How MLB teams win despite losing

About a year and a half ago, I was in a class called Business Strategy, where the main requirement was playing a game meant to emulate running a business. The business was to last 15 years, with a year of the simulation equating to one week in the real world (meaning I could adjust my strategy as I saw fit). As a long-time fan of strategy simulators, like Out of the Park and Rollercoaster Tycoon, the class appealed to me on a deeper level.

In building my company, I wanted to be somewhat cynical toward a game where I knew the end date. To do this, it took a couple years to understand some of the environmental factors associated with the simulation. The first was that this was a summer class, so I only had four classmates to compete against in my market of selling commercial drones. However, none of my other classmates were really playing the game at the start.

Therefore, I had a product with an unrivaled brand name whose quality was unmatched, produced by an unchallenged company. I had what (generally) amounted to a monopoly. The second was that the simulation featured consumers within our market with demand that was largely inelastic. Once production capacity was met at other companies, remaining consumers had no choice but to pay my higher price.

Having a better understanding for the environment of this game, I utilized a concept known as price skimming, or, when a company offers a product at a high initial price to maximize revenues from the most inelastic segments of their market. The high initial pricing is eventually lowered, with time, to capture portions of a company’s market with demand at a lower price. Essentially, what happens here is that a company tries to maximize revenues from a certain segment of their market before moving onto the next. It’s akin to price discrimination, except it utilizes time as a masking agent.

This strategy worked exceptionally well for the simulation and resulted in an outsized brand name, revenues, and profits. The lower volume lowered variable costs, and everything went well for a couple of years before I had to adjust prices to meet the more price-sensitive segments of my market. But this is a baseball site, right? How does this relate to Major League Baseball?

As with any pricing strategy, price skimming has a specific environment it can be deployed most effectively in. That is why we’re seeing it used in the context of the price to attend an MLB game, which is an environment where a monopoly power has a short-term outlook on dealing with a customer base with largely inelastic demand. And while a typical price skimming strategy is deployed on a new product, it’s fair to argue that every season is a new version of an MLB team’s product.

For the sake of simplicity, let’s say there are just two types of fans/customers. There is a specific set of fans, we’ll call them high-end, that will pay almost any amount of money to sit behind home plate for their favorite team or spend money on season-ticket packages. Think of these fans like die-hard supporters that line up outside a business to wait for the newest release of their favorite video game or movie. Price largely doesn’t matter to them. There is another set of fans, low-end, that have a higher price sensitivity. Money is tight, so their budget for entertainment isn’t robust. These fans want to purchase tickets to attend a game but must wait until the price is dropped or a deal is given.

This concept is clearly more complicated than what I’ve outlined, but let’s see how price skimming has worked for MLB. We need to recall that Rob Arthur of Baseball Prospectus was able to show that rising cost of attendance (attendance + stuff inside stadium) has attributed to a significant portion of the overall attendance loss. The effects of price skimming would mean that top-line revenues aren’t hurt by this lower volume. We can view this by using the Gate Receipts metric (revenue generated from ticket sales) that comes from the Forbes team value data published every year:

In fact, when you divide Gate Receipts by overall attendance, you can plainly see this idea that revenue generated strictly from attendance has increased from 2015-18:

Revenue generated from ticket sales increased 20.4 percent from 2015-18, while attendance over that same period decreased 5.5 percent. Rising gate revenues in the presence of falling attendance isn’t a phenomena being noticed for the first time, but it does make sense in the context of the overall pricing strategy at play.

One of the pitfalls of this pricing strategy comes when prices are lowered too soon, leaving high-end customers to feel scorned. In the context of buying the newest Apple iPhone, this could mean that high-end customers change their buying habits. In the context of MLB, this could mean that season ticket holders choosing not to renew their season tickets. This concept was easily seen during the 2019 season, where season-ticket holders were increasingly frustrated with mid-season ticket offerings significantly below initial prices.

Now, these pitfalls aren’t yet outweighing the revenue boosts. This is one of the reasons why MLB teams aren’t concerned with attendance drops. On the revenue side, they’re still making lots of money at lower volume. As Rob Mains describes, on the cost-side this also means lower variable costs. It’s a win-win, especially when you consider that low-end fans can shift their viewership to Regional Sports Networks, an entity that MLB teams still benefit from (though that’s another conversation for another day).

But that doesn’t mean it will be like this forever. Price skimming is not meant to be long-term strategy and can be sensitive to consumer demand that becomes more elastic over time. There’s also an issue of why teams should be able to pursue a strategy that allows for the goal to be centered around generating higher revenue from attendance than a goal centered on higher attendance itself. How does it help further long-term growth if MLB’s desire is to price out certain segments of the population for marginally higher revenues?

The issue at hand is not one that just developed over time. Like the strategy I set out to deploy in the simulation for my class, it didn’t just come out of nowhere. I set out for a revenue maximization strategy reflective of my short-term horizon. MLB teams are the same.

Rob Mains has covered the idea that ownership groups treat MLB teams like investments, as well as the idea that teams understand their investment horizons. They didn’t stumble into a pricing strategy with the explicit goal of revenue maximization over a short-term investment period. This is a problem MLB created and, from what we’ve seen thus far, isn’t even one that MLB is keen on recognizing — much less fixing.

Instead of filling stadiums, MLB teams have decided to fill out income statements. Although many ownership groups won’t stay long enough to see the effects of this decision, many fans will. In the end, those fans are the ones who have no say in the matter, and that might be the worst part.

-- Big thanks to Rodney Fort for his wonderful repository of baseball financial data

Shawn Brody is a grad student and contributor for Beyond the Box Score. You can find him on Twitter @ShawnBrody, where he likes to yell about the New York Mets.