F1 2018 Straight Talk: Risk vs. Reward (Pt.1 The house that Ecclestone built)
Straight talk this week looks at the risk/ reward business model employed by F1’s new owners Liberty Media.
Risk vs. Reward in Business
Formula One teams know about the balance of risk vs. reward. The drivers weigh up every overtake in those exact terms. Verstappen’s judgement veered slightly towards the over-optimistic when he put himself in a vulnerable position going around the outside of Lewis Hamilton at the Chinese GP. And the race strategists also weight up the dynamic when plotting a strategy switch.
When you’re building up a business like F1, there’s also a sweet spot of shared risk and reward to be struck between the stakeholders. This seems to be off-centre at the moment as we enter the “squeaky bum” phase of negotiations for post 2020 F1.
Liberty media have taken a huge risk in paying $8 billion to take control of the sport. They believe there is untapped value in a business Bernie Ecclestone built up and let stagnate in his later years in charge. F1 has some good circuits and some even better TV contracts signed beyond 2020, but its main characters – the teams and drivers – have yet to buy into their vision.
The new marketing strategy of basing the appeal of the sport on the drivers’ star power is, ironically, what Lewis Hamilton has been doing for years and guarantees consistent allure. Were Mercedes and Ferrari to leave, for example, the drivers would still be there (in Liberty’s eye anyway).
Using the word marketing in F1 is also instructive; Ecclestone didn’t believe in spending money on a central F1 marketing department, perhaps as an austerity measure to keep costs down, but that model was disrupted by a fast changing media landscape. This is one of the key areas Liberty has invested as shown by the drop-dead gorgeous halo graphic designs unveiled at Baku. Operating costs have risen significantly as a result, underpinned by the philosophy you need to spend money to make money.
The more powerful teams such as Ferrari and Mercedes would like such investment to come from Liberty alone – not much alignment of the shared risk/ reward there it would seem.
The plans for the future of F1 were unveiled at the Bahrain GP this year – in a very vague, top-line sort of way – to the media and to the public. The narrative from the biggest teams, Ferrari and Mercedes is that Liberty are making changes that impact the manufacturers on cost without giving them a means to earn it back. Liberty argue that simplifying the engines makes them cheaper and louder. However, this means the power units will need a complete redesign costing multiple millions. Those same engines will need to be sold to the customer teams at a maximum cost of £10 million per engine. Which means a loss for Ferrari and Mercedes. On top of this Liberty have proposed that Ferrari’s £40million up-front payment for historical participation in the sport is halved and distributed to the teams with lower budgets. This makes the smaller teams a better investment prospect and a more attractive to sponsors – a much more attractive risk/ reward profile for those considering entering F1 as a new team.
Liberty propose the risk wouldn’t be all on the manufacturers side either. They would receive an additional £10 million a year just for taking part, enticing the likes of Porsche and Aston Martin who are keen to enter the sport.
One of the best examples of risk/ reward in the sporting world is the Singapore GP. This is the most professional F1 promotion set up around the world. The profits from hosting the race are split 60-40 between the Singapore government and the businesses that support the event. If this model had been adopted worldwide (I’m looking at you Silverstone) more tracks would still be viable.
Any risk/ reward relationship relies on trust. Drivers weighing up a risky move need to trust the other guy on the road will not crash into them like a desperate casual Xbox racer. So, any team or manufacturer buying into Liberty Media’s vision will need confidence in their ability to chart growth. But at the highest level, where trust is most important, it seems to be lacking right now.