Financial Fair Play and the ability of European football clubs to raise finance - Part 2
Analysis of the effect of UEFA's Financial Fair Play Regulations (FFP) on the three most common methods used by football clubs to raise finance.
Common methods by which football clubs raise finance
Deloitte has noted that, whilst clubs have sought to utilise various mechanisms (including stock market listings, securitisation, bank loans and benefactor support) to help fund increased expenditure, commercial reality, in the form of limited availability of such funding opportunities, may finally bring about a change in behaviour 1. That being said, UEFA has made clear that it is not “anti-debt”, as long as the debt is being serviced (i.e. the club’s profit is covering the debt interest payments) 2 . If the effect of the Regulations (and any equivalent regulations adopted by the Premier League and the Football League) is to improve the credit and financial sustainability of football clubs, financiers may in fact become more willing to provide finance to those clubs in the future, and perhaps on better terms.
The second part of this article will focus on three mechanisms commonly used by football clubs to raise finance and examine in-depth the effect the Regulations may have.
There are three methods most commonly used by football clubs to raise finance:
- obtaining a loan in exchange for the provision of security - for example, by way of assignment of receivables, a debenture, or a guarantee;
- selling or discounting receivables to a financier - for example, a club's entitlement to prize money or broadcasting revenue (i.e. "Central Funds", in the case of the Premier League), or a transfer fee owed to it; or
- financing of transfer fees by means of the transfer (indorsement) of promissory notes to a financier.
Loan and security
In consideration of a financier providing a loan facility (the "Facility") to a club under a loan agreement (the "Loan Agreement"), a financier will usually require the club to grant security to it over certain of the club's assets.
Typically, the Facility is secured by an assignment of the right to certain amounts due from the Premier League or the Football League in respect of match broadcasting fees (the Assignment"). Even though the Assignment is stated to be enforceable only following a default by the borrower, the Notice of Assignment may direct the Premier League or the Football League (as applicable) to pay the amounts due to the borrowing club (the "Borrower") in respect of the assigned receivables on or around each repayment date under the Loan Agreement to the financier. Those amounts may then be applied by the financier towards satisfaction of the relevant repayment amount under the Loan Agreement (or, in certain instances, the financier may hold such amounts on account).
The security granted by the Borrower in favour of the financier, to secure its obligations under the Loan Agreement, may also take the form of:
- a debenture, including a floating charge over all of the assets and undertakings of the Borrower, as well as a fixed charge over certain specific assets of the Borrower; and/or
- a guarantee (usually from a director of the Borrower or the Borrower's parent company), guaranteeing the obligations of the Borrower under the Loan Agreement and any security documents; and/or
- security over the shares in the Borrower.
Sales of receivables
Instead of taking security over a club's income, a financier may instead enter into an arrangement for the outright sale of receivables by means of a receivables sale agreement (the "RSA"). In consideration of the financier paying a "purchase price" equivalent to the expected receivables discounted at an agreed amount to a club, the club assigns to the financier its rights, title and interest in and to a specific receivable (such as the right to certain distributions of UK broadcasting monies from the Premier League or the Football League or the right to transfer fee instalments).
The main difference between an RSA and a security assignment is that, under the RSA, the financier becomes the legal owner of the receivables at the date of the initial assignment. Under a security assignment, it is merely entitled to exercise its rights as assignee of the receivables as one means of enforcing its security.
Financing of transfer fees by means of promissory notes
It is typical for amounts due from one club to another under a transfer agreement to be paid in instalments, especially if the purchasing club is not particularly cash rich, as it will seek to spread the purchase price instalments over a longer period of time (and may also try to negotiate for a higher proportion of the transfer fee to be performance-related). Cash rich clubs, on the other hand, may prefer to make up-front payments, especially when purchasing from abroad, so as to minimise the risk of adverse exchange rate fluctuations. Where the purchasing club has negotiated to spread the instalments of the purchase price over a period of time (typically two to three years), the selling club may wish to realise all of its expected income early and to sell the future receivables. This could be done by a sale of receivables (as outlined above). Alternatively the selling club (to whom the money is owed) may request that the buying club (who owes the money) may issue a promissory note to it in respect of the remaining transfer instalments. This will allow the selling club to transfer such promissory note (by way of "indorsement") to a financier, in exchange for which the financier would pay a discounted amount representing the present value of the future cash flow (as well as the financier's margin or fee) to the selling
In addition to the promissory note, the parties to this type of financing arrangement would typically enter into a side agreement which sets out the terms and conditions on which the indorsee (the "purchaser" of the promissory note) has agreed to purchase the promissory note from the selling club. The side agreement would typically include various representations and warranties from the buying club in favour of the financier relating to the promissory note or the underlying transfer agreement, but would not typically include the more general representations, warranties or undertakings provided for in a Loan Agreement or an RSA.
Take, for example, a player who has been sold by a selling club (Club A) to a purchasing club (Club B) for £20m, with the instalments of the purchase price being payable in four equal instalments, £5m on signing and £5m on the anniversary of the date of signing for three years thereafter. Club A is owed £20m in four instalments. Club B's debt to Club A is £20m. One month after signing, a bank may agree to discount the remaining £15m instalments by "purchasing" the right to receive those instalments (whether by means of a purchase of receivables or the indorsement of a promissory note) for a discounted amount which would take into account both the "time value of money" and the "margin" that the bank wishes to make from the transaction. The bank will pay the discounted amount to Club A and Club B will, in time, pay each of the relevant transfer fee instalments to the bank rather than Club A. Club B's debt remains the same (i.e. £20m). Club A may receive less but it benefits by receiving its money early and may transfer any credit risk to the financier.
Effect of the Regulations on financing documents
Given the sanctions (financial or otherwise) that can be imposed on clubs falling foul of the Regulations (or any equivalent domestic regulations (together, the "FFP Regulations")), financiers to European football clubs will need to consider the effect of the FFP Regulations on their financing documents. For example, a breach of the of the FFP Regulations may signify a more serious underlying financial problem for a club and the imposition of (potentially significant) fines or the withholding of revenue by the relevant authorities, may place that club in greater financial difficulty. A number of aspects of the financing documents will require careful consideration with the FFP Regulations in mind.
Undertakings regarding compliance with the FFP Regulations
Financiers may seek to require clubs to whom they are providing finance to comply with the FFP Regulations, either by relying on existing provisions of their financing documents (which may impose an obligation to comply generally with all laws and regulations) or by seeking to amend the financing documents to capture the FFP Regulations expressly.
In any case, should any of the FFP Regulations become applicable to a borrowing club, the financier should, at the very least, inform (or remind) the borrower that failure to comply with those FFP Regulations would, in addition to the punishments referred to above, be considered a default of the loan or finance documents.
Some financiers, in addition to the security referred to above, may have also required the borrowing club to comply with specific financial covenants in the finance documents to which they are a party. These covenants may be more lenient that the requirements of any relevant FFP Regulations and financiers may, perhaps as part of any default or loan extension negotiations, seek to require the borrower to agree to stricter financial covenants that are more in line with the requirements of those FFP Regulations. A financier may also seek to ensure that the borrower is required to provide it with copies of all reports, accounts or documents required to be given to UEFA or any other governing body or organisation as part of the club's financial fair play obligations.
Many financiers insist on a material adverse change clause (a "MAC" clause) in their finance documents. A MAC clause is typically drafted so as to capture "any event or circumstance occurs which, in the opinion of the financier, has or is reasonably likely to have a Material Adverse Effect." "Material Adverse Effect" is typically defined to meana material adverse effect on, amongst other things, the business, operations, property, condition (financial or otherwise) or prospects of the borrower or, amongst other things, the ability of the borrower to perform its obligations under the financing documents.
To the extent such MAC clauses are included in the relevant documents, it is likely that a failure to comply with any of the FFP Regulations and any resulting sanctions would be considered (by the financier at least, based on a subjective MAC test which financiers typically insist upon) an event which has a material adverse effect on the business, operations, condition (financial or otherwise) or prospects of the borrower (or any member of the group of companies to which the borrower belongs) and which has a material negative impact on either (i) the ability of the borrower (or any guarantor or other obligor) to perform its obligations under the finance documents or (ii) the validity, enforceability, effectiveness or ranking of any transaction document. However, financiers are typically unwilling to rely solely on a MAC clause to call a default under a loan or finance document, absent any other more specific default.
Financiers should also be wary of the ability of club owners to inject equity as a means by which clubs can ensure compliance with the FFP Regulations in circumstances where they exceed the maximum aggregate break-even deficit. If a financier has taken security over the shares in the borrowing club, care will need to be taken to ensure that the shareholder complies with its obligations to ensure that the financier's security in the shareholding of the borrowing club is not diluted.
For example, a typical shares charge or shares security deed would include clauses restricting, without written consent of the finance provider, the issuance of further shares and the chargor (i.e. the shareholder) altering or charging the existing share capital.
As such, if a club is seeking to use an equity injection to comply with any relevant FFP Regulations as set out above, it may find that the consent of its financiers is required for the issue of further shares. Further, it is likely that the financier would require any new shares issued as part of any equity injection to be charged to it, to avoid the value of its security in the share
capital of the club being diluted.
Effects for clubs
Clubs themselves will also need to determine the extent to which their "break even" calculations are affected by their finance arrangements. For example:
- whether, for the purposes of calculating a club's "Net Debt" (as defined in the Regulations), where a club has sold future receivables, that club's "accounts receivable" refers to the amount received from the financier or the amount which the club would have received from the purchasing club 3;
- whether Article 49 (which requires clubs to prove that they have no overdue debts towards other football clubs with respect to transfer activities) includes an obligation on the purchasing club to prove that it has no outstanding debt to a financier who has "bought" a debt from the selling club with whom the purchasing club has transacted;
- whether a club receiving money from a financier under a receivables sale arrangementhas to treat such money as "relevant income" (for the purposes of, and as defined in, Article 58), given that the payments made by the financiers will effectively be in lieu of the revenue in respect of broadcasting rights or player transfers/disposals of player registrations, which revenue will have been assigned to the financier by the "borrowing" club under those structures; and
- whether income arising under a receivables purchase arrangement or promissory note falls within the "classes of financial liability"which are required to be disclosed by Annex VI(E)(f) of the Regulations. This is only likely to be the case to the extent of any recourse to the "borrowing" club, in the event of a shortfall in the payments expected by the financier.
Conclusion and comment
Clubs, financiers and lawyers will need to examine the regulations relevant to it or the transaction they are involved with. Clubs may seek to "soften" the impact of the "break-even result" and the interpretation of the concepts of "relevant income" and "relevant expenses" will be central to this. Financiers, in turn, will need to determine whether their existing financing documents provided sufficient protection from any adverse impact the regulations may have on the clubs they have transacted with. Such regulations may also impose an additional risk which financiers will need to consider as part of any credit underwriting of new transactions with football clubs. Much will depend on how the regulations are implemented in practice, in particular as to the severity of any punishments for breaching the regulations, so this is something which both clubs and financiers will need to keep an active eye on over the coming months and years.
1 DeloitteAnnual Review of Football Finance 2012.
3 Under IFRS principles, the answer to this question (and the de-recognition of the "accounts receivable" as a financial asset) is dependent on the extent to which the club retains the risks and rewards of the ownership of the financial asset. If the club transfers substantially all such risks and rewards, it can derecognise the amount it would have received from the purchasing club and, instead, its "accounts receivable" could be deemed to be the amount received from the financier. However, if the club retains substantially all such risks and rewards (for example, if the financing is recourse to the club for any shortfall), then it is likely that the amount received from the purchasing club could not be de-recognised.
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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.
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.