Two weeks ago, Equities.com explored an exciting startup called Fantex, a company that sells real stock in professional athletes to the public. There is not a single sports business enthusiast or fantasy sports player in the world not intrigued by the idea, but as with any new investment concept, there were some major questions that needed to be addressed first. So the challenge was issued, and Fantex CEO Buck French responded. Equities.com spoke with Buck on a call to talk about this novel idea of investing in major athletes, the Fantex structure, and the potential of this market.
The interview is divided into two parts. Part One delves into the specifics and complexities of the Fantex business model, as well as its future role in professional sports and general entertainment. Part Two is Buck’s response to the original article, which highlighted some of the concerns I had with considering Fantex stock as a legitimate investment.
What's Fantex All About?
EQ: Thanks for joining us, Buck. I appreciate you taking the time to answer our questions
French: My man Joe throwing down. When you start with a lead like that…I don’t know if you know about my background, but I’m a former Army Ranger. So anyone who throws a challenge down, I’m happy to pick it up, whatever it is. So bring it!
EQ: Well, first off, why don’t you start by telling us a little bit about Fantex and your model.
French: Basically, we acquire a percentage of the future cash-flow stream of a professional athlete or future entertainer. In the case of, say, Vernon Davis [of the San Francisco 49ers], we acquired 10% of his future cash-flow stream for $4 million. That contract that we signed with the athlete is the basis of the security in which we register with the Secruities and Exchange Commission and sell online via our affiliated broker/dealer Fantex.com. People can reserve shares in an IPO and buy the shares, and then trade them in the secondary market. Mohamed Sanu [of the Cincinnati Bengals] is our next guy up. That’s kind of how the security works in our relationship from an athlete perspective to turn it into a security.
Our whole underlying premise at Fantex is that we believe by creating a security that links the underlying cash flow of a professional athlete, we can help build the brand of the athlete. One way we accomplish that is creating advocates in the marketplace that have a financial interest in the success of the brand. We also directly work with the athletes to help craft a broader and general perception of what they represent. If you've been to our website, you might have seen the brand commercial that was done for Vernon Davis or EJ Manuel, which should give a sense for how we craft that broader persona for the athlete.
EQ: What are the various ways that Fantex itself makes money?
Buck: Fantex makes money by helping athletes make more money. Each dollar that comes in from the athlete, 5% of the brand income is kept by Fantex Inc., and 95% of the cash is attributed to the tracking stock. So, if the athlete makes more, Fantex Inc. makes more, and the tracking stock goes up as well.
EQ: You mentioned the Vernon Davis IPO earlier. You sold 10% of his earnings for $4 million, which values his brand at $40 million. How exactly did you arrive at this $40 million valuation?
French: We have a quantitative analysis team here that puts in a lot of work. This is all driven off of data. It’s not cherry picked. It's all done with quantitative econometric rigor. There are really two core components that drive the brand income of a player. First is their playing career, which is obviously the largest piece, and then the second component is their post career: what do they do after they stop playing football?
In Vernon's case, we took his playing career. We looked at all 212 tight ends that were drafted and retired between 1990 and 2012. We then built a metric model off of that data set using statistical regression analysis of what we determined were the six key attributes that were statistically significant to predicting career length. The six items were statistical production, durability, positional versatility, Super Bowl participation (which is statistically significant to career length prediction), where they got drafted, and their injury history.
So we plugged Vernon’s key data into the model, which yielded that he would play 13.4 years. We rounded him up to 14 years because you can’t really expect him to play half a season. He’s already played eight seasons so now we assume that there's six years of NFL contracts that we need to come up with estimates for. When we signed him in October 2013, he had about $13.7 million left in non-guaranteed money through the 2014 and 2015 seasons. And then we forecasted his next contract.
EQ: What criteria do you consider when forecasting his next contract?
French: We looked at all active and retired NFL tight ends–all of them. We looked for every single one of them that averaged at least 600 yards per season like Vernon has, were elected to at least one Pro Bowl like Vernon did, played greater than or equal to eight NFL seasons like Vernon, and signed a contract at age 30 or older. This strategy yielded only three guys. That’s how unique of a player Vernon is. The three players were Tony Gonzalez, Antonio Gates and Jeremy Shockey.
We threw Jeremy Shockey out of the data sheet because he did not sign a multiyear contract. He signed a one-year contract. We then inflated to 2016 dollars the contracts of Tony Gonzalez and Antonio Gates, because that’s when Vernon Davis is going to sign his next contract. That yielded an estimate that Vernon would sign a four-year, $33.4 million deal, about $8.3 million a year.
We also put together data about what people make off the field so we can analyze what Vernon has made historically and what he can make. We basically forecasted out all gross revenues, which came out to about just north of $61 million, and then we apply a discount rate to those various cash flow streams to adjust for risk–risks that include injury, estimation errors, or Fantex being impaired from all those things. The weighted average discount rate across the cash-flow streams was 11.4%, which we checked for accuracy by comparing our discount rate to the rate on bonds with similar levels of risk. This got us to a present value of $40 million.
EQ: Just to clarify, how long is the process of taking a player public?
French: Well, the first ones took longer but the process is getting shorter. We follow the same IPO process as a corporate IPO, and as we keep taking players public the process gets smoother and smoother. EJ [Manuel] signed his contract with us on Feb. 14 and we closed the transaction on July 21. EJ was faster than Vernon Davis. Mohamed Sanu should go faster than EJ. We’re fine-tuning the process.
EQ: You briefly mentioned the possibility of expanding into other sports. How do you see Fantex expanding in the future as well as its overall future role in sports in general?
French: That's absolutely our goal. We started with football: the number one sport in America, and the number one fantasy sport. Our goal is to work in Major League Baseball, golf, and others, and one day go internationally and work in professional soccer and the entertainment sector. Our goal is going to be more than just football. That’s just where we started and as we continue to gain success we'll expand into other sports and entertainment.
I always look at a business or an opportunity and ask, “should this just exist?” Doesn’t it just make sense? Take all the risk, conversions, liabilities, all that, I look and say should this exist? We’re here to build a great company that services our customer (the athlete) first, and to help them develop a broader, more diversified brand. We believe if we do that, it will generate more revenue. If we generate more revenue then obviously all the shareholders benefit.
Is Fantex A Real Investment?
The number one point that I took away from my interview with Buck French is that Fantex, among other things, essentially serves as an investment bank for professional athletes, and I mean that in the most complimentary way possible.
I was impressed by the objective and quantitative approach that Fantex applies to player valuations. They follow all SEC regulations and have a strategic approach to augmenting the value of player brands. Their business model is creative, their approach is logical, and the company seems driven to transform the business side of sports and entertainment.
However, I still wanted Buck to address some of the specific concerns I outlined in my original Fantex article. Make sure you read Part Two of the interview here as Buck answers some tough questions about the feasibility of considering an athlete a legitimate investment.