CITY IN THE CITY

Here is a collection of articles first published in MCIVTA during the Summer of 1997, a time when many football clubs were raising money by becoming quoted companies on the Stock Exchange.

Part 1 : Is flotation such a good idea?

Many footy fans who would not know the difference between a share certificate and a P45 speak earnestly of the benefits of clubs being quoted on the Stock Exchange. But what are the real benefits and drawbacks, and more importantly is it best for City to be quoted or not?

In the past, my articles have pointed out that football is now very much a money game, and on the surface, the logical extension of this is that The City will play a big part in future of football. This may be misleading, and although FHL has stated his intention to seek a float in the future, when it comes down to it he may find the idea not all that attractive.

The Rags lead the way, along with Spurs, Millwall and Hibs, and until Sky came along (and the Rags struck lucky in winning the league time and again), these investments proved to be disastrous. Spurs made terrible investments into clothing and ticket systems, forcing them almost into Maxwell's clutches, while Millwall and Hibs went all but bankrupt. Once it became obvious that TV was going to put a lot more money into the game, the City took notice. Remember, whenever a company goes to market, lots of money is spent on advisors, underwriters, accountants and the like. Many clubs flocked to market like lambs to the slaughter.

The reasons why clubs went to market was to raise money to put them in the front line for TV payouts, and the reason money went to the clubs was to get even more money in return once that money arrives. That's the deal, and if the clubs welch on it, the City will not be pleased and life will be made very difficult for them.

It became the fashion to float, and like all fashions it was illogical, clubs took too much money from gullible punters, and like any fashion it is now passing. Share prices are falling (even though the Stock Market itself is still strong), the projections of Sky money are now being questioned, as is the overall implications of pay per view on individual clubs, and many clubs have already spent their windfalls.

Who were these idiots that believed that Sunderland, Brum, and Charlton, were going to make money? It's one thing to hold a few shares in your own beloved club, but quite another to 'invest' in a club. The bottom line is that most of the shares bought were bought by people wanting a profit on their money, many of them City financial experts (makes you wonder doesn't it?).

If you have lots of money, you will probably get more than 7% interest from secure investments like government bonds and building societies (before tax). So if you are tempted to invest in a football club, you will expect to get more than that to reflect the fact that shares are more risky. This return on shares is made up of two parts, dividends and capital growth. Capital growth reflects the fact that the shares will pay more dividend in the future, and is made by other people paying you more for your shares than you paid for them. Dividends are the true return on the investment of a company trading as a mature business.

Suppose City were to come to market now. The existing £40 million (or whatever) capital of the club would be augmented by (say), a further £20 million from the new investors, leaving a total capitalisation of £60 million. It would be recognised that dividends would not be paid for a few years, but the investors would expect the club's earning prospects to grow (by promotion), and in consequence the share price would grow. Promotion would see genuine capital growth in the shares as their opportunity for paying dividends improves, and a wider public would want to buy them.

The Rags, who have done a lot of growing and are near the top of their earnings projections, cannot realistically expect their share price to get very much bigger. They have become mature, so that early investors now want real dividends, and new investors will be demanding good dividends. As they are capitalised at around £400 million, they may need to find around £20 million in dividends to return 5% to shareholders. That is why they have to sell all those shirts and why they are backing off paying top whack for players.

If they fail in the next season or two, their income will be lower, their status as glamour stock will diminish, the footy sector of the market will go out of fashion, their share price will fall and institutional shareholders will demand the going rate of dividend to remain loyal. Loss of loyalty will jeopardise the share price and the current management, and financial considerations will take precedence over football ones (keep your fingers crossed).

This could well coincide with the rise of the Blues, and the time when FHL and Co. would be planning to head for market. They might just decide to keep the dividends for themselves and retain control away from the public glare of the City. This is how the real big rollers at Rangers are going about things, they rather than the City are making the decisions.

Meanwhile where do the Blades, Charlton, Sunderland Brum et al go from here? I don't see many of them buying very big in the near future, and they will still have to consider paying out some of their TV money as dividends just to stave off the hounds. Many of their share prices are now worth less than half their value at flotation just a few months ago. I think that the Blues are sitting a lot prettier than any of them right now.

Part 2 : Investing in a football club

Little did I realise the interest that financial matters hold for City fans, my last article was to have been a one off, but such has been the response that at least one follow up is required. My e-mail has been of the tell me more variety, but there have been a few threads on Blue View of the more sceptical nature.

In Blue View, Keith Elliot questioned whether I knew what I was talking about, a good point when applied to financial matters, but MCIVTA is a forum for all, and it is for readers to decide what to believe and what not. In reply, I have worked in the Computer Systems departments at both The Stock Exchange and Lloyds of London. More importantly, I have in the past been a fairly active trader of shares, particularly small oil exploration stocks in the eighties (small oil shares because I knew the oil business and many people in the oil business. I was able to tell the wheat from the chaff).

My main points were:

• people only invest in the stock market for profit, that's what it's there for.
• in football's case, those profits will come as dividends at the expense of future expenditure and investment on players.
• by the time FHL wants to gain a quote, the sector may have gone very cold, and it may be wiser to continue funding privately, taking profits as and when appropriate.

Only invest for profit. It is one thing to have a nominal holding in something as personal as a favourite football club, quite another to expect your good fortune to cover finances and football. Hold one hundred shares, frame the certificate on your wall, and invest the rest of your money where there is maximum potential profit. Invest for the long term, and have a strategy for selling when profits have been made or when losses have to be cut. Would you fancy doing either with City shares?

The City is always looking for a new trend or fashion that will entice Joe Public into parting with his money. In the past there has been minerals (e.g. Poseidon), small oil stocks, privatisations, and over the last year one of the favourite flavours has been football clubs. If you need proof that it's hype, ask yourself why Alan Hanson was employed to act as a consultant to a unit trust company specialising in football shares.

The hype is not all on one side. If you get lots of people to think that there is money to be made, you will also get lots of companies inflating their own worth looking for a piece of the action. Hence you get the Sunderlands, Blades and Brums (all having chairmen with colourful careers in finance) jumping in early. There have been interviews in the press with fans who have got on board only to see that as well as losing a lot of money as their shares halved in value, their clubs are still stuck firmly in the Nationwide pack. The three together are now valued at little more than £50 million, not much more than City.

That is not to say that all football clubs are an unwise investment. The Rags, leading the way, and by virtue of buying the Frog for a song have gone from laggards to leaders on the Stock Exchange, a very good financial investment. This year, while still being a growing business, they have paid out close on £3.5 million in dividends to shareholders. There again, if next season they have a real bummer (hands together, eyes heavenwards), they may have to cut their dividend to fund the type of buying that Liverpool, Arsenal and Chelsea are doing.

When a club goes for a quote, it relinquishes close control of its affairs. It has to pay the people who invested in it, and it has to be transparent in its financial dealings, and in the comings and goings of its senior management. Look at Newcastle; since deciding to go public, they have lost Keegan (pressure from advisors?) and have been active sellers prior to becoming buyers. What did they get from the quotation? Not a lot. John Hall made lots from the float, in repayment from having invested so heavily in the past.

I would suggest that a floatation only makes any sense at all for a club in the Premiership, and then only clubs who are pressing for honours. It is a once only trick, and having got the windfall, if it's lost without placing the club in the higher levels of TV money earners, then the club is stuffed for some years to come. They cannot go back and tap investors for more without a very good sob story.

Even if a club is both successful and publicly quoted there is still the problem that while closed companies can borrow money and make large buys hidden from outside inspection, and can decide to pass the opportunity of paying owners dividends without much hassle (the directors being in the main the owners); publicly quoted clubs can't. This is why I think that when the City's fad for football clubs has waned, FHL and Co. might feel that financing from within is a lot more flexible way of growing the business and taking profit. I am not aware of the big spenders in Italy and Spain being public quoted companies; as far as I know this is a curious British phenomenon.

Overall, my gut feeling is that because success in football is down to the fickleness of results on the pitch rather than from the quality and/or price of the product, it is not right to fund it as a conventional business.

BTW, I can understand why London Blue's broker friends see City as a good punt for floatation. Big club, big support, good management, well healed board, and there is the name Manchester in the title. Very marketable from their perspective, even if they are all Arsenal fans.

Part 3 : Unquoted companies

Many people seem to want to know what the difference is between a quoted and an unquoted company. There also seems to be some dangerous misconceptions about share prices.

If you start a company off, you can keep all details of it to yourself (tax man excepted). There is a statutory need to file accounts, but these need not be too revealing as they are prepared by accountants from information supplied by you, and are for the benefit of the owners - you. When you expand the business, you need to get outside investors. You make out a business plan, reveal more about your business, and in return for a part of your company and seats on the board, you get lots of money. Still, there is no need for anyone other than the owners and investors to know too much.

If your company grows to have quite a few shareholders, some of them want to be able to value the shares, and often sell them. The company applies to an over the counter trade organisation (e.g. Ofex), who will deal in shares on a matched basis. That is to say if Joe wants to buy 100 shares, the broker will find Fred who is prepared to sell 100 at the agreed price (and vice versa). The price reflects pressure from the non-shareholder, and does not reflect the underlying value of the shares. Many a scam has been performed by ramping up the price of tightly held shares in unquoted companies, and letting the rise in price be known.

When FHL wanted to get into City, the shares stood as unquoted stock at (I think) 60p per share. He knew very little about the financial state of the club, nothing about various loans, securities and development plans, nothing about the cost of the Kippax etc. PJS, in the know, held out for a higher price (nearer 90p?), and it was some time before FHL, having seen the full extent of the mess found out that 60p was probably over the odds.

When Boler underwrote the share issue earlier this year, he placed a value per share of around £1, and since then the shares have been by and large wanted by non-shareholders as FC has improved the club's prospects, hence the share price has risen. None of these buyers know anything about the underlying financial prospects of the club. Has the £15 million that Boler put in all gone to reducing debt, or is there indeed a pot of £10 million for players? Not many of us seem to be sure right now, so paying £1.60 is an act of faith rather than of judgement.

When a company goes for a full stock market quotation, it provides an adequate number of shares to the issuing broker to ensure that all market makers can make deals in the shares as and when Joe public wants, at the prevailing quoted rates. Note - these shares can be new ones issued by and for the company, or existing ones sold by existing owners for their own reward. From then on, all facts that might affect the value of the company have to be reported to the stock exchange, from a possible future downturn in fortune to the plans of senior managers and owners. If Edwards (or Fergie for that matter) wants to buy or sell shares in The Rags there are strict rules governing revelation and timing.

All this means that the investor is able to put an accurate price on the share based on its true financial value. It also means that you can buy and sell reasonable quantities of shares at the quoted price from any recognised dealer. For example, if you are feeling a bit faint, and you want to buy £20,000 of Rag shares, you can ask the broker for the current price and the deal can be done there and then. If you recover your senses, and want to sell them the next day you can; all that you would have lost would have been dealing costs, and the spread (the dealer's profit - assuming there has been no market crash).

Try doing that with City shares. There is one broker, and he will get his shares from a few tame contacts (often borrowing the shares). If you wanted to buy £20,000 he wouldn't be able to help you. £1,000 maybe, but even then, he would have to buy them in for you, and the price would go up. If, the next day you needed to sell them, he would be under no obligation to buy them back, and he would be only being a businessman if he offered you much less than he charged you.