Tensions simmered behind scenes as Lincoln arena deficit ballooned

Deena Winter
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Jun 24, 2014 5:00 AM
Tensions simmered behind scenes as Lincoln arena deficit ballooned
Matt Masin for Nebraska Watchdog

BUDGET GAP: Lincoln’s new Pinnacle Bank Arena has struggled to get in the black in its first year of operation. Internal public documents show city officials have struggled to find the best way to bridge that gap.

By Deena Winter | Nebraska Watchdog

LINCOLN, Neb. — In December, less than four months after Pinnacle Bank Arena opened, the arena’s operating budget was looking good: the arena had opened like a rock star, with a string of 10 big-name concerts that brought in over 100,000 people and generated $8 million in ticket sales.

The arena’s manager, Tom Lorenz of SMG, had told the mayor’s office the arena was making money. The arena enjoyed a grand honeymoon with concerts by Jay Z, Pink, Elton John, The Eagles, Bon Jovi, Michael Buble and John Mayer.

But just two months later, as the Husker basketball seasons heated up, the arena’s financial picture cooled considerably, and Lorenz delivered bad news to the mayor’s office: the arena would need a half-million-dollar subsidy to stay in the black by the end of the first year.

The mayor’s office was surprised and not happy with this turn of events, according to public documents obtained by Nebraska Watchdog under the open records law. City officials had hoped to avoid having to subsidize the new arena (as it had the old arena for years) and were surprised when the arena began to bleed red within just a few months of opening.

In late February, Lorenz was summoned to a meeting with Mayor Chris Beutler, where he was instructed to bring “five specific operational changes you plan to make to erase the projected $500,000 deficit,” according to a curt email from a mayoral aide.

“Additionally, you should be prepared to address why in December you indicated to (Finance Director) Steve Hubka and mayor that you were making money and now, two months later in February, you are stating you would need a half-million dollar subsidy to arena operations,” Trish Owen wrote in the email. “The solution to this needs to come from you.”

SMG’s most recent financial statements (through April) show the arena posting a nearly $529,000 loss and projecting to end the year with a $479,000 deficit. SMG had expected the arena to make nearly $94,000 in its inaugural year.

The mayor’s office and SMG employees began meeting monthly to work on solutions to the budget gap. The main contributing factors were lower-than-expected revenue from Husker basketball games and parking revenue (in part because a bridge to a parking lot didn’t open on time after girders failed) and higher-than-expected utility costs.

Subsidy avoidance

It’s clear from public documents the mayor’s office wanted to avoid subsidizing the arena. After a late February meeting between the mayor’s office and SMG (a private company that operates the arena), Hubka wrote that “When all was said and done, the mayor reminded them (SMG) that the projected deficit needed to go away.”

And while Lorenz had agreed to firm up some cost-saving ideas — such as leaving SMG positions unfilled and reducing cleaning — Hubka was dubious.

“Six months is a short time to make up that projected gap though and I remain skeptical they can make it up,” he wrote in an email.

In fact, emails obtained by Watchdog show SMG’s finance director, Trent Brown, downplayed the deficit at a January meeting of the arena’s advisory board. In an earlier meeting with the mayor, SMG had projected a half-million-dollar deficit by the end of the fiscal year, but in its financial report to the advisory board, that deficit was reduced to $203,000.

The city’s finance director, Hubka, wasn’t at the advisory board meeting, but noticed the discrepancy later and asked Brown about it in an email.

“The mayor made it clear to us that he didn’t want to panic the advisory board so we reduced it,” Brown explained in an email. “It is a forecast, so $203k is not out of the realm of possibility although we made it clear to the board that it could get worse.”

Since the mayor had indicated the joint public agency that oversees the arena might give SMG some relief from high utility costs, Brown reduced that line item to make the financial picture look better for the advisory board.

But the hemorrhaging continued, and ultimately last week the JPA had to step in to plug the budget gap by shifting advertising revenue from its coffers to SMG.

While some JPA and city officials have tried to portray the arena’s budget problems as standard for a new business getting off the ground, internal emails show they were concerned about how the shortfall — and their solution — would play with the public.

When the city attorney was asked whether it would be legal to give SMG a break on utility bills (which will be higher until the West Haymarket develops more), he said yes, but added, “I think the difficulty will be explaining it to the Watchdogs et al.” The Watchdogs are a government watchdog group whose spokeswoman attends JPA meetings and often takes a critical view of the JPA’s decisions.

Hubka noted that “by reducing the cash flow to the JPA we’d slow the ability to pay debt early, which would draw some attention. That being said, the JPA’s cash flow is in better shape than the arena’s.”

The man who came up with most of the overall project’s budget projections, Don Herz, has since retired, but still works part time on arena finance issues for the city.

“I think we all wanted a first-class operation of a first-class building,” he wrote in an email to a mayoral aide. “I think we all wanted to ensure that at least for the first years that we try to avoid ‘budgeting’ for an operation shortfall.”

His emails show he was concerned that shifting JPA advertising dollars to SMG would amount to a big chunk of change over the course of 30 years.

Under a sponsorship agreement, global sports and media company IMG pays the JPA a set amount annually for the rights to sell sponsorships and ads. This year, that payment is $750,000. But the annual payment inflates at a rate of 2 percent per year, so the payment eventually balloons to nearly $2 million per year, Herz said. If the JPA shifted all of that revenue to the arena, it could amount to a $40 million hit to the JPA’s bottom line over 30 years, according to Herz’s projections.

That’s $40 million less left to pay off the West Haymarket’s overall debt, which nearly reaches $1 billion with interest, over three decades.

“This is a fairly conservative projection, but I would hate to see you have to give up any more of the sponsorship revenue,” Herz wrote in an email to city officials. “You could do that for a couple of years, but any more than that starts to create some concern.”

So far, the JPA has only approved transferring advertising revenue this year. Hubka said no decision has been made on whether the transfers will continue and whether SMG will be allowed to benefit from that inflator.

“Everyone’s preference would be that the inflationary amount is not needed for operations and would stay with the JPA for debt service,” he told Nebraska Watchdog via email.

Husker basketball comes up short

A major contributor to the budget gap can be traced back to the deal the city struck with the University of Nebraska-Lincoln to have its basketball teams be the arena’s primary tenants.

City documents indicate Husker basketball games have only accounted for a paltry 14 to 20 percent of the arena’s gross revenue, because the arena operator has to absorb so much of the cost of hosting games.

SMG was way off in its projections for what Husker basketball games would bring in; it was 42 percent off their budget projections for men’s games and 72 percent off for women’s games, for a total of about $500,000 — enough to plug the budget deficit.

According to city documents, the men’s games netted about $20,000 per game, while the women’s games averaged a $5,000 loss. That pales in comparison to a concert, which can bring in $270,000. The Eagles concert generated over $170,000 in income; Pink brought in nearly $271,000 and Elton John over $170,000.

Lorenz said food sales to suites went down as the basketball season progressed, and internal emails indicated SMG may try to improve sales by lowering those prices next season.

While the city needed UNL to garner enough support for building the arena and selling high-priced seating, the basketball games have clearly been a drag on the budget. Not only because they don’t generate much money, but also because other events have to be scheduled around basketball games and practices from November through March.

But Lorenz is quick to note that having the Huskers play in the arena surely helped sell advertising, naming rights and suite, loge and club seating.

“Those determinations of UNL’s value to the project are much more subjective,” he wrote in an email to a mayoral aide.

One reason the games don’t bring in as much money per person is that alcohol can’t be sold at university sporting events. Being able to sell $8 beer would plump up receipts.

Internal emails show city officials have talked about how much beer sales would boost revenue at basketball games. Lorenz estimated beer sales could bring in about $351,000 per season, of which UNL would get some portion.

Lorenz told Nebraska Watchdog the subject has been broached with university officials, and at this point they’re not willing to sell alcohol. While the additional beer revenue would be helpful to the arena’s bottom line, the university has to consider ambience and recruiting issues, he said.

“They’ve got bigger things to consider,” he said. “It’s really their choice.”

Internal documents indicate there’s also been talk of rewriting the lease with UNL, which currently requires UNL to pay $750,000 in rent annually, but the school gets credits for lost concession revenue, sales tax revenue from ticket sales and the first dollar of basketball ticket surcharges.

Documents show Lorenz has floated the idea of the JPA eliminating the $300,000 credit to UNL for lost concession revenue and “rewrite the deal as a split partner.”

“We haven’t run all the numbers yet but this gives them a potential upside but they also have some risk,” he wrote to a mayoral aide. “It may encourage them to send people out to the (concession) stand at halftime and to institute alcohol sales.”

However, Lorenz acknowledged in an interview that UNL is unlikely to want to revisit the contract.

“If I’m in their shoes, and you got a contract, it’s probably not at the top of their list of things to do,” he said.

Herz expressed surprise basketball wasn’t bringing in much money in a February email to the mayor’s office.

“With attendance at basketball well above projections I don’t understand the bad results on the income side,” he wrote.

But Lorenz said there were start-up costs, and it takes awhile to figure out where the budget numbers are going to settle.

“Our job is to break even,” he said. “When you submit a budget, you’re doing your best guess.”

Contact Deena Winter at deena@nebraskawatchdog.org.

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