Financial Fair Play and the ability of European football clubs to raise finance - Part 1

An in-depth analysis Published 22 February 2013 By: Samantha Yardley, Michael Savva

With UEFA’s Club Licensing and Financial Fair Play Regulations (the “Regulations”) on the horizon, Samantha Yardley (Partner) and Michael Savva (Associate) of Watson, Farley & Williams LLP, discuss the potential impact of the Regulations on the ability of European football clubs to raise finance.1

Background to the Regulations

Despite operating against a background of increasing commercial interest and investment in the sport (including increased broadcasting revenues), many European football clubs still find themselves in poor financial health, battling to meet their financial obligations and reporting repeated (and often extravagant) financial losses. As clubs struggle financially on a day-to-day basis, they may turn to commercial financiers to provide an injection of much needed cash. 

Deloitte, in its Annual Review of Football Finance 2012, noted the following financial developments in relation to Premier League and Football League clubs as at the end of the 2010/11 season: 2

  • Of the “big five” leagues in Europe (i.e. the English Premier League, La Liga in Spain, the Bundesliga in Germany, Serie A in Italy and Ligue 1 in France), the Premier League and the Bundesliga were the only leagues to achieve operating profits in 2010/11;
  • The “big five” leagues’ wages increased by over €104m (2%) to exceed €5.6 billion in 2010/11;
  • Operating margins of Premier League clubs, which stood at 16% in the inaugural Premier League season (1992/93), narrowed to just 3% at the end of the 2010/11 season;
  • Operating expenditure of Football League clubs stands 30% above revenues, delivering near-record losses (with around a third of clubs in the Championship having wage bills greater than their revenues and hence being heavily reliant on owner funding);
  • In the five seasons to 2009/10, the surge in wage costs accounted for 87% of the increase in Premier League club revenue and, despite new broadcasting deals coming into effect from 2010/11 (leading to a 12% increase in clubs’ revenues), over 80% of this additional revenue was required to meet increased wage costs. The Premier League’s wages/revenue ratio has now reached an all-time high of 70%.

Figures such as those noted above led Deloitte to conclude that: “control of player wages, in order to deliver robust and sustainable businesses, continues to be football’s greatest commercial challenge”. 3

The Regulations were approved by UEFA’s Executive Committee on 27 May 2010 with the aim of, amongst other things:

  • improving the economic and financial capability of clubs;
  • placing the necessary importance on the protection of creditors, by ensuring that clubs settle their liabilities with players, social/tax authorities (as a result of contractual or legal obligations towards employees) and other clubs punctually;
  • introducing more discipline and rationality in club football finances;
  • encouraging clubs to operate on the basis of their own revenues; and
  • encouraging responsible spending.

In essence, the Regulations are aimed at protecting the long-term viability and sustainability of European club football.

 

The Regulations explained

Some of the key articles in the Regulations (as set out in UEFA’s media information release dated 25 January 2012) are summarised below.

 

Monitoring Period (Article 59)

Clubs with annual income or expenses over €5m are required to break even over three reporting periods (i.e. over these three periods, they must not have spent more than they earned, subject to acceptable deviation in certain specified circumstances, as further set out below).  The three reporting periods consist of: the reporting period ending in the calendar year that the UEFA club competitions commence (T), the reporting period ending in the calendar year before commencement of the UEFA club competitions (T-1) and the preceding reporting period (T-2). 

For example, the monitoring period assessed in the season 2015/16 will cover the reporting period ending in 2015 (T), 2014 (T-1) and 2013 (T-2). By way of exception, the very first monitoring period (assessed in the 2013/14 season) covers only two reporting periods (i.e. those ending in 2013 and 2012).

 

Break Even/Acceptable Deviation (Article 60 and Annex X)

All clubs with relevant annual income or expenses over €5m must prove that the aggregated break-even result of the three reporting periods is positive. “Relevant income” is defined as including revenue from gate receipts, broadcasting rights, sponsorship and advertising, commercial activities and other operating income, as well as profit on player transfers (Article 58 and Annex X). “Relevant expenses” is defined as including either amortisation or costs of acquiring player registrations, as well as wages, finance costs, dividends and other operating expenses. Neither concept, however, includes any non-monetary items or certain income/expenses from ‘non-football operations’ (a concept which is itself defined in paragraph C of Annex X of the Regulations).

 

Equity contributions (Article 61(2) and Annex X(D))

The maximum aggregate break-even deficit for three reporting periods which is acceptable for a club is €5m. A club can exceed this level up to a maximum aggregate break-even deficit (shown below), but only if such excess is entirely covered by contributions from equity participants (including by means of payments for shares by shareholders) and/or related parties (including by means of waiver of inter-company or related party debt). The maximum aggregate break-even deficits (if covered by equity contributions) are as follows:

  • €45m for the monitoring periods assessed in the seasons 2013/14 and 2014/15;
  • €30m for the monitoring periods assessed in the seasons 2015/16, 2016/17 and 2017/18; and
  • a lower amount as decided in due course by the UEFA Executive Committee for the monitoring periods assessed in the following years.

Therefore, if the shareholders are not willing or able to inject equity, the club will only be able to make a maximum aggregate loss of €5m in each monitoring period.

The table below summarises the operation of the Regulations: 4

 

 

Acceptable Deviation Levels

 

Monitoring Period

Football seasons (to be taken into account)

Acceptable Deviation (€m)

T-2

T-1

T

If Covered by equity

If Not covered by equity

2013/14

N/A

2011/12*

2012/13*

45

5

2014/15

2012/13

2013/14

2014/15

45

5

2015/16

2013/14

2014/15

2015/16

40

5

2016/17

2014/15

2015/16

2016/17

30

5

2017/18

2015/16

2016/17

2017/18

30

5

2018/19

2016/17

2017/18

2018/19

<30

5

 

 

Excluded expenditure (Article 58 and Annex X)

Certain expenditure is excluded for the purpose of the break-even calculations, for instance:

  • stadium development;
  • youth team programmes;
  • amortisation/impairment of intangible fixed assets (other than player registrations);
  • expenditure on community development activities.

Such expenditure is considered to be beneficial to the long-term sustainability and revenue-generation abilities of the clubs and clubs are therefore to be encouraged to direct their expenditure to programmes of these types.

 

Transitional period (Annex XI(2))

As an initial “loophole” to the break even requirements, clubs that report an aggregate break-even deficit that exceeds the acceptable deviation in the first two monitoring periods will not be sanctioned where:

(a) the club “reports a positive trend in the annual break-even results”; and

(b) the aggregate break-even deficit only arises because of a deficit in the reporting period ending in 2012 and then only because of player contracts undertaken prior to 1 June 2010.

In addition, the wages of any player signed before 1 June 2010 are not included in the break even calculations for 2011/2012. This exception does not, however, apply to the underlying cost of acquiring the player’s contract, which will need to be amortised over the course of the contract.

 

Amortisation (Annex VII(2))

An important part of the Regulations relates to how a club values its players in its accounts. In essence, the cost of purchasing a player’s contract is capitalised on the club’s balance sheet and amortised (written-down), on a straight-line basis, over the duration of the contract. For example, a player at the end of contract will have a “book value” of zero.

However, if a player is sold before the end of his contract, the Regulations require that the difference between his book value at that time and the sale price be accounted for immediately in the club’s accounts. Where a club extends a player’s contract, the book value at the time the contract was renewed/extended will need to be amortised over the duration of the new contract.

 

Sanctions

The first sanctions for clubs not fulfilling the break-even requirement will apply during the 2013/14 season and the first possible exclusions relating to break-even breaches are likely to arise for UEFA competitions in season 2014/15.

Sanctions for breach of the Regulations include:

  • reprimands or warnings;
  • fines;
  • deduction of points;
  • withholding of revenue from UEFA-sanctioned competitions (i.e. the Champions League and the Europa League);
  • prohibitions/restrictions on the registration of new players for UEFA competitions; and
  • disqualification from a competition in progress or exclusion from future competitions.

Whilst clubs must apply for a UEFA Club Licence to compete in UEFA-sanctioned competitions prior to the start of the preceding season (i.e. the season prior to the season in which a club may qualify to participate in UEFA-sanctioned competitions), if a club exceeds the acceptable deviation threshold, it will not be granted this licence, as one of the conditions to being granted a licence is compliance with the Regulations.

 

Domestic FFP Regulations

It should be noted that the English Football League and its clubs have agreed a financial fair play framework that will operate in all three of its divisions from the beginning of the current (2012/2013) season, though each division has been given the flexibility to determine its own regulations.

In the Championship, clubs have agreed to introduce a break-even approach based on the UEFA Regulations, so a “Fair Play Result” will be determined for each club that equates to the club’s profit or loss for the year, excluding investments in specific areas of club infrastructure or losses in certain extraordinary circumstances.  The Championship regulations do contain the following nuances:

  • the framework will be phased in between the 2011/12 and 2015/16 seasons, with the permitted level of acceptable deviation from the Fair Play Result (i.e. nil or greater) and contributions from equity participants reducing over time from £4m and £8m respectively in 2011/12 to £2m and £3m by 2015/16;
  • items excluded from the Fair Play Result calculations include investment in youth development, stadium development, a club’s community scheme and promotion-related bonus payments. In addition, a club can apply to the Football League’s Financial Fair Play Panel to exclude exceptional items such as career-ending injury costs, bad debts from other clubs and losses sustained from a major sponsor defaulting (e.g. ITV Digital);
  • sanctions will differ depending on whether: 
    • the offending club remained in the Championship - in which case a transfer embargo will be put in place until the club subsequently complies with the regulations; 
    • the offending club is promoted to the Premier League - in which case a “Fair Play Tax” will be charged to the offending club on the excess by which the club failed to fulfil the fair play requirement (ranging between 1% on the first £100,000 to 100% on anything over £10m) and distributed between the compliant clubs (although one could query whether or not the Premier League will help actively to enforce the Football League’s regulations with respect to the promoted club); or 
    • the offending club is relegated to League 1 (in which case that club will not be entitled to any pay-out from the Fair Play Tax).

 

In League 1 and League 2, clubs will implement the Salary Cost Management Protocol (which broadly limits spending on total player wages to a proportion of each club’s turnover) that has already been in use in the latter division for eight years. Any club that is deemed to have breached the permitted spending threshold (currently 55% of turnover for League 2 clubs and 75% of turnover for League 1 clubs) will be subject to a transfer embargo. Wherever possible, the Football League will seek to deal with the issue “at source” by refusing player registrations that take clubs beyond the threshold.

The Premier League has recently announced that its clubs have agreed in principle to a set of spending constraints designed to further improve the sustainability of its member clubs (the “PL Regulations”). The new PL Regulations include a “long-term sustainability regulation” that will require Premier League clubs to work towards becoming break-even, while allowing a degree of owner equity investment. The PL Regulations also include a “short-term cost control measure”, to limit the ability for clubs to increase players’ wages as a result of the increased centrally-distributed revenue (i.e. the broadcasting revenues known as “Central Funds” in the Premier League Rules) above an agreed floor. The severest punishment for breaking these new PL Regulations will be a points deduction though, at this stage, it is unclear what other sanctions would be applied by the Premier League for more minor breaches.

To summarise the key principles of the PL Regulations: 5

  • From the 2013/14 season, Premier League clubs will not be able to make a total loss of more than £105m across a three-year period (this limit is significantly higher than the €45m (£38m) figure in the UEFA Regulations);
  • In the same period, Premier League clubs will be restricted from using increased Central Fund revenues to increase current player salaries by an accumulative £4m per season (i.e. £4m in season 2013/14, £8m in season 2014.15 and £12m in season 2015/16). This restriction will only apply to clubs with a total wage bill in excess of £52m in season 2013/14, £56m in season 2014/15 and £60m in season 2015/16. In addition, this restriction can be circumvented if a team is able to demonstrate that the increased salaries have been accounted for using commercial revenues other than Central Funds; and
  • Any club making a loss of above £5m a year will have to guarantee those losses against the owner’s assets.

Therefore, clubs that are not competing in UEFA sanctioned competitions are likely to face the possibility of sanctions (including, possibly, the withholding of revenue) from the relevant domestic governing body.

Part 2 will be looking at common methods by which football clubs raise finance and the effect of the Regulations on financing documents.

 

 


1 In this note, references to Articles and Annexes are to Articles and Annexes to the Regulations.

2 Deloitte Annual Review of Football Finance 2012.

3 Deloitte Annual Review of Football Finance 2012.

4 Table adapted from one in the following blog (https://swissramble.blogspot.com/2010/05/uefa-say-fair-play-to-arsenal.html).

5 https://www.premierleague.com/en-gb/news/news/2012-13/feb/premier-league-new-financial-rules-explained/

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Author

Samantha Yardley

Samantha Yardley

Sam Yardley joined Watson, Farley & Williams in 2011 as a partner in the asset finance group based in London, following nearly twenty years experience, both in-house for several banks, and in private practice. She specialises in medium-ticket finance, from simple lending and leasing arrangements to complex, structured transactions, involving many classes of assets ranging from transport to computer technology.

Michael Savva

Michael Savva

Michael is a Solicitor in the Asset Finance practice at Watson, Farley & Williams LLP. He specializes in advising clients in relation to sports finance including: loan finance, financing of broadcasting and ticket revenues and the player transfer finance.

 

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