:: The Park Paradigm ::

Markets for the Digital Generation

In Part 1, I contended that:

…efficient organized markets in tickets for events have not been allowed to develop despite the fact that: (a) the existing market structure is horribly inefficient to the detriment of both buyers and sellers and (b) a vastly more efficient, tried and tested, robust market structure which could very easily be applied to ticket markets already exists and furthermore, especially given modern web technology would be easily adaptable to ticket markets.

As I also noted, I’ve been thinking about this for some time, but was catalyzed to comment by reading two articles. The first (behind the FT’s ridiculous paywall, yet another industry to be deconstructed and rebuilt!) was an editorial by Joe Cohen on secondary ticket markets sparked by the massively over-subscribed Led Zepplin reunion concert. The second was a post by John Wilson also on the subject of secondary ticket markets.

Basically they both point to the fact that secondary markets for tickets exist (despite laws and restrictions against them; these only serve to make them work badly…) and that this is a contributing factor to unnecessarily disfunctional primary markets:

(Joe Cohen on the sale of Led Zepplin tickets, FT Sep 21, 2007)
The circus that has ensued would dent anyone’s confidence in promoters. A crashed website, a ballot with a window of less than a week to enter and no guarantee of a ticket at the end of it. Add to this, of course, the blood-spitting opposition of such promoters to reselling your ticket if you turn out to be unable to attend. “Be patient,” was the concert spokesperson’s answer to the debacle. Be realistic, is my response, and look to the US for a healthier way of ticket allocation.

(John Wilson on getting tickets to the Police concert)
Where to get tickets at this late stage? Well, at this point I did some digging around and was astonished by the results.

- Ticketmaster still had tickets at £90 face value plus booking fee of over £10.
- Seatwave and Viagago, as well as similar ticket trading exchanges had an abundance of tickets. These were trading at an average price of £112 on top of which had to be added Seatwave charge on the buyer of £15 or so. This was for tickets and not hospitality packages
- ebay also had lots of ticket on buy it now and auction. All were evidently looking for a premium.
- Gumtree also had an abundance of tickets, but these were mostly at a discount to face value eg £90 tickets for £45

Why such a wide variety of prices for a relatively homogeneous item? Moreover, if there were still tickets in the primary market (Ticketmaster), why would anyone pay a premium in the secondary market?

Well, there are several factors to consider
- I bothered to search; some people don’t bother to scan the many “trading venues”
- trust; I trust that Ticketmaster has the genuine article. Seatwave & Co have refund policies (assuming you believe that they can honour them) and assurance re delivery. ebay has a ratings system. Gumtree is dealing in the wild west with persons unknown as is the case with other websites advertising tickets.
- time to “expiry”. As the event approach, people become more desperate to sell which can quickly drive down prices if there is an abundance of tickets evident. But even if scarce, you still want rid of them in time. Some people “blink” sooner than others.
- booking fees can add a considerable premium onto the price, so some tickets advertised above “face value” simply reflect attempts to recoup booking fees.

Much to the ticket industry’s annoyance, there is clearly an active secondary market, but despite their lobbying efforts, the UK Govt is loathe to outlaw such markets, questioning why live entertainment should receive special concessions and how is the consumer harmed by the current situation.

As I pointed out in Part 1, and is implicitly underlined by these two gentleman, a healthy - transparent, liquid, well-regulated - secondary market adds enormous value to the price discovery and distribution process of any (transferable) good or service. So why is their so much resistance to free and fair secondary markets in tickets? Well, last year at the futures industry’s annual Burgenstock conference I was speaking on a panel - discussing the future potential of markets in sports risk - and the conversation gravitated towards the question of why so many people seemed to have such a hard time seeing the potential for new types of markets and, worse, why they should not stand actively in the way of these developing. A gentleman in the audience reminded everyone (I for one had not been previously aware of this historical gem) that in the early 20th century - and then especially from the period starting with the “Great Crash” and lasting until the early 1960s, secondary markets in equities were seen by much disdain by many in the establishment and were at best tolerated and at worse actively argued against. In this context, the NYSE was seen as a second-class citizen in the financial firmament and traders and speculators in shares were considered an untouchable caste by the brahmin bankers. The moral of the story: that resistance to change and the dispersal of power engendered by transparency and access to information have been resisted by the “gatekeepers” since the beginning of time. (Just ask Martin Luther!) Equally, this resistance has always proved futile and those that embraced transparency and change, usually not only survived but prospered in the new paradigm. (The mystery is why the strategy of active immobilism continues to find disciples given its horrendous historical track record of inevitable failure…I’ll leave that one to the sociologists amongst you!) Perez would frame this situation as a disconnection of the techno-economic paradigm (what is possible) from the socio-institutional paradigm (what people in power can stomach.)

But I’m an optimist. So whereas I know the road will be bumpy and resistance will not melt away with a whimper, I’m convinced that the market for tickets - both primary and secondary - will undergo a transformation that take months and years, not decades. The foundation of my conviction is that the market model (and many if not all the mechanisms and processes) exists already (in the shape of the capital markets, see Part 1) and needs only minor adaptations to serve the needs of all the participants (’wholesale’ and ‘retail’) in the markets for tickets for entertainment events. And indeed, the entrepreneurs and innovators are moving forward at this very moment: a number of ticket brokers and/or exchanges exist such as StubHub, viagogo, seatwave and of course eBay (amongst many others); major primary resellers like Ticketmaster; and aggregators such as Tickex (who in a highly fragmented market such as tickets have a great business model in my opinion.)

I’m in no way anything close to being an expert on these firms and their business models, however my impression is that in general they have focussed on the fulfillment process (super important of course) rather than the risk management process. Of course you need both, but in my opinion, the potential (financial) opportunity arising from intelligently revolutionizing the risk management (underwriting and distribution) process is even greater than the exciting rewards available for these companies that are optimizing the matching and fulfillment process. This is certainly an opportunity I will have my eye on going forward. (Indeed, I look forward to learning more about John’s portfolio company he alludes to at the end of his post linked to above.) Rather than delve deep into the myriad opportunities that exist to transpose the capital markets paradigm on to ticket markets, let me leave you with a fragment of a possible future:

The year is 2021 and Oasis has announced they will be doing a reunion concert at Wembley Stadium to celebrate the first year-on-year drop in CO2 emissions in the history of the modern world. The $7 billion Live Entertainment Fund - a leading hedge fund focused on underwriting and investing in live sporting and entertainment events - has underwritten the entire ticket offering at a price of £20 million and will work with a number of ticket distributors to syndicate and distribute the tickets over a week, one month prior to the concert, using the online bookbuilding capabilities of Tickex Group. The fund would not comment, but analysts expect the proceeds from the sale to exceed £25mn, which will likely give LEF a return on equity of more than 30% for their 6 month investment (depending on the cost of various insurance and weather hedges: the tickets are expected to include the now standard 50% rebate for rain for outdoor concerts and sporting events.) Since its inception in 2010, the flagship LEF Music Fund has returned an average of 43% annually.

(Oh and by the way I had my pension fund invest £50,000 in LEF in 2011…making it a lot easier for me to afford to bid for a box for my friends and family to go see Oasis at Wembley!)

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Why is it that the market for (event) tickets is so dysfunctional? It’s not the first time I’ve written on this subject, and I had promised to revisit it… Over the last couple months a number of (notionally unconnected) events has catalyzed me in to making good that promise. As way of introduction, let me elaborate on my question: efficient organized markets in tickets for events have not been allowed to develop despite the fact that: (a) the existing market structure is horribly inefficient to the detriment of both buyers and sellers and (b) a vastly more efficient, tried and tested, robust market structure which could very easily be applied to ticket markets already exists and furthermore, especially given modern web technology would be easily adaptable to ticket markets.

Let me take each of these points in turn.

For any event, there are a number of roles that need to be fulfilled: the end product (the entertainer(s), sports teams, etc.), the producers (those who contract the end product and organize the production), the venue (real physical property but also broadcasters), the risk takers (those who underwrite the cost of the production and take the financial risk), the distributors and brokers (those who sell the tickets) and the audience (those that purchase the rights to see the event.) For some events these roles are fulfilled independently, for others the roles are sometimes combined (for example a promoter might both produce and underwrite an event) and most often, especially with respect to distribution, there are multiple participants for the same event. If you were to illustrate this process in a flow chart it would look something like this:

And this is typically how tickets are sold and distributed for the first time, in other words the primary market. And strangely enough it looks amazingly similar to how securities (bonds, shares) are sold and distributed in financial markets:

Trillions of pounds (euros, dollars, etc.) of securities have been (mostly) successfully underwriten and distributed over the years using this basic arrangement (or a variety of variations thereon); and the key reasons this framework has developed to help issuers sell securities to investors are basically twofold: (1) to arrive at a price that best achieves the goals of all parties and (2) to optimally allocate risk during the sales process to those best able and willing to accept and manage it.

Price discovery is at the heart of this process, and is driven by the goals of the issuer which almost always include getting the highest price but often qualified by meeting certain other - sometimes competing - objectives such as ensuring a certain distribution profile - perhaps encouraging new investors, or repeat investors, or certain types of investors; or seeking to engender a certain trading performance in the aftermarket - usually a gentle rise but sometimes a more explosive rise to attract publicity for instance; etc. In investment banks charged with underwriting securities, the job of advising the issuer on what price will best achieve their objectives falls to the syndication desk and the syndicate managers who are responsible for collecting, analyzing and synthesizing all the relevant information that goes into determining the optimal price. This includes such things as: investor demand or indications of interest, the size of the proposed offering, potential competing offerings concurrently in the market, general market conditions and prevailing secondary market prices for similar securities.

Let’s take this last point; I think you will find that if you as any banker or syndicate manager what they consider to be the most important factor when looking to start the price discovery process for a new security it will be the prevailing secondary market prices of similar issues. If their exist many true comparables, the market will hone in very quickly on the clearing price for the new issue; when the security being issued is relatively unique (no other issuers or securities in the market with comparable financial metrics and/or in a similar business for example), the early indicative pricing will most likely need to be tested with investors through an iterative feedback process, which in its most structured form is called ‘bookbuilding’. In this process, the underwriting syndicate solicits ‘indications of interest’ from investors, where they are asked how much they would be willing to buy and at what price. (In some instance, particularly in the bond markets, they might also be asked to give feedback on other parameters such as maturity and the size of the issue.) By building up a picture of demand, the underwriters can optimise the match between what investors are looking for and what the issuer wants to achieve.

Starting in 2001, just after I had joined DrKW, we invested heavily in building an online system to manage this process which until then had been managed (if it was at all) by the industry via manual collection and consolidation (in a spreadsheet) of email, (Bloomberg) electronic messages and yes - I’m not making this up - post-it notes brought to the syndicate desk by sales people. Indeed the term bookbuilding comes from the 19th/early 20th century practice of underwriters writing orders by hand into leather-bound ledger books that recorded the distribution of the new securities. So in over 100 years, the industry had only managed to replace the (aesthetically pleasing) leather books with Excel. Despite much resistance - and the fact that DrKW was a relatively modest player in the debt new issues market - within a few years, online bookbuilding became the norm in Europe. In my opinion this was a result of the higher level of competition amongst underwriters in Europe which gives issuers more leverage in the process and the incredible gains in efficiency and transparency enabled by online bookbuilding were quickly understood and appreciated by issuers. Of course anytime you introduce transparency to a process, those embedded in the system, at the heart of the process lose power, and the skills needed to succeed evolve. Historically the syndicate manager was alone in ‘knowing what was going on’ and was ‘indispensable’ and there were many banks and syndicate managers who were loathe to see this paradigm pass. Of course, the advent of e-bookbuilding opened up whole new avenues and possibilities for underwriters and their customers but not seeing the possibilities of change is not unique to investment banking… Interestingly - and perhaps this has evolved since I left the market a year ago - the US debt markets have not adopted these modern methods (and this despite their European businesses being amongst the largest players in European new issue markets, so they can’t say they aren’t familiar with the technologies and the possibilities), due in my opinion to the smaller number (of larger) players on Wall Street. (I didn’t say oligopoly!)

Typically in a bookbuilt issue, all the investors are sold the securities at the same price (a modified dutch auction process) and all distributors are engaged contractually (by their underwriting agreement) to adhere to this price during the primary selling period. In the fixed income markets this innovation (yes until 20 or so years ago this did not exist) is called a ‘fixed-price reoffer’. This gives buyers the incentive to show their best price, knowing that if the securities are sold more cheaply, they will not be paying over the odds. In so doing, the likelihood of achieving the highest clearing price (meeting all the issuers other objectives) is highest.

Thinking about the methodological continuum of issuing securites, if ‘bookbuilding is at one end of this spectrum, at the other extreme we find the ‘auction’ and in the middle the ‘bought deal’. Of course there are many different ways to conduct an auction (the most commonly used in securities markets is the ‘dutch auction’ and variations thereon) but in the context of this continuum I would simply describe an auction as a distribution mechanism where price is the only selection criterea (for buyers) and where the seller shoulders all the pricing risk. This is usually an optimal distribution strategy for an issuer who regularly accesses the market, has securities that are easily priced by the market (due to extensive secondary trading history in similar securities) and has no additional (to achieving the best clearing price) distribution goals. Nobel prizes in economics have been won discussing the different kinds of auctions and optimizing outcomes, so I’ll leave it to you to dive into the literature if you want to learn more. The bought deal on the other hand has the underwriter shoulder all the pricing risk; this is simply where the bank(s) ‘buy’ the deal from the issuer and then subsequently sell it on to investors. The advantage to the issuer is that they have certainty of pricing, but as in an auction give up control of the ultimate distribution of their securities. This form of issuance is generally used by frequent issuers with a well established (and unlikely to change) investor base.

One last element worth highlighting - to round out this whirlwind primer of how securities are priced and distributed in international capital markets - is the ‘grey market’. This is a (contigent) market in the new security traded on a “when and if issued” basis (between parties who are outside the underwriting arrangements.) Grey markets tend to appear and/or trade actively if investors and dealers believe that the likely issuance price is wrong (either too high or too low). When Stanley Ross first introduced the idea of grey markets in when-issued securities 30 years ago, he was met with massive resistance from the underwriting community: after having ruled the roost - “like it or lump it” - for so long, I guess the syndicate managers of the day didn’t like being told, very publicly, that their pricing was wrong. Of course there are times when good reasons exist for a discrepancy between the issue price and the grey market, and smart syndicate managers today know when the divergence is justified and when it signals a flaw in their pricing and distribution strategy. And so grey market trading has become just one more tool in the new issue market’s price discovery toolbox.

To wrap up Part 1, I suggest you draw two conclusions: (1) the international capital markets over the last 30 years or so have developed a very sophisticated and robust methodology and process for pricing and distributing new securites, and (2) many (if not most) of the innovations that led to this state of affairs were vigorously resisted by the existing establishment at the time of their introduction (and this continues today). It is worth noting however that the power of good ideas and the forces of competition allowed these innovations to ultimately prevail. (Moral of the story: you can either ride the wave or stand in front of it and get dashed against the rocks…)

In Part 2, I’ll try to illustrate how I think all this is relevant for markets in tickets for any kind of event.

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