Free Ride, Take It Easy: An Empirical Analysis of Adverse Incentives Caused by Revenue Sharing

Abstract

A fundamental belief in professional sport leagues is that competitive balance is needed to maximize demand and revenues; therefore, leagues have created policies attempting to attain proper competitive balance. Further, research posits that objectives of professional sport teams' owners include some combination of winning and profit maximization. Although the pursuit of wins is a zero sum game, revenue generation and potential profit making is not. This article focuses upon the National Football League's potential unintended consequences of creating the incentive for some teams to free ride on the rest of the league's talent and brand. It examines whether an owner's objectives to generate increased revenues and profits are potentially enhanced by operating as a continual low-cost provider while making money from the shared revenues and brand value of the league. The present evidence indicates that, overall, being a lowcost provider is more profitable than increasing player salaries in an attempt to win additional games. Articles in the popular press and trade publications have specifically discussed the recent profitability "problems" in professional sports and their possible link to league revenue-sharing models (Bloom, 2006;Dosh, 2007 These anecdotal examples suggest that, in North American sport leagues, it might be possible to increase overall net income by fielding a less expensive, and often less talented, team.When one franchise in a chain of restaurants, for instance, can maintain or even enhance profitability by consistently offering sub-par service because the other members of the chain support marketing activities that enhance the brand value, free riding has occurred (Lopatka & Herndon, 1997). In sport, if a free-rider could reap larger profits than other teams in its league through the decision to decrease operational expenses, the overall brand value of the league could eventually decrease.The purpose of this study was to empirically test whether free riding exists in the NFL.The NFL was chosen for analysis because it shared approximately 70% of its overall revenues among its franchises, a greater percentage than any other major North American professional league (Alesia, 2002;Bell, 2004). Just as important is the availability of sufficient NFL data, compared with other leagues, to test these ideas. Lopatka and Herndon (1997) There is certainly the possibility that other leagues have free-riding franchises that lower player quality while generating greater profits, but the NFL's revenue-sharing model and sources of shared revenue (primarily its national television contracts) spurred this investigation. Contrary to previous literature, this article directly tests the impact of free riding on team profits and the Free Ride, Take it Easy 5 resulting incentives involved. While revenue sharing is not necessary to cause free riding, it can serve to enhance the incentives for owners to free ride. This article shows that free riding does exist in the NFL (utilizing 10 years' worth of team level d...

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“…Under profit maximisation, depending on the type of sharing (e.g., gate or pool sharing), the types of revenue included and the relative importance of winning and competitive balance in the revenue function of a club, revenue sharing could have no impact, improve the competitive balance, or even worsen it (Dietl, Grossmann & Lang, 2011;Kesenne, 2006a). Another potential negative effect of revenue sharing under profit maximisation could be that in a competition without relegation, incentives to invest in talent diminish, as low-cost teams can free-ride on and earn profits from the revenue sharing arrangements (Rascher, Nagel, Brown & McEvoy, 2011).…”