If we want to model the baseball management decision, we need one that is a bit more nuanced. Certainly owners enjoy the cash flow that a team can generate, but that isn’t the only source of enjoyment. Sports franchises with no history of profitability still find wealthy men bidding furiously when they come on the market. Owners are fans… and like fans they enjoy winning. In a way, a team is a large, expensive and exclusive toy. Since they are so exclusive, the value of the team is likely to increase rapidly even if that team doesn’t appear to be a viable business.
So, a better assumption than maximization of profits might be that owners maximize the probability of a championship – but they do so subject to constraints. Each team will set a budget and spend it to give themselves the best odds they can. If an owner didn’t care about winning and only about profits, they would probably invest their money elsewhere. Unless their last name is Loria. Yes, Warren Buffet does own a baseball team, but it isn’t a major league one. The baseball franchise itself helps to pay its own cost of competition, but how much each market can contribute is unequal. This is a part of the budget constraint that each team faces. The other half is the willingness of owners to accept low or negative profits.
Given the tremendous expense of a baseball franchise, holding on to that team presents a huge ‘opportunity cost’ to the owners. Before the 2010 season Forbes magazine estimated the value of the New York Yankees at $1.6 billion. If the Steinbrenner family could have sold the team and invested that $1.6 billion in hedge funds instead – getting an 8% rate of return, holding onto the team represents foregone income of $128 million. If the team makes less than $128 million in profits – that means that the Steinbrenners have sacrificed some potential income for the joy of owning the team. Since Forbes estimated the Yankees profits in 2009 at $24.9 that would imply that the Steinbrenners were willing to give up $103.1 million to chase championships. The same goes for any team… management can spend whatever revenue the team is able to generate plus whatever additional money the owner is willing to contribute to the cause. The Florida Marlins, on the other hand were estimated to be worth $317 million and had profits of $46.2 million – that is more profit than Mr. Loria and friends could likely have earned in most other investment and it implies that they aren’t interested in contributing anything at all to see parades in Miami. The odd case of the Marlins is one of the few in the MLB that fits the economists assumption of true profit maximization.