So factors that have nothing to do with football itself are having a growing impact. But over the long term, what ultimately matters is the impact that Real Madrid’s athletic performance is going to have [on the value of its brand]. What matters is the kind of impact the signings have [on the brand] and whether the Real Madrid brand rises or falls [as a result.]

UKnowledge at Wharton: Looking beyond soccer, what does the profitability of sports events depend on nowadays? How is the economic crisis affecting sports? What changes will we be able to see over the short and medium term as a result of today’s adverse conditions?

A.M.: There are two types of revenue streams: Direct revenues from the event itself, through sponsorship, ticket sales, food sales inside the stadium and the athletic complex; merchandising and media rights; everything that the event itself can generate. Then, there are the indirect revenues, which come through the promotion of the event. When you organize a tennis or PGA tournament, the city and the country benefit because you manage to put it on the map all around the world. Then, there are the activities that you do jointly with your sponsors. That is to say, a sponsor can promote an event because it is interested in having the people know that it is associated with it. For example, Repsol gives “free” publicity to the F1 trials in Montmeló, Barcelona, and announces that between six and eight months before tickets are sold.

Companies have cut their marketing and communications budgets, and there is a direct relationship here. Those companies and institutions that are involved in the sports world are experiencing the same kinds of problems as companies in the consumer goods sector; that is, a significant decline in consumer spending, lower budgets and overall cuts. I don’t think that we will see any drastic changes. What we will see is that clubs and event organizers will tighten their belts.

F.P.: The sports world is a business sector very much like films and music, and it is very closely tied to the spectacles that it presents. You don’t measure it by the quality of the product that you are offering, but you value it as a function of the media impact it generates. It can have a great deal of value but if you are not aware of that value, you cannot make money from it. It is a sector where visibility is everything, and visibility is provided through the communications media. The capacity of a club, or tennis player or sports event to generate income is tied to the media value that it generates, and that value is tied to its athletic success. However, there are some media events that have more media impact than others. How much impact you have in the media decides the value of the brand and the visibility of that brand. That visibility is what generates revenues later on through television rights and sponsorship contracts.

The structure of revenues from sports events is tied to advertising: directly, through sponsorship, and indirectly, through television rights that are financed through advertising. During times of crisis, advertising rights decline significantly. Although the media impact of sports events does not decline, the profitability of this media impact declines because the sponsorship and advertising pie is reduced, because companies don’t have access to cash to spend on brand image or on advertising. In that sense, although we don’t see any drop off in the media impact of sports, since the pie has been reduced the news generated by a sports event generates less profitability during a crisis than it does during good economic times.

Those sports events that have an inflexible spending structure will suffer, as well as those that cannot reduce their costs. That’s because revenues will decline by 20% or 30%. There are some events that are closely tied to prizes that they have to deliver, or to premiums that they have to pay to one group or another. Those companies that are unable to reduce this [kind of expenditure] are going to suffer because they won’t have enough financial muscle to deal with two bad years, and they won’t be able to meet their expenses.

UKnowledge at Wharton: From the viewpoint of soccer players, how do you divide the revenue pie? Are athletes well advised today when it comes to where and how they should be investing their millions?

 A.M.: Generally speaking, elite athletes, both in soccer and the NBA, are very well advised, potentially. They have a representative who manages what they earn from sports, and an entire group of advisors, including lawyers to deal with contracts; tax advisors, who play a very important role in this type of contracts; and investment advisors, who invest their money. The teams themselves are the first people to care about whether athletes have a hard time dealing with these areas; they are careful to see that their athletes address tax issues correctly. The last thing they want is scandals.

F.P.: There is a strong infrastructure for generating a higher level of revenues [for athletes], both from marketing and legal points of view; a support structure that permits each player to maximize the revenues he can earn by taking advantage of his media impact. There are some companies in the sector, such as Havas Sport, whose mission is to set up contracts with business agents so that major athletes can maximize their ability to make money. At the same time, they make sure that the brands these athletes associate with do not wind up lowering the players’ value. In that regard, these companies are very accomplished and professional. The other part — what they do with the money they earn — is left more to the judgment of the player’s business agent. That depends on whether the player is getting good advice from his agent.

UKnowledge at Wharton: Off the playing field, has the role of team managers been professionalized a great deal? In what areas does someone have to be outstanding or a specialist in order to find a job in this sort of institution?

A.M.: Sports and sporting events are a very ephemeral product. A season lasts nine months, and an event lasts only a few days. Managers need to be very well trained professionals who are used to making very quick decisions. There is a growing shortage of people who are well prepared, and who have a certain level of specialization. In the past, the mindset was that clubs had a single director who did everything; that idea has been replaced by a general manager and various people who are in charge of specific areas, such as taxes, administration, and so forth.