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Selasa, 19 Juli 2011

Manchester City's Amazing Deal: Know Your Rights


When Manchester City announced that their commercial agreement with existing shirt sponsor Etihad Airways was to be expanded into a 10-year deal worth up to £400 million, the reaction of most observers in the football world was one of disbelief. This hugely lucrative contract includes the renaming of the City of Manchester Stadium in a naming rights deal that is likely to be the highest ever signed in football.

Indeed, Garry Cook, City’s ebullient chief executive, described it as “one of the most important arrangements in the history of world football”, while the CEO of Etihad Airways, James Hogan, was even more effusive, employing the full range of business buzzwords, “This is a game changing partnership agreement that redefines the traditional sports sponsorship paradigm.”

Of course, many people immediately assumed that one of the principal drivers of this deal was City’s need to boost their revenue in order to cope with the imminent arrival of UEFA’s Financial Fair Play (FFP) regulations that compel clubs to live within their means (if they wish to compete in Europe). This was tacitly confirmed by Cook, when he admitted, “The backdrop, of course, is UEFA’s Financial Fair Play and this deal helps (us) to continue to make significant progress in that area.”

Exactly how much is impossible for external analysts to say, as City have yet to publish the financial aspects of the deal. Initially, most newspapers suggested that it was worth £100-150 million, but now seem to have settled on £300 million, rising to £400 million. The truth is that nobody outside the club really seems to know for sure. Indeed, City released a statement to this effect, “The financial details of the comprehensive agreement announced last week between Manchester City and Etihad Airways remain confidential and figures being speculated about are not accurate.”

"Cooking up a good story"

The lack of certainty over the value of the sponsorship has not prevented prominent figures at other clubs from criticising the deal. The first to express his doubts was Arsenal manager, Arsène Wenger, who has often lambasted the practice of “financial doping” in the past, “It raises a real question about the credibility of the financial fair play. That is what this is all about. They give us the message that they can get around it by doing what they want.”

Liverpool’s new owner, John W. Henry, quickly followed suit, when he claimed that “Mr. Wenger says boldly what everyone thinks.” The Reds’ managing director Ian Ayre was unsurprisingly of the same opinion, questioning the transparency of the arrangement, given the close relationship between the sponsors and City’s owner, “The guys from UEFA said there would be a robust and proper process about related pay transactions.”

Wenger agreed, “It looks to me that Platini is very strongly determined on this. He is not stupid. He knows that some clubs will try to get around that and I believe they are studying behind closed doors, how they can really strongly check it.”

Certainly, UEFA talked tough last year, when Andrea Traverso, their head of club licensing and financial fair play, described what would happen if clubs attempted to beat the system by taking advantage of loopholes, “Should the clubs put in place specific structures that allow them, in ways we didn't think about, to easily get around some of the principles, we could amend these rules to catch up with these situations.”

"Michel Platini: this is how FFP will work"

UEFA President, Michel Platini, ostensibly substantiated the concerns of City supporters that he was targeting their club when he specifically mentioned them last year during the announcement of the new financial measures, “Manchester City can spend £300 million if they want to, but if they are not breaking-even in three years, they cannot play in European competition.”

However, Garry Cook did not appear overly concerned, “We have a very open dialogue with UEFA. We have had several meetings with them and they are very supportive of our plans.”

Indeed, UEFA’s response to City’s mega deal was far more measured than a year ago, “We are aware of the situation and our experts will make assessments of fair value of any sponsorship deals using benchmarks.” So, City are no longer being singled out, at least publicly, with UEFA keen to stress that they will investigate all major sponsorships whatever the club, which “will then be considered by the Club Financial Control Panel, together with any relevant information the clubs present regarding the deals, when they assess the break-even requirements.”

So how will UEFA assess City’s deal?

This is effectively a three-stage process. First, they have to decide whether the deal is a “related party transaction”. If they believe that it is, then they have to estimate the “fair value” of the deal. Finally, if the actual value is higher than the fair value, the difference is deducted from the revenue included in the FFP break-even calculation.

"Every cloud has a Silva lining"

The notion of related party transactions is evidently important to UEFA, as no fewer than three pages of the FFP regulations are dedicated to defining exactly who or what is a related party. The key point here is that “close members of the family” are considered to be related parties, so long as they have “control” or “significant influence” over the club.

In this case, Etihad Airways is owned by the government of Abu Dhabi, whose ruler Sheikh Khalifa bin Zayed Al Nahyan is the half-brother of City’s owner Sheikh Mansour bin Zayed Al Nahyan. It is conceivable that City might be able to demonstrate that no influence exists, but it would appear that there is a prima facie case to answer.

It is not clear whether the fact that the majority of City’s commercial sponsorships come from the Gulf state, including the Abu Dhabi Tourist Authority, Etisalat and Aabar Investments, will have any bearing on UEFA’s ruling, but Cook himself has admitted that it is “clearly evident” that there is a strong Abu Dhabi bias. Anyway, for the purpose of our analysis, let us assume that UEFA do indeed treat this deal as a related party transaction.

In fact, the FFP regulations expressly include “sale of sponsorship rights by a club to a related party” as their first example of “transactions that require a licensee to demonstrate the estimated fair value.” This has also been verbally confirmed by UEFA’s general secretary, Gianni Infantino, who said that such transactions would be compared to similar deals already in place.

"Fast Kompany"

Again, John W. Henry expressed his scepticism, when he asked, “How much was the losing bid?” Wenger also cast doubts on the value of the deal, “If FFP is to have a chance, the sponsorship has to be at the market price. It cannot be doubled, tripled or quadrupled, because that means it is better we don’t do it and leave everybody free.”

However, Garry Cook argued, “There’s real value in that partnership. Financial Fair Play isn’t the driver, commercial growth is the driver.” That obviously makes sense for City, but how about Etihad? The airline’s executives would contend that this deal has already been superb for their profile, as evidenced by last week’s intense media exposure, and will provide them with a more than acceptable return on their investment.

Not only do City compete at the upper levels of the most viewed league in the world, but their global visibility has been dramatically enhanced by their qualification for the Champions League. Indeed, it is quite possible that the airline gets more bang for its buck with City compared to more established clubs, as the exposure is higher with such a project. Big money deals may be old hat at clubs like Manchester United or Real Madrid, but it’s a relatively new phenomenon at Eastlands, sorry, the Etihad Stadium.

"Nigel de Jong - Dutch courage"

Some have questioned how it could make sense for a loss-making company like Etihad Airways to splash out such a large sum in sponsorships, but that ignores the fact that this investment is all about “building the brand” in the same way as Emirates have done in the past.

At this stage, it’s worth pointing out that the FFP regulations refer to “fair value”, as opposed to the “market value” that is incorrectly used by much of the media. The difference can be seen by an analogy in the housing market. If you decide to sell your house and 99 people offer you £250,000, that would be considered fair value, but if one enormously wealthy individual likes it so much that he bids £500,000, that is the market value.

This is an important distinction, as market value would be easy to prove. Sports lawyer Andrew Nixon of Thomas Eggar LLP asserted, “Competition law challenges rarely succeed on sponsorship deals. There is a vast number of football teams and leagues airlines can sponsor and there are many viable market alternatives.”

Importantly, even if UEFA rules that City’s deal is above fair value, it is only the excess that would be deducted from the club’s income for the purposes of the FFP break-even calculation and not the entire agreement. In other words, if the deal is worth £30 million a year and UEFA consider the fair value to be £25 million, only £5 million would be deducted.

"Don't cry for me, Argentina"

UEFA’s difficulties in assessing the fair value of the deal are compounded by the structure of the deal, which covers far more than the stadium naming rights that were initially reported. This is just one element of a broad agreement that also includes an upgrade of the current shirt sponsorship and naming rights for the Etihad Campus, which encompasses a large part of the Sportcity site in East Manchester.

Furthermore, given the long-term nature of the contract, City could argue that they have built in uplifts, as the sponsorship market might be even more lucrative in ten years time. In addition, part of the money is almost certainly based on performance bonuses, e.g. qualifying for the Champions League or winning the Premier League, which might make it more palatable to the powers that be.

As I said earlier, nobody can honestly claim to know the actual revenue split of the deal, but we can make a reasonable working assumption that the shirt sponsorship is worth £20 million a year, the stadium naming rights £10 million and the campus another £10 million. As we assess each element for fair value, it will become clear why these values have been chosen.

An assumed shirt sponsorship value of £20 million would place City right at the top of English deals, generating the same annual revenue as Liverpool and Manchester United. Those clubs might argue that City’s historical performance should not allow them to be at the same level, but the counter-argument would be that nobody complained about Liverpool increasing their sponsorship deal by £12.5 million a season when they replaced Carlsberg with Standard Chartered last season, even though they had not qualified for the Champions League. Similarly, Tottenham managed to increase their sponsorship by nearly 50% from £8.5 million to £12.5 million (via an innovative combination of Autonomy and Investec), based on just one season in the Champions League.

If the net is cast a little wider, Bayern Munich’s sponsorship deal with Deutsche Telekom is worth around £23 million, though performance bonuses could take that above £25 million. That might seem reasonable for a club with Bayern’s tremendous record, but the value of deals at other German clubs is more debatable, particularly Schalke’s money-spinning deal with Gazprom.

Equally, the announcement of Barcelona’s first ever shirt sponsorship deal with the Qatar Foundation, a non-profit organisation, did not attract the same levels of opprobrium as City’s. This has been widely reported as €150 million over five years, but is actually worth up to €170m, as it also includes €5 million trophy bonuses and €15 million for “the concept of commercial rights”. So, it is likely to be worth €34 million a year (or just under £30 million at the current exchange rate).

"The Italian Job"

Others have pointed disapprovingly at the magnitude of the increase in City’s shirt sponsorship, but they have cited a current value of £2.3 million for the Etihad deal, which looks far too low. Deloitte and other reputable sources have said that this deal is worth £25 million over three seasons, so with uplifts, it’s around £7.5 million as we speak. Other commentators have probably confused this with City’s previous deal with Thomas Cook that was worth £2.3 million.

If UEFA genuinely want to investigate the value that companies obtain from sponsorship, it might be pertinent to ask why they don’t also take a look at Emirates, which sponsors many different clubs. Or indeed the ethicality of clubs being sponsored by gambling sites, which is a growing trend in football marketing.

Probably the most contentious aspect of the deal is the stadium naming rights, which is virtually unprecedented in football at its estimated value. There are very few decent benchmarks in the Premier League with the obvious comparative being Arsenal’s deal with Emirates, which was worth £90 million (£100 million less £10 million fees), covering 15 years of stadium naming rights (£42 million) and 8 years of shirt sponsorship (£48 million).

This works out to just £2.8 million a year for the naming rights, which is considerably lower than City’s deal, but it’s not really a fair comparison for many reasons. Not only have sponsorship values in general grown significantly since the agreement was signed, but also this particular deal is very much a special case, as Arsenal compromised on the total value so that the cash payments would be heavily front-loaded to help finance the construction of the stadium. When questioning the merits of City’s deal, Arsène Wenger drily observed, “We must have done a bad deal”, but there’s more than a grain of truth in that assertion with Emirates admitting that they “did well with Arsenal.”

"Get your Yaya's out"

It’s worthwhile looking at Germany for a more considered view on naming rights, as the market there is more than four times as large as in England, according to Sport + Markt’s 2011 Naming Rights report. Many clubs in the Bundesliga have sponsorship deals for their stadiums, including Borussia Dortmund (Signal Iduna), Hamburg (Imtech), Wolfsburg (Volkswagen), Stuttgart (Mercedes-Benz) and Eintracht Frankfurt (Commerzbank).

However, perhaps the best known is Bayern Munich, whose deal with Allianz is worth €90 million over 15 years, producing €6 million (£5 million) a year. On the face of it, this might suggest that City’s £10 million deal is over-valued at double the money, but this is far closer than the difference in overseas TV rights, which are around 14 times higher in the Premier League than the Bundesliga. Obviously, this is not quite the same thing, but it’s food for thought.

Or UEFA might look even further afield to America, where naming rights are a well-established feature of the sporting landscape. Virtually every major sports arena is now named after a sponsor that provides the club with a healthy source of income. The concept is nothing new under the sun either, as Times Square was named after the New York Times way back in 1903.

Although the link between football and American sports like baseball, NFL and NBA may seem rather tenuous, fundamentally the principle is identical and it seems quite pertinent with the influx of foreign owners into English football. Some of the stadium deals signed on the other side of the pond provide an indication of where this market may go in the future, going as high as $30 million a year paid by JP Morgan Chase for Madison Square Garden. Citigroup and Barclays both pay $20 million a season, the former to the New York Mets, the latter to the New Jersey Nets. Farmers Insurance have paid an astonishing $700 million over 30 years to name a stadium in Los Angeles where a team is not even established yet.

This does rather beg the question of how the sponsor benefits from such a deal: what’s in a name? The obvious answer is brand awareness with a raised profile, which is particularly well served if it is a new stadium. This point was seized upon by Ian Ayre, Liverpool’s managing director, who noted, “It hasn’t happened in Europe that a football club has renamed an existing stadium and it’s had real value.” This is correct, but it’s doubtful whether too many fans are attached to the name Eastlands (or even the City of Manchester Stadium). It would be a different story if this had been Maine Road. This is why it would be difficult to sell naming rights for grounds like Anfield or Old Trafford, as whatever name anybody tried to call the stadium, everyone would still use the old/real one.

One valid point about City’s agreement is that other Premier League clubs have to date been unsuccessful in securing large naming rights deals, though paradoxically this announcement could potentially help others make progress in their discussions. Chelsea have been looking to secure a partner for some time with analysts suggesting that £10 million is the objective, while Liverpool would be equally eager if they move to a new stadium, as Ayre confirmed, “We already have a very healthy dialogue in place with several leading brands regarding naming rights.”

"Hart and Soul"

That said, the Sports + Markt report confirmed that the value of stadium naming rights has been steadily rising, up over 60% from €48 million in 2007 to €78 million in 2010 with the total projected to increase to €87 million in 2011.

Given the difficulties inherent in finding solid comparatives for naming rights, it is possible that UEFA might look at this as just another commercial deal. If they did so, they could not help noticing that the bar is being constantly raised in the commercial sphere, e.g. contracts with kit suppliers. Liverpool’s recent £25 million deal with Warrior Sports is more than double the amount that they previously received from Adidas, helped by the relationship that the new owners enjoyed with the company, which already provides kit for the Boston Red Sox.

Similarly, Manchester United are in discussions to extend their deal with Nike for a record £450 million, which would be worth around £35 million a year, a £10 million increase. If you think that’s impressive, the French national team’s deal with Nike is worth €320 million over 7½ years, which works out to about £37 million a year for just a handful of matches.

In short, commercial opportunities in football are big business these days and City’s deal should be assessed in that light. In a strange way, it brings to mind the movie “The Wizard of Oz” and the famous line about not being “in Kansas anymore.”

With the exception of Manchester United (£81 million), English clubs have lagged their continental counterparts when it comes to making money from commercial opportunities, growing fatter on a diet of ever-increasing TV contracts. Not only do the Spanish giants, Real Madrid and Barcelona, earn substantially more at £124 million and £100 million respectively, but German clubs also consistently generate more income. This description does not just refer to Bayern Munich, who earn an astonishing £142 million commercial revenue a year, but also clubs like Schalke, Hamburg and Dortmund.

There’s certainly room for improvement, which is exactly what English clubs are belatedly doing. In 2010/11, Manchester United’s commercial revenue will exceed £100 million, while Liverpool’s £62 million will ultimately be boosted by £25 million growth from the Standard Chartered and Warrior deals. Likewise, Chelsea will increase their revenue by £12 million from £56 million following better deals with Adidas and Samsung.

In other words, it’s become a commercial arms race with each of the leading clubs significantly increasing their commercial revenue in their own way – and City are no exception.

Actually, I tell a lie, as City’s deal includes one unique element, the Etihad Campus, which is perhaps the cleverest and certainly the most innovative part of the agreement. This is a gigantic redevelopment project on 80 acres of land adjacent to the stadium, including a relocated training ground, youth academy, a sports science facility, office space, a call centre and City Square retail outlets. The academy will be seriously impressive, catering for up to 400 young players, with 16 football pitches, a 7,000 capacity stadium for youth matches and on-site accommodation.

"Opportunities (Let's Make Lots of Money)"

Such a development will not only benefit the community, but will bring a raft of sponsorship opportunities. Nothing like this has been done before, so it will be very difficult for UEFA to assess and almost impossible to deem unfair. In fact, this is exactly the type of expenditure that UEFA is trying to encourage with direct youth and community development costs being totally excluded from the FFP break-even calculation. For someone with pockets as deep as Sheikh Mansour, this is effectively “free” money, at least in terms of FFP.

On top of that, Annex X allows any profits from non-football operations to be included in the calculation, so long as the operations are: (a) based at, or in close proximity to, a club’s stadium and training facilities, such as a hotel, restaurant, conference centre, business premises (for rental), health-care centre, other sports teams; and (b) clearly using the name/brand of a club as part of their operations.

That sounds very familiar, so it’s a double whammy for City: the costs for this development are excluded, while the profits from the business located there are included. Not only that, but UEFA should be positively delighted, as it’s very much in the spirit of the stated objectives of FFP. Given those factors, the temptation must be to load up the sponsorship on this part of the agreement, so the deal split might be more like £10 million on shirt sponsorship, £5 million on naming rights and £25 million on the campus. We shall see.

Even with the benefit of this deal, City are still a long way from break-even, having recorded a thumping great loss of £121 million in 2009/10. The deficit is anticipated to be even higher last season, as the impact of the previous summer’s incoming players will have further increased the wage bill and amortisation. Nevertheless, City insist that matters will improve. Garry Cook stated, “Clearly our intention is to comply. FFP is on our conscience. We talk about it at every board meeting and it’s part of our long-term plan.”

Even the spendthrift manager Roberto Mancini now appears to have accepted the new financial realities, “FFP is for everyone”, saying that City would no longer “pay £10 million more than other clubs” for new players. Indeed, so far this summer, City have only signed Gael Clichy from Arsenal for £7 million and Montenegro defender Stefan Savic for a similar amount. That’s chicken feed by the Blues’ recent standards, though there’s still time for them to splash out on another big name.

That said, City are very keen to reduce their bloated wage bill by offloading players that no longer fit into Mancini’s plans, including the likes of Emmanuel Adebayor, Craig Bellamy, Wayne Bridge and Shay Given. From this season, the club’s revenue will also be significantly boosted by a Champions League campaign and, of course, the vast growth in sponsorship deals.

They will also be helped by the UEFA’s so-called “acceptable deviations”, namely the €45 million aggregate losses allowed in the first two-year monitoring period, which means that they don’t have to actually reach break-even from day one, so long as the owner covers the losses, which I think we can safely assume.

If that wasn’t enough, the glide path is made even easier by clubs being allowed to exclude wages from players signed before June 2010, so long as they are reporting an improving trend in their accounts. Granted, that “loophole” only exists for the first two monitoring periods (2013/14 and 2014/15), but it will buy City time to execute their strategic plan.

In essence, that has been to spend big in the short-term on transfers and wages in order to break into the Premier League top four, so that they can qualify for the riches of the Champions League, which is easily worth £30 million additional revenue a season. That extra income will contribute towards balancing the books while the academy can be established, producing top class players in-house, but the growth in commercial revenue is still a vital component to that strategy.

One of UEFA’s main objectives in implementing FFP was to “curb the excessive spending and inflated transfer fees and player salaries that have endangered football in recent years.” To a certain extent, there are some signs that this is happening, but new regulations often have unintended consequences and it appears that clubs are also striving to increase their revenue, as opposed to simply cutting costs.

Even though City’s revenue grew by an impressive 44% in 2009/10 to £125 million, which pushed them up to 11th place in the Deloitte Money League, this is still a long way behind other leading clubs. For example, it’s less than half of local rivals Manchester United (£286 million) and £100 million lower than Arsenal (£224 million). On the continent, both Real Madrid (£359 million) and Barcelona (£326 million) generate £200 million more than City every season.

City could look to increase their match day revenue, which they have partially addressed via a new agreement with the council, whereby the club pays them a fixed amount regardless of the attendance instead of the previous percentage. Any further growth would mean raising ticket prices, increasing the corporate seats or expanding the capacity of the stadium. The first two moves would be unpopular with fans, while the stadium expansion is longer-term in nature.

Plans exist to increase the capacity of the stadium from 47,000 to at least 60,000, but this would not be entirely straightforward, due to its awkward design. There have been some concerns that City would struggle to fill a larger stadium. Although their attendances have always been good (4th highest in the Premier League), they do not regularly achieve full capacity. That said, the crowds have risen since the move to Eastlands and continued success on the pitch should produce a further increase, as was the case with Chelsea after Abramovich’s arrival.

Television has been the big driver of revenue growth at football clubs and the latest Premier League deal for the three years between 2010/11 and 2012/13 helped increase City’s distribution from £50 million to £56 million. However, this is a tide that floats all boats with very little difference between the leading clubs. The real distinguishing factor is the honey pot known as the Champions League, so City’s qualification will have a transformational impact on their revenue, but it’s a one-step growth.

So, with match day and TV relatively fixed, it’s really down to the commercial side, notably sponsorships, to substantially close the gap with the big boys. Even before the blockbuster Etihad deal was announced, City’s revenue from commercial activities had more than doubled in 2009/10, including an increase of almost 400% in revenue from corporate partnerships up from £6.5 million to £32.4 million.

This explosive growth has inevitably raised suspicions, particularly given the provenance of the sponsors, but the criticism of City has taken on something of the nature of a moral crusade with many commentators accusing the nouveaux riches of buying success, after Sheikh Mansour ploughed close to a £1 billion into the club since acquiring them in 2008. There’s little doubt that City have contributed to the inflation in transfer fees and wages, with net transfer spend of £343 million in the last three seasons and a wages to turnover ratio of 107%, though they are hardly alone in that.

However, there are two sides to every story and there are a couple of facets of this deal that should be commended. From the point of view of the fan, it is surely better that a club tries to grow its revenue by taking more money from sponsors than raising ticket prices. This is where Arsenal’s criticisms ring a little hollow after they hiked ticket prices that were already among the highest by 6.5% for next season.

And while I yield to nobody in my admiration for Sir Bobby Charlton, his suggestion that big clubs should not think about renaming their stadium should also be considered alongside Manchester United’s stratospheric ticket price rises. Indeed, City were top of the ING Direct Value League last season, measured by comparing clubs’ season ticket costs with Premier League performance.

City’s commercial deal will also benefit the local community, which is why the council agreed to let City sell the naming rights of a stadium that is not owned by the club, but the council. In fairness, the club had already contributed £30 million to the stadium conversion costs after the Commonwealth Games, but the council’s willingness to let the deal proceed on these terms still came as a surprise to some.

However, the council will receive £20 million over the next five years, and, more importantly, their leader points to “the regeneration of the area, delivering significant community and economic benefits”, including the creation of new jobs. Faced by severe government cuts, the cash-strapped local authority have gratefully accepted City’s proposal for this deprived neighbourhood, describing it as “great news for Manchester, reinforcing our sporting, transport and economic growth.”

Of course, other clubs have also been very active in their community, but this plan is on an altogether different scale. Yes, it might feel a little like wealthy philanthropists establishing charities as a way of reducing their tax bill, but the fact is that the community will still gain.

This has not stopped other clubs from sniping, led by Bayern Munich chief executive Karl-Heinz Rummenigge, who also happens to be chairman of the European Club Association. When commenting on City’s large financial losses, “Kalle” sniffed, “Maybe they know a trick I don’t that will allow them to take part in the Champions League.” This is the same Bayern where two of their most prominent sponsors, Adidas and Audi, each own around 10% of the club.

Similarly, Wolfsburg is a wholly owned subsidiary of Volkswagen Group, who also pay for the club’s stadium naming rights and shirt sponsorship. Little wonder that Stefan Szymanski, professor of sports business at London’s Cass Business School, said, “If there’s a question of fair value in relation to an Abu Dhabi client sponsoring Manchester City, I see no reason why the same questions can’t be raised about corporate Germany sponsoring German football.”

"Gael force"

If UEFA did decide to broaden their investigations into other sharp practices, they could also take a look at the ridiculously unfair advantage enjoyed by Real Madrid and Barcelona with their huge slice of the Spanish TV pie. And while they’re about it, what about those clubs that directly inflate the transfer market by paying over the odds for average players (naming no names)?

My simple point here is that if you look hard enough, you will surely find reasons to investigate activities at numerous clubs, so it would be very harsh for UEFA to zoom in on City. There will be many such deals sailing close to the edge and there must be a better use of UEFA’s time than to review each one. Adopting a basic tenet of the English legal system, a reasonable man will know when a deal is completely ludicrous, e.g. a £200 million annual season ticket, but to my mind City’s deal does not fall into that category.

While UEFA’s credibility over FFP is at stake, there’s every indication that they will help clubs towards break-even, instead of throwing them out of Europe. Otherwise, in City’s case, it would feel like they should re-release The Clash’s seminal “Know Your Rights” with slightly modified lyrics: “You have the right to sponsors’ money, providing of course you don’t mind a little humiliation, investigation, and, if you cross your fingers, authorisation.”

"Sometimes a picture is worth a thousand words"

There may be a whiff of creative accounting around this incredible deal, but there’s also genuine substance and benefit to the community. City’s commercial growth might have been fuelled by money from companies that are at the very least “friendly” towards their owner, but when the deals are broken down the sums are not inordinately high, so are more or less in line with benchmarks.

Furthermore, the proceeds will be invested in a state-of-the-art academy with the objective of producing homegrown young players who will ultimately replace the imported “mercenaries”. It’s a well-considered plan that seems to me to be within both the letter and to a large extent the spirit of FFP.

Selasa, 05 Oktober 2010

How Manchester City Could Break Even


Just a week after Arsenal reported record profits of £56 million, the other side of the football finance spectrum was seen when Manchester City announced a massive loss of £121 million for the year ending 31 May 2010. This is not quite the worst loss ever reported in Premier League history - that dubious honour belongs to Chelsea, who lost £141 million in 2004/05, the first full year after the acquisition by their Russian benefactor Roman Abramovich. However, to put this into context, City’s deficit is more than the combined loss for every other team in the Premier League if you exclude Chelsea (or Liverpool).

This is also the first full financial year since Sheikh Mansour’s Abu Dhabi United Group bought Manchester City and it is no coincidence that the club has made huge losses ever since the takeover, as it is striving for rapid sporting success. Last year’s loss of £93 million was the largest by far in the Premier League and it will surely be no different for this year’s loss.

As chief executive Garry Cook explained, once again dipping into his tried-and-trusted book of corporate clichés, “Manchester City football Club is undergoing a significant transformation and our financial results for 2009/10 reflect the pace of that process through rapid and ongoing investment in our infrastructure, facilities and professional capabilities.” English translation: we’re spending loads of money, so we’re making big losses.

Hidden among all the financials is Manchester City’s fifth position, which is their best ever finish in the Premier League, and represents some justification for this heavy expenditure. There is no doubt that the club’s prospects look brighter than they have done for some time, but it’s certainly cost them a lot to get here. When looking at the accounts, two areas in particular stand out: the huge transfer spend and the growing wage bill.

Since Sheikh Mansour’s arrival, the club has splashed out over £350 million in transfer fees, averaging more than £100 million each season. This marks a sea change for City, which had been a bit of a selling club in the preceding years, but there have been few signs of this outlay slowing down. In fact, this summer City spent around £128 million on new players, though they did recoup £28 million from the sale of Robinho, Stephen Ireland and others.

As surely as night follows day, transfer expenditure of this magnitude will also result in a significant increase in the wage bill and this has certainly been the case at City. Wages grew by 61% last season from £83 million to an incredible £133 million. This is still lower than Chelsea’s £149 million, though that should now be reduced after high earners like Joe Cole, Michael Ballack and Ricardo Carvalho all came off the payroll this summer. However, City’s wage bill has now overtaken three clubs: Manchester United £123 million, Arsenal £111 million and Liverpool £90 million. Incidentally, it’s also more than twice as much as Spurs (£59 million), the team that edged City out for the final Champions League qualifying place last season.

Actually, wages have been growing apace for the last few years (49% in 2008, 52% in 2009), but there’s still no end in sight, as the £133 million does not include the impact of this summer’s incoming players (Yaya Toure, Mario Balotelli, David Silva, James Milner, Jerome Boateng and Aleksandar Kolarov).

In fact, the wage bill alone is now higher than the club’s revenue of £125 million, leading to a wages to turnover ratio of 107%, which is considerably higher than UEFA’s recommended maximum limit of 70%. Just two years ago, the club had managed to stay below this guideline with a more reasonable ratio of 66%. Needless to say, the current ratio is the highest (worst) in the Premier League and far higher than Manchester United 44%, Arsenal 50% and even Chelsea 68%.

Off the pitch, the situation looks no better with the number of staff working in commercial or administrative activities also increasing by more than 50% from 146 to 223. The highest paid director, presumably Garry Cook, received a whopping £1.8 million, up from £1.4 million a year ago. This is exactly the same amount that Arsenal paid their chief executive, Ivan Gazidis, but the former MLS deputy commissioner managed to bring in a very healthy profit, while the Gunners once again qualified for the Champions League.

Of course, there was some good news in the accounts, notably City reporting revenue over £100 million for the first time in the club’s history with a 44% rise in turnover from £87 million to £125 million. Although chairman Khaldoon Al Mubarak said, “We are encouraged by the growth in the club’s capacity to generate revenue from various sources”, it is clear that the vast majority of the £38 million increase has come from commercial revenue, which rose £30 million from £23 million to £53 million. Much of this has come from “corporate partnerships” after new agreements were signed with a number of what could be reasonably described as “friendly” partners, including Etihad Airways, Etisalat, the Abu Dhabi Tourism Authority and Aabar.

This growth might be fairly impressive, but it still leaves City’s revenue way behind the traditional Big Four. Manchester United’s £279 million is more than twice as much, while Arsenal’s £223 million and Chelsea’s £206 million are £100 million and £80 million higher respectively. Even Liverpool’s recent disappointments have not prevented them generating £60 million more revenue than City.

Of course, none of this financial weakness matters too much while the owners are supporting the club and covering the losses by pouring in substantial funds. Their generosity went a stage further last year, as explained by Graham Wallace, the chief financial officer, “The financial foundations upon which the club operates have been strengthened with the conversion into equity of £305 million in shareholder loans.” A further demonstration of commitment from the owners came when they purchased an additional £189 million of shares, taking their total investment in the club to nearly half a billion.

It should be noted that City are not quite debt-free yet, as they still have £36 million of outstanding loan notes and bank loans plus £39 million provided for future stadium rent, giving gross debt of £75 million. If cash balances of £35 million are taken into consideration, the net debt is only £41 million, which is still very low, though the accounts also reveal that City owe other football clubs an amazing £81 million, most of which falls due within one year.

"What have I let myself in for?"

Manchester City’s strategy is eerily reminiscent of the one adopted by Chelsea, namely to invest heavily in new players with the objective of gaining success on the football pitch, thus generating significantly higher revenue that will ultimately be enough to cover the growth in costs. As celebrity City supporters Oasis would no doubt say, “it’s all part of the master plan.”

The CFO confirmed this, “the club’s overall financial performance for 2009/10 is in line with the Board and management team’s long-term financial and operating strategies and consistent with expectations at this stage of the financial process.” That’s all very well, but keen observers of football finances will have noted that Chelsea are still nowhere near self-sufficiency, even though they have been telling us for years that they are on course to break-even. Although they have in fairness been reducing their losses year after year, they still made a large loss last year of £47 million.

To be honest, this probably would not have mattered much without the advent of the UEFA Financial Fair Play Regulations, which aim to “introduce more discipline and rationality in club finances and to decrease pressure on players’ salaries and transfer fees.” Under this regime, clubs will have to balance their books and operate within their financial means. In other words, they will be required to break-even by spending no more than they earn.

"The only way is up"

UEFA have explicitly stated that clubs like Manchester City cannot continue making huge losses, even if they are supported by a wealthy benefactor. Although this initiative has no impact on domestic leagues like the Premiership, clubs that fail to make profits will ultimately be excluded from European competitions. Given the magnitude of City’s losses, it will be a major challenge (at the very least) for them to reach break-even, though Garry Cook said, “The plan is to grow the revenues further, control costs and have young players coming through to replace some senior players. We want to be sustainable and intend to comply with financial fair play.”

The first season that UEFA will start monitoring clubs is 2013/14, but this will take into account the losses made in the two preceding years, namely 2011/12 and 2012/13, so the accounts need to be in far better shape in just two short years.

However, they don’t need to be absolutely perfect by then, as billionaire owners will be allowed to absorb aggregate losses (so-called “acceptable deviations”) of €45 million (£39 million) over the three-year monitoring period, as long as they are willing to cover the deficit by making equity contributions. The maximum permitted loss then falls to €30 million (£26 million) from 2015/16 and will be further reduced from 2018/19 (to an unspecified amount). Of course, this is still a much smaller loss than City are currently reporting, so it’s hardly going to be a walk in the park to get down to the initial, softer definition of “break-even”.

UEFA have provided some assistance, as their break-even calculation excludes any costs incurred for what they term sensible, long-term investment like improving the stadium, training facilities, youth and community development. In this way, City’s starting point in UEFA’s template is £6.7 million better than their published loss, as it excludes £4.5m depreciation on fixed assets and £2.2m stadium finance lease charges, giving a revised loss of £115 million. OK, a little better, but still a long way to go.

Nevertheless, Manchester City appear confident of meeting the new requirements. As Cook said, “The last thing we want is not getting a licence to appear in the greatest league.” However, many appear sceptical, especially as City have not provided any details of exactly how they are going to achieve this minor miracle. Indeed, many believe that this will prove impossible, unless the club somehow discovers some loopholes in UEFA’s regulations.

I’m not so sure.

Having taken a close look at the financials, I believe that City could legitimately be in line with the guidelines over the next few years and have prepared a 10-point plan to show how they could make it.

At this point, I should emphasise that the actions I suggest are by no means the only way of reaching break-even, but they should demonstrate that this objective is not as unfeasible as some believe. This plan assumes that the club’s owners would not be overly concerned about investing even more capital, nor about making lower profits in some parts of their organisation. In other words, this would not necessarily be the best use of their resources, but this would not be an issue, as the primary objective would be to get down to the elusive break-even target.

1. Wages

The first thing to say is that the financials will get worse before they get better, as the impact of the new players arriving this summer is reflected in the accounts, though this is partially offset by players leaving. We do not know exactly how much each player is paid, but we can make some reasonable estimates.

My assumed weekly salaries for those coming in are as follows: Yaya Toure £200k, Mario Baolotelli £150k, James Milner £130k, David Silva £120k, Jerome Boateng £100k, Aleksandar Kolarov £100k. That would increase the wage bill by £42 million a year.

"Yaya Toure - does my bum look big in this?"

Against that, City sold Robinho, Stephen Ireland, Valeri Bojinov and Javier Garrido, while they also released Benjani, Sylvinho and Martin Petrov. We know that Robinho was a high earner (reportedly £160k a week), while I would expect Ireland to be on around £70k. The others were recruited during a less spendthrift era, so let’s assume an average £40k here. All of this would mean £22 million coming off the payroll.

The net impact of these movements is an increase of £20 million in wages to around £153 million. This year’s accounts also include a severance payment to former manager Mark Hughes and his team, which may or may not be repeated next year, depending on Roberto Mancini’s ability to survive, but it’s immaterial in any case.

Of course, City might bring in even more players in January, though not to the same extent, if you believe Garry Cook, “It is safe to say that player acquisitions on the scale we have seen in recent transfer windows will no longer be required in the years ahead now that we have such a deep and competitive squad.”

Another possibility that would help reduce the wage bill is offloading players who are no longer wanted, either via loans (like Craig Bellamy to Cardiff City and Nedum Onuoha to Sunderland) or selling them at a loss. We can anticipate the club selling the likes of Roque Santa Cruz and Jo at generous prices in order to get them off the books.

"Robinho flying off to Milan"

Such sales have a triple whammy effect, as they also reduce amortisation and potentially bring in a profit on sale (if the price is higher than the remaining value in the accounts). If we take Robinho as an example: he was bought for £32.5 million in September 2008 on a four-year contract, so annual amortisation was £8.1 million. He was sold after two years, so cumulative amortisation was £16.2 million, leaving a value of £16.3m in the books. Sale price to Milan is reported as £18 million, so City will report a profit on sale of £1.7 million in the 2010/11 accounts. Therefore, City will show an annual profit improvement of £18.1 million after this deal: £8.3 million lower wages + £8.1 million lower amortisation + £1.7 million profit on sale.

In my plan, I have assumed that there will be negligible profit on sales, effectively maintaining the £10 million that was booked in 2010, which is a relatively low figure for a top club, but seems a reasonable estimate in the specific case of Manchester City.

In the long-term, City would hope to progress their youth players into the first team, replacing some of the expensive imports. This was explained by Brian Marwood, the exotically titled chief football administration officer, “For both financial and strategic reasons, it makes sense for Manchester City to develop and draw upon as much talent as we can from within our own academy and development squads in the future.”

Finally, once the club establishes itself as a regular presence in the Champions League, they should no longer have to pay players over the odds in order to attract them to the blue half of Manchester.

"Super Mario"

2. Amortisation

As we have seen in the Robinho example above, when a player is purchased, his cost is capitalised on the balance sheet and is written-down (amortised) over the length of his contract. Importantly for Manchester City, this means that the cost of their recent purchases will have an impact on their accounts over the next few years via the amortisation charge.

We can see this effect over the last four seasons, as amortisation has grown significantly from £6 million in 2007 to £71 million in 2010. To place that into context, the next highest in the Premier League is Chelsea at £49 million, though they did get as high as £83 million in 2005 after their own version of supermarket sweep. Even big spending Barcelona and Real Madrid have lower player amortisation than City at £61 million and £55 million respectively.

Like salaries, any calculation here involves a degree of guesswork and is influenced not just by the players coming in, but also those leaving the club. The Guardian estimated £75 million for the 2011/12 season, but I’m going to be more conservative and assume that it increases by £10 million to £81 million.

"In good Kompany"

3. Premier League

Although City’s television revenue has been partially influenced by cup runs, notably £6m in 2009 for reaching the quarter-finals of the UEFA Cup, the vast majority of their money comes from the Premier League central distribution. City received £50 million this season, which was a £10 million improvement on the previous year, thanks to a higher merit payment (after finishing fifth compared to tenth) and more matches broadcast live on television. Next season, like other clubs, they should receive a further £10 million increase, as the new Premier League 2010-13 deal kicks, following the much higher sale of overseas rights.

4. Champions League

A key element of City’s business plan is to qualify for the Champions League, which has been so beneficial from the financial perspective to the Big Four. Last season, Chelsea earned £28 million for reaching the last 16, i.e. qualifying from the group stage, which would be a reasonable aspiration for City. Prize money will slightly increase, so this should be worth at least £30 million in the future. Of course, reaching the Champions League would also bring in higher gate receipts (assume £3 million) and trigger higher payments from sponsorship agreements (assume £5 million).

"Hart of gold"

5. Commercial Revenue

The real success story in the accounts was the 125% increase in commercial revenue. City signed new marketing deals with Etihad and Umbro, replacing Thomas Cook and Le Coq Sportif as shirt sponsor and supplier. These contracts are reportedly for much more money, so Etihad’s deal is worth £25 million over the next three seasons, compared to Thomas Cook’s £2.3 million annual payment, while Umbro have entered into a ten-year strategic partnership for more than £50 million, which helped retail sales and merchandise revenue rise 60% to £8 million.

This is the area where those fans who have not bothered to plough through UEFA’s regulations (and who can blame them?) see an easy way to reach the target. Why doesn’t the Sheikh sign a £200 million sponsorship deal? Or pay £50 million a season for a super-VIP executive box?

Unfortunately, that simply will not fly, as UEFA have introduced the concept of “fair value” so beloved of tax authorities when reviewing inter-company transactions. In short, if an owner over-pays for services, this will be adjusted down to market value, i.e. what the club would have received if the transactions were conducted on an “arm’s length” basis. Obviously, there is still some scope for manipulation, but the most blatant excesses should be prevented.

"Garry Cook - a lot to think about"

Having said that, even within these limitations, there is still scope for improvement, as City could point to much higher shirt sponsorship deals with other Premier League clubs. For example, the Etihad deal is worth £7.5 million this season, compared to the £20 million received by Liverpool and Manchester United from Standard Chartered and Aon respectively, so there’s a potential £12.5 million increase right there.

My plan assumes that City could easily justify an increase in their commercial revenue to the same level as Manchester United, which should be around £80 million this season. City’s current revenue here is £53 million, but I have already added £5 million for Champions League qualification, so that implies further growth of £22 million.

Of course, this is still a long way short of the astonishing £136 million commercial revenue earned by Bayern Munich, which is made up of numerous commercial deals, so there is possibly even more capacity for revenue growth here. It might be difficult for UEFA to argue against a club securing many £5 million deals, which could add up to a tidy sum.

"Would you Adam and Eve it?"

6. Loans

Interest charges have already fallen considerably from £17 million to £4 million following the conversion of shareholder debt to equity, but the club could presumably also pay off the remaining bank loans early to completely remove interest payments. This might not be the best move financially, as it would almost certainly involve penalty payments, but remember that our objective is to reach break-even.

7. Cash

Similarly, the club could generate interest income if the owners are willing to tie up capital in the club’s bank account. As we all know, interest rates are very low at the moment, so that means a lot of capital would be needed to produce relatively small amounts of interest. I assume that UEFA’s fair value review would also more than raise an eyebrow if the cash balances were ridiculously high for the club’s operational requirements. However, Manchester United’s last accounts included £151 million of cash (albeit boosted by the £80 million received for Ronaldo), while Arsenal’s cash balance stands at £128 million. Therefore, I think City could get away with, say, £167 million which would generate annual interest of £5 million at a rate of 3%, which should be achievable.

"Room for growth"

8. Stadium

Although ticketing revenues increased by £3 million to £18 million in 2009/10, thanks to extended runs in the FA and Carling Cups, City’s gate receipts are still extremely low compared to other Premier League clubs. As a shocking comparison, their neighbours Manchester United trouser £109 million from match day revenue.

Unfortunately the club is restricted in its ability to greatly increase its match day revenue by the fact that it does not own the City of Manchester Stadium, which is rented from the council on a 250-year lease. The rental payments are based on a formula whereby the club retains receipts up to the 34,000 capacity of Maine Road, their old ground, but has to pay 50% of any revenue above that to the council This means that City do not fully receive the benefit of higher attendances, as it just means more rent paid to the council.

There has been some talk that the club would seek to buy the stadium from the council, but recent reports indicate that it is more likely that they would try to renegotiate the terms of the lease to a flat fee. This would be higher than the current payments, but would allow the club to get more benefit if they expand the capacity. This has certainly been discussed as part of England’s bid to host the 2018 World Cup - possibly to 75,000, but more realistically to 60,000, including more corporate hospitality facilities.

"Born offside"

City’s average attendances have been continually rising over the past few seasons from 40,000 to 45,500, which is now the third highest in the Premier League, though worryingly this is still short of the 48,000 capacity. Clearly, there must be some doubt about City’s ability to fill a new stadium, but if the team is successful on the pitch, you would have to assume that this would draw higher crowds.

In any case, given that Liverpool earn £43 million of match day revenue from the 45,000 capacity Anfield, it does not seem unreasonable to assume that City could at least match that, which would imply an increase of £25 million from the current £18 million.

9. Naming Rights

I would be surprised if any discussions with the council about the stadium did not include the possibility of renaming the stadium. It’s not quite the same as Arsenal naming their ground The Emirates, as this was a brand new ground, but it’s not as if there’s an enormous amount of football tradition associated with Eastlands, so I would not anticipate much (if any) resistance from the supporters. It’s difficult to put a price on naming rights, as there are very few comparatives available, but I don’t think £15 million a season is totally unrealistic.

10. Sportcity Development

Manchester City are planning a £1 billion development for the area around Eastlands stadium. Described as a world class sports and leisure complex, Sportcity will include training facilities for a number of sports, conference halls, a luxury hotel and restaurant. Although there will obviously also be high costs associated with this project, it should still provide very healthy profits.

As a rule, revenue from non-football operations is excluded from the break-even calculation, but clause B. (k) in Annex X allows clubs to included revenue (and associated expenses) from “Operations based at, or in close proximity to, a club’s stadium and training facilities such as a hotel, restaurant, conference centre, business premises (for rental), health-care centre, other sports teams”, so long as these are closely associated with the club. Sound familiar?

Candidly, I have no idea what this could be worth to City, so I have included a notional £150 million turnover, which might produce £30 million profit (at a 20% margin). As Bruce Forsyth would have said in “Play Your Cards Right”, it could be higher or lower, but I don’t think City would invest so much time and money in such a development if the returns did not justify it.

So there we have it – how to turn a £121 million loss into a £4 million profit in ten easy steps. Of course, this plan includes lots of ifs, buts and maybes, but it should at least prove that City’s task is not completely out of the question.

"Roque fights on"

Some of the actions, like developing the stadium and Sportcity, are longer-term in nature, but my guess is that UEFA might make an exception for these, so long as City could demonstrate that the plans were very advanced, especially as they would bring a lot of benefit to the surrounding community with the continuing regeneration of East Manchester.

If this argument is not approved by UEFA, then at least this exercise highlights how much City would have to improve by growing revenue and reducing wages and player amortisation, if they want to meet the target.

The cynics among you would no doubt suggest that all of this is unnecessary, as City will just employ an army of lawyers and accountant to locate the loopholes. Call me naïve, but I would like to think that clubs would not resort to such subterfuge. In any case, UEFA are clearly no mugs, as they have addressed some of the more obvious ways of getting around the new regulations.

For example, many clubs these days have an intricate inter-company structure and there were fears that a club might argue that the football club itself was profitable, while large expenses such as interest payments were paid out of a different company. Clearly, that does not make sense to any reasonable man and UEFA have caught that one, “If the licence applicant is controlled by a parent or has control of any subsidiary, then consolidated financial statements must be prepared and submitted to the licensor as if the entities were a single company.”

"The flying Dutchman"

Others, including the venerable David Conn and the bearded Martin Samuel have suggested some accounting trickery, whereby City would choose to book all the huge transfer spend now as a cost, so that it would not impact future accounts. It is true that UEFA's regulations do allow football clubs to choose "an accounting policy to expense the costs of acquiring a player’s registration rather than capitalise them", but this must be "permitted under their national accounting practice."

This is highly technical, but in my view this is where their argument falls down. Ever since the introduction of IFRS (International Financial Reporting Standards), in particular FRS10 on Goodwill and Intangible Assets, major clubs have used the capitalisation and amortisation method to account for player transfers, so it would be difficult for City to argue that the "income and expense" method had suddenly become appropriate.

In fact, this discussion may now actually be redundant, given that City did not change their accounting policy this season, unless they decide to book a massive impairment provision in 2010/11 (the last year where the accounts are excluded from UEFA’s calculations), dramatically reducing the value of their players in the accounts and reducing future expenses.

In my opinion, this would be blatant earnings manipulation and would not be accepted by UEFA. Ultimately, they will look at the intention of such operations. People often say that the devil is in the detail, but sometimes it's worth stepping back a little and applying some good, old-fashioned common sense. I know that doesn't always work, especially in the legal world, but that's surely the intention.

"That's the spirit"

But will the regulators have the bite to go with their bark? Expelling teams from European competitions works fine on paper, but it might never happen in reality, especially when you consider that Europe’s most indebted teams are among those that attract the largest television audiences. Would UEFA really bite the hand that feeds?

Yes, if you believe Gianni Infantino, UEFA's general secretary, who said, “There may be intermediate measures. We would have to ask why, maybe there would be a warning, but we would bar clubs in breach of the rules from playing in the Champions League or the Europa League. Otherwise, we lose all credibility.”

We shall see, but it need not come to that for Manchester City. As we have demonstrated, it is perfectly possible for them to reach break-even. Of course, this is in no way a fait accompli, but it can be done. Frankly, it would beggar belief if City’s management did not already have a plan in place, but if by some chance they haven’t, mine is available for the usual fee. I’m sure they can afford it.