The Logic Of The Prokhorov/King Model
With a 96-94 loss to the Miami Heat in Game 5, the Brooklyn Nets' season came to an embarrassing end. A team that spent $190 million in payroll and luxury tax penalties couldn’t take the defending champions to a sixth game. Mikhail Prokhorov, like so many owners before him, wasn’t able to buy a championship in free agency or even get particularly close. However, if you think he’s losing money on the Nets, you need to take a closer look at how he does business.
Prokhorov didn’t come from a lot of money. The son of a lawyer and an engineer in Russia, he graduated from the Moscow Finance Institute in 1989, during the final stages of the Cold War and the dissolution of the Soviet Union. Prokhorov famously started a business selling jeans in college, but his big break came from developing contacts as he worked in the Russian financial world of the early 1990’s, moving into a management position at the United Export-Import Bank.
He was in the right place at the right time - perfectly positioned to take advantage of the rapid privatization of industries and assets that had previously been controlled by the state. After being owned and operated by bureaucrats in the name of the Russian people for generations, massive holdings in the energy, industrial and financial sectors were suddenly up for sale as the continent-sized country underwent a turbulent transition to capitalism in a few years.
The cash-poor new government, in desperate need of money, agreed to loans from private sector banks like Prokhorov’s, with collateral coming in shares of previously state-owned industries. However, only well-connected banks were allowed in the auctions for these sweetheart loans. When the government inevitably defaulted, Prokhorov and his business partners had gained controlling stakes in Siberian mining interests for pennies on the dollar.
The most important of these assets was Norolisk Nickel, which produced one quarter of the world’s nickel supply. Prokhorov’s bank ended up paying around $170 million for a business with over $400 million in annual profits. Almost a decade later, when he sold out his interest in the company after a falling out with some of his business partners, it was valued at over $7 billion. As the old saying goes, behind every great fortune lies a great crime.
With money like that, buying the Nets for a little over $350 million (counting assuming of debt) in 2009 was nothing for Prokhorov. Just as important as his stake in the team, he also received a 45 percent interest in the new Barclays Center which would be built in Brooklyn. And just like in Russia, he bought the team at the perfect time, before their relocation from New Jersey was complete and before the ugly 2011 lockout which resulted in a far more owner friendly CBA.
As soon as he bought the team, he began pouring money into the roster with seemingly no regard for costs. Under the leadership of GM Billy King, the Nets pushed their payroll to stratospheric levels in their first few years under Prokhorov. The idea was to build a contender that would instantly bring credibility to the franchise in the New York marketplace, with high-priced stars like Deron Williams, Joe Johnson, Kevin Garnett and Paul Pierce.
Four years later, the Nets don’t seem any closer to winning a championship. Despite the king’s ransom in future first-round picks they paid for Pierce and Garnett, there’s no guarantee of how much longer the two clearly declining stars play in the NBA. Williams and Brook Lopez, meanwhile, are both battling serious long-term injury concerns. Even if they can stay healthy, the Nets options for improving their roster in the upcoming years are fairly limited.
The good news for Prokhorov is that it doesn’t really matter - he can sell the franchise at any time and make all the money he has spent back four or five-fold. With the Sacramento Kings selling for over $534 million in 2013, how much money would a franchise located in the middle of one of the richest cities on Earth go for? Lawyers for Bruce Ratner, the previous owner, estimate that the Nets alone, not counting the Barclays Center, are worth well over $1 billion.
Prokhorov also has the option of buying a stake in the Atlantic Yards development project which surrounds the Barclays Center, currently valued at over $4.8 billion. As you would expect when the money starts to get that large, there was a fair deal of controversy surrounding it, particularly the city’s use of eminent domain to buy up the property of the previous owners. And when you start talking money like that, what’s some luxury tax penalties between friends?
In their own way, major professional sports franchises in the US aren’t that different from the state-owned industries of Soviet Russia. The NBA has an effective monopoly on professional basketball in the US, so it’s almost impossible for the league’s franchises to lose value. If Donald Sterling eventually sells the Los Angeles Clippers, don’t feel too bad for him - he’ll make over a billion dollars for literally doing nothing to improve the club in his 30 years of ownership.
The great comedy of lockouts where owners cry poverty about how much money their teams lose is those losses have almost no impact on the ultimate value of their investments. If you are looking to park a few hundred million dollars, there’s almost no better investment than a professional sports team, particularly since you can always threaten to move the team to another market and force the government to pay for a new stadium and other capital upgrades.
In the modern economy, there are two ways to make a fortune - you can start a company like Google that revolutionizes an industry or you can be a politically connected insider that benefits from a backroom deal for control of public goods. When it’s all said and done, Mikhail Prokhorov will make over a billion dollars from his time as the owner of the Nets. The game is the game, whether you are in Russia, the United States or anywhere else in the world.