NHL: Rushin' to the Chinese Market
By: Brandon Park-Lee & Alexander George
The Ivey Business Review is a student publication conceived, designed and managed by Honors Business Administration students at the Ivey Business School.
Strategically Short-Handed
Despite being the top hockey league in the world in terms of both revenue and player talent, the National Hockey League (NHL) has faced an ongoing battle with other major sports leagues, as both local and national TV ratings have fallen in the regular season over the past year. In the 2017 season, despite having the highest viewership in years, the NHL saw average TV ratings of just 2.7 during the Stanley Cup finals. In comparison, that figure stood at 10.0, 33.4, and 8.4 for each of the NBA, NFL, and MLB finals equivalents, respectively. Furthermore, while the NHL has seen an uptick in revenue growth over the past few years, it has only realized a compound annual growth rate of 4.6 per cent between 2014 and 2017, compared to the NBA at 11.4 per cent, the NFL at 5.4 per cent, and the MLB—which has also been facing similar growth issues—at 4.7 per cent over the same period.
Source: Statista
In efforts to improve the league’s popularity, the NHL has begun expanding geographically. China has been targeted as an anchor of this growth strategy, especially ahead of the 2022 Beijing Winter Olympics. With a population of approximately 1.4 billion, the size of the country makes China a compelling market, and the NBA sets a strong precedent. NBA China is currently valued at $4 billion, as the league recently signed a five-year, $700-million digital broadcasting partnership with Tencent. As such, the NBA’s Chinese expansion strategy has proven to be a success.
A unique window currently exists, as the Chinese government has provided substantial support through infrastructure investments and government initiatives in order to popularize hockey. Although the NHL’s current grassroots strategy shows promise, this growth must be accelerated to capitalize on the Chinese government’s current interest, and to use the 2022 Olympics as a launchpad for future growth within the country. To supplement its current strategy, the NHL should purchase majority ownership in five teams in the Kontinental Hockey League (KHL), the premier hockey league in Europe and Asia. Through the purchase of the Kunlun Red Star (KRS), the only Chinese team currently in the KHL, and four other teams that would later be relocated to China, the NHL could drive the popularity of the sport in the most populous nation in the world. While the NHL’s current grassroots strategy may be effective, it requires time, something the NHL does not have if it hopes to build off the support of the Chinese government ahead of the 2022 Beijing Olympics.
Current NHL Strategy
The NHL is currently implementing a grassroots strategy to grow the popularity of hockey in the Chinese market. The first component has involved exposing the Chinese market to live games by hosting parts of the NHL preseason in Chinese cities through an eight-year agreement called the NHL China Games. Over its first two years, the agreement has seen some success, drawing a crowd of 10,088 for the first game in 2017 and 22,151 over the two games played in 2018. The 2018 games also featured government officials from the Chinese General Administration of Sport in attendance as part of the government’s support for the advancement of hockey within the country. The second component of the grassroots strategy is the establishment of youth hockey development programs, which imitates the NBA’s extensive youth basketball programs in the country. Currently, the NHL has partnered with the KRS to develop 20 hockey schools across the country. The government has committed to similar initiatives and the combination of these two factors has led to increased hockey participation from 1,000 people in 2017 to 12,060 in 2018.
The NHL’s grassroots strategy has drawn interest to the sport, with 22 million Chinese citizens tuning into Game 1 of the 2017 Stanley Cup Finals. However, to fully capture the commercial potential of the Chinese market and ride the wave of government investment, the NHL’s growth strategy must be accelerated.
Power Play
It is recommended that the NHL purchase a majority stake in the Kunlun Red Star and four other teams in the KHL, with the four non-Chinese teams later relocating to Chinese markets. The ownership structure would require at least one local owner to navigate the complex geopolitical landscape in Eastern Europe and China, but ensures NHL owners hold controlling interests to enact the growth strategy. These acquisitions would accelerate the NHL’s current Chinese growth strategy, allowing them to take advantage of hockey investment from the Chinese government. Additionally, there are strong reasons to believe current KHL team owners would be willing to divest a controlling share of their teams at a fair valuation and that such an initiative would garner support from the entire league.
The NHL’s current strategy is a slow process that will not allow the league to fully capitalize on the unique window of government interest prior to the 2022 Olympics. Through these five KHL franchises, the NHL could create local fan bases and stoke interest in the sport. This would be in alignment with the Chinese government’s current initiatives of improving hockey’s popularity and building local infrastructure to support this growth. By driving interest in the sport, the NHL could fully reap the commercial opportunity available in the country and supplement stagnating revenues in its traditional North American market.
A secondary benefit of this plan would be setting up the KHL as a farm system for budding NHL stars. Currently, many players on the cusp of being NHL-ready are forced to return to the Canadian Hockey League (CHL) due to a prior agreement where players drafted out of the CHL are ineligible to play in professional minor leagues like the American Hockey League (AHL) until they are 20 years old. Some players at this stage may have already outgrown the CHL, which can hinder player development. A new agreement should be made to allow sending these types of players to the more competitive KHL, where they would have the opportunity to face higher quality talent, and return to their NHL teams better prepared to play at the highest level. Additionally, in sending young players to play in China, there would be hope that the Chinese fans of these players would want to watch them in the NHL once they leave China, similar to how college football fans follow their favourite former college players in the NFL. This structure would help the NHL grow the sport in China while providing teams a new route for player development.
Although the quality of play in the KHL has given it the reputation as “the world’s strongest league outside the NHL,” many teams have failed to achieve commercial viability. Teams are largely reliant on private investment and state funding, which has historically contributed over six times the commercial revenues generated from activities such as ticket sales and television contracts. Many teams have struggled to stay financially solvent, with four teams folding since the end of the 2016 season. The NHL’s infusion of cash would be welcomed by KHL owners of struggling franchises, bringing stability to the league. Additionally, loaning recently drafted NHL players to the KHL would increase the competition in the league and create more exciting hockey games. This falls in line with the KHL’s long-term strategy of raising the talent level in the league to drive attendance and sales on the route to becoming more economically viable.
He Shoots, He Scores
The NHL should look to purchase the least profitable teams, where owners would be more receptive to an inflow of investment. Among existing KHL teams, those with the poorest attendance records are ideal acquisition targets as they would likely produce lower valuations. In the 2017- 2018 season, the Admiral Vladivostok, Vityaz Podolsk, Severstal Cherepovets, and Neftekhimik Nizhnekamsk sported the poorest attendance in the league, making them top candidates for relocation. In China, major metropolitan cities like Beijing, Shenzhen, Shanghai, and Harbin provide ample opportunity to grow the sport. Beijing and Shenzhen have been earmarked as the intended locations of the KRS-Gretzky Hockey Schools, Shanghai has had strong participation in existing sports leagues, and Harbin has previously housed a professional hockey team. NHL owners would have the chance to bid on this opportunity, with the top five highest bidders being part of this process. To provide an incentive for these bids, these five NHL owners would own a larger portion of the new “NHL China” with its associated future commercial benefits.
Following the purchase, the KHL franchises, excluding the KRS, should be immediately relocated to grow the popularity of the sport in China prior to the 2022 Olympics. Afterwards, all NHL teams would have the option of loaning their youth players to the NHL-owned KHL teams for player development purposes. This new arrangement would improve the profile of the game and help the NHL fully capitalize on the commercial opportunities within the country. Since all NHL teams will own some portion of NHL China, it is in the owners’ best interest to provide certain players to the KHL.
If the KHL is still not receptive to the NHL’s attempt to purchase five of its franchises, the NHL could allow Russian players at the twilight of their career the option to be loaned to any of the 25 KHL teams. This would allow Russian players to return home and would likely help reduce the poaching of Russian players like Ilya Kovalchuk and Alexander Radulov. This mutually beneficial cooperation between the leagues would help increase the talent level and audience interest in KHL games. As well, negotiations of North American broadcasting rights on certain KHL games could be introduced, which would provide further benefits to the KHL. This in turn coincides with one of the KHL’s core long-term strategies of increasing the level of competitive play in hopes of driving stronger attendance and boosting commercial revenues.
Valuing the KHL
The cost of a 51-per-cent ownership in five KHL teams stands at roughly $50 million to $70 million, based on the valuation of the entire KHL within the range of $900 million to $1.4 billion. This is based on an EV/Sales multiple between two to three times, which is a conservative figure despite the average NHL valuation multiple being around four times. This was done to account for intangible differences, such as brand recognition and customer loyalty. While this is a large up-front investment, even the NBA acknowledged the high initial costs when expanding into China with David Stern, the former commissioner of the NBA, stating “internationally, those initial dollars are very costly to come by.” Nevertheless, this investment by the NHL represents just one to 1.5 per cent of the $4.54-billion projected NHL revenue in the 2018-2019 season.
NHL’s Breakaway
While the NHL’s current Chinese growth strategy has shown promise, it needs to be more aggressive. With the Beijing Olympics quickly approaching, there is a window of opportunity to use the 2022 Games as a springboard for growth and capitalize on the Chinese government’s newfound interest in the sport. By purchasing a majority stake in five teams in the KHL, the NHL would have the ability to provide a high level of hockey to Chinese fans and drive growth in the sport’s popularity alongside current grassroots strategies. Through careful implementation, current KHL owners would likely be receptive to these acquisitions as they provide much-needed financial stability and align with the KHL’s goal of improving league talent. With this plan in mind, the NHL could catalyze its growth strategy and one day replicate the NBA’s Chinese success story.