Thursday, August 13, 2009

IndyCar Glory Days - Part III

The total cost of IndyCar racing surpassed the market value of the product at some point during the mid-1990s. By then, sponsorship had essentially become a matter of underwriting what would otherwise have been losses, plus a little more to create the appearance of profit. For example, it is well documented that untenable variable costs make temporary circuits too costly to be profitable unless they are supported by either a government entity, a corporation, or both.

The operations of several CART teams were underwritten by automotive manufacturers Ford, Mercedes-Benz and Honda prior to 1996, when Toyota joined the series. Manufacturer participation provided a necessary infusion of cash, but even this was not enough.

The remaining CART sponsors tended to fit into one of three categories: tobacco, supply chain, and connections. Of these, only tobacco used racing for the sole purpose of marketing its product to consumers, primarily because it was not allowed to advertise anywhere else. This delivered a non-market cash windfall of incredible proportions to team owners and promoters that were fortunate enough to have tobacco company sponsors, some of which were not even publicized.

Teams supported by Marlboro, Player's, Kool, and Hollywood collected revenues that were in no way correlated with consumer demand for the racing product. Furthermore, these brands were not welcome in NASCAR because RJ Reynolds' Winston was title sponsor of the premiere NASCAR Cup Series. In technical terms, CART teams, promoters, and the sanctioning body itself collected economic rent - returns that exceed the cost of capital and are not subject to the discipline of an efficiently functioning market - via cigarettes. The IRL did not have significant tobacco sponsorship, but there is no reason to believe that it didn't want to get in on the action.

Thus, CART was subsidized by tobacco money. The IRL was subsidized by Indianapolis Motor Speedway money. Teams in both series were therefore able to incur costs that a normal, properly functioning market would not have permitted. Meanwhile, manufacturers and marketers of consumer products continued to migrate to NASCAR, where teams kept working - fabricating, molding, tooling, and now selling sponsorships at increasingly high valuations that were fully justified according to prevailing advertising industry metrics. NASCAR attendance and television ratings increased in a non-linear progression. The cost of raw materials remained relatively low. The cost of labor - salaries for the drivers and crews - increased dramatically, and for the right reason: those individuals added tangible value to the NASCAR racing product.

The IRL and CART - and now the IRL IndyCar Series - made use of supply chain leverage (Target, Kmart, 7-Eleven) and the personal connections of team owners and drivers (take your pick) to inflate budgets to levels that exceeded the market value of the racing product. The stories are well known and need not be repeated here. Team Penske is the last of the tobacco-supported U.S. racing teams, a scenario that is likely to end sooner than later. IndyCar teams are no more industrious now than they were 20 years ago. They manufacture almost nothing and remain focused on sales to corporate agents. But corporate marketing has become a research and data-driven econometric quasi-science in which personal selling is secondary to quantitative analysis. In the case of IndyCar racing, the analysis is not kind. Lone decision-makers like John Menard are too few to make up the difference.

The good news is that opportunity is at hand. Recession has left NASCAR participation overpriced. That does not, however, mean that the IRL is currently a good "value opportunity." It is not. It just costs less to run 17 races in the IRL than it costs to run 34 much more popular races in NASCAR Cup. We provide relative valuations of NASCAR and IndyCar teams, based on quantitative measures of consumer demand, here. NASCAR is overpriced because, given the recessionary economy, the market can no longer support the increased salaries of drivers and crews and the abnormal returns to team owners, race promoters, and NASCAR itself. If you're going to have problems, then those are good ones to have. Most IndyCar teams are insolvent - they could not survive without direct and indirect subsidies provided by drivers, governments, and the Indianapolis Motor Speedway. NASCAR's economic fundamentals remain strong - that's why the lousy economy turns lesser NASCAR teams into "start and park" deals, while marginal IndyCar teams are merely "parked".

NASCAR is a strategically focused, disciplined organization that ought to be admired. It started with nothing - jalopy racing, taxi cabs - and proceeded to clobber an industry leader than had become a bloated, rent-seeking, self-entitled bellicosity. This happens in business. IBM was snookered by Microsoft and Intel but eventually made it all the way back. There's no reason to think that IndyCar Racing can't do it, too. But the present course is not the way, not when revenue growth at your crown jewel requires that your product attract fans from Middle America over the course of a month. That's the market you're in by default, at least until the Indianapolis Motor Speedway is loaded on the back of a flatbed and moved to Brazil, Japan, or Foxboro.

The IRL needs strategy, discipline and courage. The teams will have to overhaul their operations in ways that might seem to them both unfathomable and unappealing. Some might exit the series altogether - we'll assume they'll have somewhere else to go - and that's okay. Having adjusted the cost of entry to market value with much, much less costly cars and engines, the IRL will welcome new teams that can legitimately afford to participate. Perhaps they might even consider building and selling things to augment their revenues.

In other words, every level of the IndyCar value chain must be guided by responsible adults who are held accountable by their customers and employers. IndyCar racing is fun and fascinating. If you've read this three-part treatise in its entirety, then you've probably loved the sport since you were a kid. That is why - practically in spite of ourselves - we're all still here. But the enablers are gone, heads are rolling, Revolution is upon us, and it's time we all grew up.

Ever Humble and Incorruptible

Roggespierre

4 comments:

  1. Hi Roggespierre. An element of the value discussion that needs to be discussed is positioning. I wrote another comment about a sponsorship program I developed to modify the brand of a Fortune 500 company through IndyCar racing. Associated brand attributes: speed, technology, teamwork (professional services). A heavy element of the program was customer and market analyst entertainment. We tracked sales and outstripped our investment 100 to 1. That's value. But it requires getting out of the cookie cutter and bring creativity to a solution tailored to specific objectives. Costs of the sport need to be attacked aggressively, but re-thinking purpose - think "sales platform" - is essential. It would also necessitate another analysis of value creation. Bottom line: as long as you let cost per thousand define the game, under the current circumstances, you will lose.

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  2. I hear you, appreciate your comments, and generally agree. Give me some time to work through your arguments in my own head - assuming that I shall still have it - and provide comment. Roggespierre

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  3. I just found your website, and it is spot on!!!

    I have been involved and watched racing since 1942, (attended my first Indy 500 in 1946).

    Without a major change in direction the IRL will like all badly managed disappear.

    Innovation (at a much lower cost) is the answer.

    The powers to be at IMS (now the three sisters) will only back the IRL for a very short time, so it behoves the series to stop telling everyone how great the racing is--it isn't when two teams dominate every race.

    Once again--you have a great site--I am passing it on to everyone--some with reason to pay attention.

    osca

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  4. osca - you said in nine words what I've written thousands to say.

    "Innovation (at a much lower cost) is the answer."

    Well said.

    The cost vs. innovation argument is a load of Bolshevik. Some team managers, primarily Ganassi Racing's Mike Hull, speak as if "technology" and "innovation" are the same thing. They're not.

    I'm still working on that particular entry - the idea still needs development.

    Thanks for the kind words and for clearing some post-vacation cobwebs from the frontal lobe.

    Roggespierre

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