Governance in Sport – Regulation in the English Football Industry

1. Governance in Sport – Regulation in the English Football Industry Geoff Walters and Sean HamilBirkbeck Sport Business Centre Birkbeck, University of London

2. The Peculiar Economics of Professional Sport • Joint production and interdependence • Competitive balance/outcome uncertainty • Leagues have a monopoly - league is the firm in an economic sense (Neale, 1964, although Sloane argued that teams still had decision-making power and therefore leagues were more like cartels) • Fixed numbers of league members – promotion and relegation • Fan loyalty/equity - Hirschmann (1970) loyalty influences the dissatisfied customer’s choice between exit and voice • Dual objectives – sporting and commercial

3. The concept of “Utility Maximisation” • Sloane (1971) argued that in Europe, where leagues were open, there was promotion and relegation, and the possibility of European qualification, then utilitymaximisation is prevalent • In US sports profit maximisation is the key objective • Multiple objectives - profit (could still be one objective) - security (e.g. survival) - attendances - revenues - playing success (most important objective)

4. Utility Maximisation: the need for regulation • Where playing success is prioritised there are implications for the regulation of sports: - lower revenues prevents the accumulation of playing talent - a small number of rich clubs (large city teams) are able to build more competitive teams - minimal regulation leads to chronic loss-making (clubs spend more they can afford on player wages) - creates momentum for a breakaway league where the top teams retain most of the revenue (does not address the “non-profitability” issue) • It can therefore be argued that there is a strong case for regulation

5. Explicitly recognised in the US Assumption that sports teams should be profit-maximisers, and leagues are organised accordingly, as closed leagues Revenue sharing – Broadcasting revenues; (1961 – US Congress passed Sports Broadcasting Act - US Sports exempt from antitrust legislation); in NFL redistribution of ticket revenues (60/40) Salary caps (Hard cap –NFL, NHL - vs soft caps, e.g. MLB – designated player rule, luxury tax; NBA - retain an existing player outside of the cap) Draft system – reallocation of playing talent, permissible under anti-trust law; reverse order of finish draft (NFL) lottery (NHL, NBA) Regulation in US Sport

6. The Structure of English Football • Football Association (FA) – the national governing body • The Premier League – Tier 1 • The Football League – Tiers 2-4 • Open structure (different to US) • “the focus of the football authorities should be on ensuring that appropriate regulatory controls are put in place to protect the principles of sound financial management and transparency in clubs” (Independent European Sports Review, 2006, 5.8)

7. Laissez-faire regulation • Football Task Force – set up after Labour Government came to power in 1997 • Addressed the issue of whether the industry required regulatory intervention • Football authorities – the Premier League, The Football League and the Football Association – refused to sign up to some of the more radical proposals including the appointment of a Football Audit Commission as an independent financial regulator for the industry • In their separate report they expressed a strong preference for “light touch” self-regulation - their view prevailed

8. ITV Digital • Invested heavily in Football League in 2000 • 2001-2004 contract worth £315m • May 2002: Pay-TV services switched off • ITV Digital collapse left £178.5m owed to Football League clubs • New BSkyB deal: 2002-2006 worth £95m • Football League pursued the outstanding £131m – lost in the High Court • Impact on clubs: - many had already budgeted/spent the money that they expected to receive - a catalyst for 17 clubs entering into administration in 2002 and 2003

9. Regulatory Response • The FA – Financial Advisory Unit; Financial Advisory Committee; Guide of Governance; Fit and Proper Test; Football Regulatory Authority; HMRC monitoring for non-league clubs; sporting sanctions in non-league football • The Premier League - Annual Director’s Report; Fit and Proper Test (subsequently strengthened); sporting sanctions; banning third party ownership; ‘going concern’ audit (no outstanding football debt); transparency of ownership (notify the PL of shareholders that hold more than 10 per cent of shares) • The Football League - Fit and Proper Test; sporting sanctions (14 cases, 2004/2005 – 2008/2009); agent fee transparency; Salary Cost Management Protocol in L2 (incorporates a transfer embargo); HMRC monitoring • Have these regulatory measures worked?

10. Financial Performance • Between 1992 and 2008 revenues increased 16% and 12% per annum in the Premier League and Football League respectively (Deloitte, 2009) • During this same period, clubs have, on aggregate, consistently failed to achieve pre-tax profits • There has not been a single year since the formation of the Premier League that the 20 member clubs in any one season have made a collective pre-tax profit • Clubs in the Premier League and the Football League are chronically unprofitable – key reason has been very high wage levels • In the absence of centralised financial regulation and control English clubs overspend on players, because they can

11. English Football - Pre-Tax Profitability (£ sterling) Source: Deloitte (2008: 24; 2009: 24)

12. Player Wages • Race to hire and retain the best playing talent • Inflationary spiral whereby clubs spend too high a proportion of their income on players wages and transfer fees. • This is especially the case for clubs in the Football League - in 2007/2008 the wages-to-turnover ratio for the Premier League was 62%, whilst the comparative figures for the Championship, League 1 and League 2 were 87%, 71% and 69% respectively (Deloitte, 2009, pages 34-35).

13. “I wanted to [take over] Liverpool," said Kraft. "I met with [the then chairman] David Moores, who is a fine gentleman, and we came very close to buying it, very close. But in the end my instinct was – without a salary cap, or a stadium ... I wasn't sure how we'd get a stadium built quickly and efficiently. But the more important issue was the salary cap. If the salary cap was there, we would have done it." (Robert Kraft, New England Patriots (NFL) & New England Revolution (MLS) owner,The Guardian, 25th June 2009)

14. Debt • Sustained losses have led to rising debt levels in the Premier League and in the Football League • Debt not necessarily a bad thing – is it manageable • Total debt in the Premier League reaching £3.1 billion (Deloitte, 2009) • This is not sustainable • Football clubs require new investment from existing or new investors who are prepared to sustain losses, underwrite debt and pay the related interest payments • Critics argue that these “threats” exaggerated as there are always other “utility-maximising” investors willing to take over a failed club

15. “The [Premiership] clubs have been spending too much and the club owners were looking for richer people to buy the clubs and take on the losses…But we are in a different climate now, where the football clubs have to realise it is back to the fundamental basics of managing their costs. The supply of richer people has proved to be finite [author’s underline].”’ • Keith Harris, Seymour Pierce stockbrokers, and former Football League chairman – January 2009 • Portsmouth – already had 4 owners in the last year and are currently struggling to attract a fifth

16. Source: Conn, The Guardian, June 2009

17. Administration • Clubs in the Football League have often had to shed debt and re-organise themselves through the financial administration process • Between 1992 and 2009 there have been 52 incidences of Football League clubs going into administration • This has resulted in a trail of unpaid creditors and writing off significant proportions of debt • The Premier League “launders” its financial failures in the Football League e.g. Leeds United, Southampton • Portsmouth – first Premier League club to go into administration

18. HMRC and the Football Creditors Rule • All creditors within the football industry have to be paid in full - the debts owed to players and other clubs are protected • Achieve stability in the football industry • Other non-football creditors receive proportionately less from the re-construction of the business • Often a significant loser is the UK tax authorities, who lost their preferential creditor status in the Enterprise Act 2002 • In effect, a large part of the cost of failing English football clubs is being carried by the public purse - a public sector subsidy to a failing private business sector • Inland revenue were once reluctant to challenge clubs - now actively doing so and issuing winding up orders (e.g. Portsmouth owed £12m to the taxman) • Difficulties for clubs if the HMRC is owed than 25% of debts – difficult to exit administration – further points penalties - damages the integrity of the leagues

19. Further Reforms – UEFA and Financial Fair Play • Since 2000 UEFA has sought increasing regulatory influence through the UEFA Licence • Financial Fair Play Concept supported by European clubs and approved by UEFA Executive Committee in September 2009 – implement this into UEFA License in 2012/13 • UEFA working to develop new regulations that aim to improve the financial health of European football, to encourage clubs to live within their means – not spend more than they generate in revenue • Clubs with benefactors – e.g. Chelsea – can spend on infrastructure or ground developments but not on player wages • However is there a need for this to be implemented on a national level? In 2009 West Ham United and Portsmouth did not qualify for the UEFA Licence

20. "Professional football is about winning and balancing the budget. That's the basic rule, one I fought for. All the rest is half-cheating. For every club it has to be the same. I always pleaded for financial fair play. The clubs belong to the fans. That's all I feel my responsibility is, to keep the club in good financial condition” (Arsene Wenger, The Guardian, January 10th 2010)

21. Further Reforms - the Fit and Proper Test • Football League and Premier League have done this • A need to strengthen the test further? - potential owners to detail their motivations for ownership; their business credentials; and to present a business plan to the football authorities; demonstrate their ability to fund the football club’s activities going forward - reformed test should also ensure that those with a previous history of involvement at a football club which had suffered severe financial mismanagement should be excluded from involvement in the football industry for life • Ideally, all three English football bodies would agree to a unified test under the auspices of the Football Regulatory Authority in order to create a unified process under an independent body

22. Further Reforms - Sporting Sanction Rule • A need for further deterrents to behaviour that leads to bankruptcy and financial administration • In addition to the standard 10 point deduction, clubs should faces further points' penalties when exiting administration based on the percentage of the debts that they cover in the CVA - League of Ireland. • Clubs who pay less face heavier sanctions • However damage league integrity further?

23. “the football authorities do not believe that the overall well-being of the game will be helped by new layers of regulation or bureaucracy” (Football Task Force, Fourth Report 1999: 127) • “After I'd told the Championship clubs we'd just done a new media deal for a 130% increase in their TV revenue one chairman said, in a meeting, 'Brian, for God's sake give us some help because if you don't put in some form of regulation we are going to piss this money up the wall on players' wages'. Quote unquote” (Lord Mawhinney, Chair of the Football League, The Guardian, December 8th 2009)

24. Conclusions • Regulation has evolved since 1999 - previously an essentially laissez-faire approach with regulatory intervention seen as a last resort • The three regulatory bodies – the Football Association, the Premier League and the Football League – have increasingly found it necessary to undertake regulatory intervention to address a series of financial challenges in a reactive way • A gradual but nevertheless significant trend toward greater financial regulatory intervention • The fundamental structural characteristic of English football is its inability to deliver a business model in which member clubs can be consistently profitable (utility maximisation)

25. Conclusions • Only the SCMP currently addresses the fundamental structural problem in English football – the uncontrolled ability of clubs to debt finance player wages and transfer fees (but only in L2) • Chronic financial instability requires further proactive regulation • A particular challenge for the football authorities – how do they implement further regulation to create a framework for member clubs to maintain financial stability when the structure of the industry dictates that clubs can, will and always do overspend on player wages to achieve competitive success? • Ultimately a national-based co-ordinated licensing system would appear to offer the most effective way forward

26. References • Deloitte and Touche (2007; 2008; 2009) Annual Review of Football Finance, Manchester: Deloitte • Football Task Force (1999) Football: Commercial Issues: A submission by the Football Task Force to the Minister of Sport, London: Football Task Force • Hirschmann, A. O (1970) Exit, Voice and Loyalty: Responses to Decline in Firms, Organizations and States, Cambridge, Massachusetts: Harvard University Press • Independent European Sport Review (2006) Final Version, October 2006 • Neale, W (1964) The Peculiar Economics of Professional Sport, Quarterly Journal of Economics, 93: 385 – 410 • Sloane, P (1971) The Economics of Professional Football: The Football Club as a Utility Maximiser, Scottish Journal of Political Economy, June: 121 - 146