Formula 1

Opinion: The Finances of Formula 1

Smaller f1 teams

Force India, Lotus and Sauber are eager to address the current disparity in the distribution of Formula 1’s income as they struggle amidst the increased costs of Formula 1’s new engine regulations.

 

It was no surprise that only a week after the first Grand Prix without both Marussia and Caterham, media attention at the Brazilian Grand Prix would remain focused on the discussions surrounding the costs of competing in Formula 1 and the methods by which teams are remunerated for their participation in the sport. I’ve had a chance to read and listen to the main players in the paddock and press to provide my personal perspective on a feud that has the potential to greatly impact on the appearance of Formula 1 for the 2015 season and beyond.

The Issue

At it’s core, the current dispute concerns the long-term financial security of the smaller independent teams within Formula 1, teams that do not have the financial backing of a major car company like Mercedes, Ferrari and Red Bull, and do not enjoy the current financial benefits awarded to McLaren and Williams for their past success within the sport. The concerns over the financial security of the smaller teams operating within Formula 1 has been increasing for some time this year, largely attributable to two key issues.

The first, is the increased cost of the new 1.6 litre V6 turbo hybrid power-plants, introduced this year in a bid to make Formula 1 more relevant to the car industry, attract greater engine manufacturer support, and boost the sports public profile through developing cutting-edge engine technology. The second is the distribution of wealth by the sports commercial rights holders through individual bi-lateral agreements, with each individual team, all on different terms. The effect of these deals has resulted in larger teams being guaranteed remuneration that would see them earn more money than smaller teams even if the smaller teams were to win the constructors championship.

Formula 1 journalist Joe Saward has released a brilliant graph that provides what he acknowledges as an approximate distribution of Formula 1’s earnings to the various teams and stakeholders.

f1paymentstructures

This brilliant graph from Joe Saward displays both the complexities and inequalities of the current payment structures that exist within Formula 1. Joe Saward can be followed on Twitter, Facebook and through his blog at joesaward.wordpress.com

 

The Players

The players in the current dispute can be divided into four separate camps:

The “Smaller Teams”

The smaller teams have been represented by Gerard Lopez of Lotus, Monisha Kaltenborn of Sauber, Bob Fernley and Vijay Mallya of Force India. All three teams appear to agree on two key issues: the higher than anticipated cost of the new engines for this season have made it difficult for them to compete in the sport, and that the distribution of income from the sport is unfair and unsustainable to ensuring healthy competition within Formula 1.

Lopez

Gerard Lopez has done more for his image in Formula 1 in the last two races than he has during his entire four years at the helm of the Lotus team. Once openly criticised for his handling of the teams finances, Lopez has provided a very rational and balanced view on the position of the smaller teams remaining in Formula 1.

Over both the US and Brazilian Grand Prix weekends, the positions of the smaller teams have revealed slightly different perspectives on the way they see the sports problems being resolved. In separate interviews with Martin Brundle, and in the official FIA press conference prior to the US Grand Prix, Gerard Lopez focused heavily on the cost of the new engines being at the heart of the dilemma faced in managing his teams operational budget, and that these exorbitant costs were being incurred at a time when his team had been openly seeking for the sport to reduce its costs. In Austin Lopez made the following statements which appear central to his concerns about the current problems facing smaller teams and any other teams interested in competing in the sport.

“It’s all good and fun and so on to talk about the fact that you shouldn’t spend more than what you have and not, but at the end of the day certain positions on budget are forced upon you just by the fact that that is what the market is giving you… if you want to stay competitive at a minimum level you are forced to spend a certain amount of level.”

“The fact is there is a minimum budget today to even exist in Formula 1 and that minimum budget has actually killed two teams and they [the two teams] did not choose to spend their money on the kinds of things that they had to spend them on.”

Monisha Kaltenborn appears to seek slightly more radical demands on the issue of costs and this may be reflective of her teams financial position. Where Kaltenborn appears to differ with Lopez is that she is adamant that a cost cap can be introduced into the sport. On this issue I believe the argument given by Mercedes team principal Toto Wolff during the US Grand Prix FIA press conference is very logical. A cost cap has the potential to create contrivance in the entertainment of the sport which is something I think Formula 1 should position itself away from. I believe a cost cap may in turn deter major engine manufacturers from becoming involved in the sport by not enabling them to display innovation, a risk the sport is already facing due to the increasingly restrictive aerodynamic regulations and the decision to freeze engine development.  I think variety is to be embraced in Formula 1 and that this should go well beyond aerodynamics but include engine and tyre manufacturers, regulations should always exist to mark out the playing field but, once provided, development should be permitted to function freely within this field. To be fair to Kaltenborn she did indicate to Simon Lazenby and Rachel Brookes in Brazil that Formula 1 should not be “a DTM at an international level” however I don’t see that being realistically avoidable with a cost cap in place.

Bob Fernley and Vijay Mallya appear to be the champions behind the belief that the commercial rights holder of Formula 1 is intentionally squeezing out the smaller teams in Formula 1 so as to make way for eight three-car teams in the future. In response to this belief, Force India rumoured at the possibility of a boycott from Force India, Sauber and Lotus, a threat that while never really appearing plausible, was enough to give their plight voice amidst the media masses. With that attention, Fernley was quick to point out the limited knowledge and involvement Force India currently have on the decisions being made on the introduction of third or customer cars. While not dismissing their introduction outright, Fernley certainly lamented their introduction as being in conflict with the spirit of Formula 1 as being a manufacturer-based championship.

Where all representatives of the smaller teams stand in firm agreement is in their importance to the sport of Formula 1. They are teams that compete to suceed in Formula 1 because that is what will ensure their survival. They do not use Formula 1 as a marketing tool to support their larger business interests and while they do not develop and construct engines, they will not pull out of the sport when it no longer aligns with their business models.

The “Larger Teams”

At present the larger teams are those backed by major car companies represented by Marco Mattiacci of Ferrari, Christian Horner of Red Bull Racing and Toto Wolff of Mercedes. At present each of the large teams are defending their respective teams position while stressing different areas on which the sport should focus.

Horner

While Horner continues to take a hard line stance to ensuring Red Bull obtain both financial and sporting success from Formula 1, at times in conflict with the future health of the sport, he does appear genuine in his belief to see a full grid of two-car teams in Formula 1 and for the sport not to move away from a manufacturer-based championship.

Much like on the issue of where the sport chooses to race, Christian Horner continually places the responsibility of those decisions in the hands of the commercial rights holder and the FIA. Speaking with the BBC, Horner addressed the financial struggles faced by the smaller teams stating that:

“It’s not for the teams to dictate that [smaller teams financial difficulties], it’s for the commercial rights holder and the FIA to grab a hold of the regulations and understand why these teams are struggling and reduce the costs that it takes to be able to compete.”

It should be noted that in finding the solution, Horner disagrees with the implementation of a salary cap, promotes the un-freezing of engine regulations, and speaking to Autosport recently, has suggested that the sport revert back to the old V8 engine formula.

Despite an unwillingness to provide financial assistance to the smaller teams by altering the agreements Red Bull signed with the commercial rights holder, Horner does appear sympathetic to their plight and appears uninterested in pushing three-car teams as he revealed Red Bull was obliged to do in the event the grid fell below 16 cars. When he spoke to Martin Brundle on the Brazilian Grand Prix grid Horner stated:

“We are hopeful that all the teams are going to be there [2015 season]. We would certainly support there to be a full grid of two car teams… We want a healthy grid, that’s the most important thing. We want to have a healthy grid, healthy racing, and competitive racing.”

It would appear from Horner’s comments that he fully supports a Formula 1 field of two car teams but is determined to ensure that Red Bull is not going to give up its financial position in order to make this happen.

Ferrari’s Marco Mattiachi, the man historically Ferrari in everything except Formula 1, has positioned the Italian giant against providing smaller teams with additional money, instead stressing the somewhat romantic notion of concentrating on ensuring the sport makes more money in the future to feed back to the smaller teams. A nice concept in principle, but slightly ignorant of the urgency required. Ferrari unsurprisingly continue to support the un-freezing of engines along with Red Bull despite the argument from Mercedes boss Toto Wolff that doing so would only increase costs further. No doubt Mattiachi will link the improved competition provided by un-freezing engine development together with the increased revenue this would provide to Formula 1 in order to sell Ferrari’s position to the smaller teams. One can only think that such a sales pitch will prove successful provided the engine manufacturers do not pass on the development costs to their respective customer teams.

Toto

Mercedes may well have the ease of on-track advantage, but as with its decision to enable Hamilton and Rosberg to race this year, its willingness to support smaller teams as well as opposing the introduction of customer cars, third cars, and a cost cap, is in the best interests of Formula 1.

Mercedes has taken the stance of being against the introduction of three-car teams and the un-freezing of engine regulations on the grounds of the increased cost that this would bring to Formula 1. The team have been open to assisting the smaller teams financially. Of course the cynics will say that Mercedes prefer to have more teams on the grid safe in the knowledge that there cars will beat them on race day. Toto Wolff appears to support competition within the sport but not through trivial means, such as a cost cap, customer or third cars, instead relying upon the introduction of regulations to the construction and development of the cars as a way to save money but still within a competitive environment. In addition to having allowed their drivers to race on track this year, Mercedes’ stance is to be applauded.

The Commercial Rights Holder

When a new Concorde Agreement binding all teams competing within Formula 1 was unable to be signed following the conclusion of the previous agreement, Bernie Ecclestone devised, or perhaps that should be, dusted off, his well-worn strategy of gaining the support of teams in the sport. Effectively the plan is that once you have the support of the biggest teams who manufacture the engines and have contracts with the most recognisable drivers, the other teams will follow. In order to draw in the larger teams, Ecclestone gave preferential deals to them, the effect of which can be seen in Joe Sayward’s diagram above. Unfortunately however, the deals have gone too far on this occasion and have skewed the finances away from the smaller teams to such an extent, that there ability to compete in the sport is under threat. The largest owner of shares in the commercial rights of Formula 1 is private equity firm CVC, who employ Bernie Ecclestone to represent their interests on their behalf. Now under the employ of CVC, Ecclestone may now have to convince CVC of the need to make concessions with the aggrieved teams in order to maintain a healthy number of teams within the sport.

The FIA

The FIA, under its current president Jean Todt, has played a very hands-off approach to the current financial difficulties appearing to face smaller teams in Formula 1. This is in stark contrast to that of its former president Max Mosley, whose campaign for the introduction of a salary cap into the sport, was the catalyst by which Virgin Racing, Lotus Racing and Hispania Racing entered the sport in 2010. Despite their limited involvement in the current dispute at present, the FIA has a key role in overseeing the regulations of the sport and, perhaps most significantly, the engine regulations. With growing discontent from smaller teams about their cost, and larger teams frustration at restrictions imposed upon their development, the future direction of the sport may well have the FIA’s fingerprints all over it.

The Key Questions

Formula 1 has seen 135 teams come and go in the past so what’s different now? Isn’t the threat of teams failing part of the intense competition that exist at the highest level of motor racing?

This argument would have been acceptable during the late 80s and early 90s when knock-out pre-qualifying meant exactly that, fail to perform on a normally cold 8am Friday morning and you wouldn’t be resigned to the back of the grid, but to the international departure lounge, because more teams would turn up to the circuit than than the circuit could provide room for. Back then, a team going into administration was not a controversy but more of a convenience. How times have changed. Not only is there a genuine lack of willingness to start new Formula 1 teams there appears to be no interest in buying a current Formula 1 team as evidenced by the inability of either HRT, Caterham or Marussia to sell their operations. Formula 1 teams are at present a rare commodity and those willing to invest in it must be supported through what must be acknowledged by other teams as extremely difficult financial conditions.

If teams don’t like the current distribution of the sports earnings as they stand, why did they sign into their respective agreements?

This question was asked during the team press conference at the US Grand Prix and Vijay Mallya gave a very frank response stating that he was left with virtually no option but to sign the agreement. It highlights the reality faced by non-manufacturer supported teams in that under the new bi-lateral agreements, smaller teams were left with no bargaining power towards the commercial rights holder, such were the preferential deals signed with the larger teams. The signing of these agreements by the smaller teams including Marussia and Caterham further highlights the smaller teams most provocative argument, in that regardless of the deal, they are there to do everything they can to race in Formula 1.

Why don’t the bigger teams allow for re-negotiations of FOM agreements to ensure smaller teams get a larger share in Formula 1’s annual revenue?

Formula 1 teams don’t just compete on Sunday, in fact, the win on Sunday is usually as a result of many victories had well away from the race circuit, be it in the competition to sign key personnel, the legal interpretation of sporting regulations or the signing of technical partnerships with wealthy investors, there is competition at every level. For a Formula 1 team to relinquish that success is very difficult even if doing so may well assist it’s respective employees by bringing greater stability to the sport.

Can’t the commercial rights holder of the sport reduce their cut of the Formula 1 revenue to allow the smaller teams to earn more money?

This would certainly appear to be the answer. Bernie Ecclestone revealed after the US Grand Prix that he may well have caused the current discontent within Formula 1 by drafting bilateral agreements with the lager teams in Formula 1 to ensure the smaller teams would be forced to sign on their deals. Aside from the responsibilities that CVC has to its stakeholders, its important to remember that Bernie Ecclestone is deeply aggrieved with the current engine formula in the sport, continually denouncing what he sees as an inferior form of entertainment for fans and promoters, at an inflated price to teams. This reasoning could provide Ecclestone with a way to attribute blame to the manufacturer-based teams for the current plight faced by the smaller teams in Formula 1.

Why would the commercial rights holder want to see the failure of the smaller teams in Formula 1 as suggested by Force India deputy team principal Bob Fernley?

This is a fascinating issue raised by Sky Sports at the conclusion of the Brazilian Grand Prix coverage and one for which Ted Kravitz and other journalists appear to be at a loss to understanding. Why the larger manufacturer-supported teams would secretly want to bring down the customer-engine teams. As previously outlined above, if Christian Horner is to be believed, he doesn’t believe in three-car teams and would rather the small teams to stay, as for other teams possibly seeking to enter the sport, VW has made it clear that they still have no intention to join Formula 1 in the foreseeable future, so the need to remove the smaller teams from the sport, as suggested by Force India, just doesn’t seem to make sense. As Johnny Herbert was quick to point out, if you remove the smaller teams, then those remaining risk becoming the back markers of the field, something McLaren would certainly not want to occur.

Opinion

The current pay structure in Formula 1 is not only unsustainable for those currently competing, it is hindering the capacity for Formula 1 to present itself as a viable project for anyone seeking to compete in the sport. Will the larger teams tear up their contracts with the commercial rights holder and start again? Almost certainly not. These teams compete fiercely on-track and off it and a win is a win. While the likes of Christian Horner and Marco Mattiachi may point to the interests of their colleagues as their primary concern, surely they would agree that the interests of their colleagues always remain subject to the health of Formula 1. With the larger teams seemingly unwilling to relinquish their position, the onus rests with the commercial rights holder. CVC can resolve the problem until the current contracts expire by guaranteeing the smaller teams with a level of income that enables them to compete credibly amidst the current costs incurred in Formula 1. However, any such outcome would require CVC, the majority share holder to relinquish a portion of its income in order to ensure the future financial health of its participants. Simple enough you would think, but when CVC can’t even see the value in waving the hosting fee for a Formula 1 race on the shores of the Hudson amidst the back drop of the New York city skyline then one wonders what chance the smaller teams really have. If recent reports are to be believed, Bernie Ecclestone has been conducting meetings with Donald MacKenzie of CVC, but with no intention of looking to provide financial assistance to the smaller teams. With no real sale date in the foreseeable future, when will the commercial rights holder of Formula 1 look to make positive moves to investing in the secure future of the sport.

I personally believe with what Max Mosley has suggested in relation to the division of the sports revenue and that is that all teams should get an equal share regardless of their performance in the championship. This is by no means a foreign arrangement. The National Football League does exactly that. Formula 1 teams should make there additional revenue from sponsorship, the extent to which would no doubt be largely reflective of their performance in the championship.

As previously outlined above, a cost cap should not be introduced into Formula 1 as it would simply be too difficult to police and implement. Formula 1 has always provided a field of teams that have and those that have more, you just have to ensure that the haves can compete credibly. As for engines, a freeze so early into the development of this technology was never going to work. Such regulation defeats the purpose of manufacturers trying to improve hybrid technology for the betterment of the car industry and the environment, something which Formula 1 wanted to position themselves prominently on. The engine manufacturers should be able to go hell for leather in the development of their engines with one specific caveat. No costs incurred by the manufacturers in undertaking this development should be passed on to the customer teams. The freeze should be on the price of these engines and no their development. Only in that way will the spirit and entertainment of Formula 1 be secure in the years ahead.

Formula One World Championship, Rd5, Spanish Grand Prix, Race Day, Barcelona, Spain, Sunday 13 May 2012.

Don’t be fooled, the guy on the right holds all the cards. How much, if any, is CVC co-chairman Donald MacKenzie willing to invest in Formula 1 in order to resurrect the value of the investment CVC is so eager to get rid of? If history is any indication, absolutely nothing, and this will almost certainly be to the detriment of both Formula 1 as we know it and CVC.

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