Sunday, 25 April 2010

"The Capitalist Tool" + "the Red Knights" = total journalistic confusion

"The Capitalist Tool" is not Joel Glazer's nickname from his time at college, but the motto of US business magazine Forbes.  Last week Forbes, enthusiastic cheerleaders for the unfettered free market, published its annual list of the world's most valuable football clubs (they do a similar exercise for NFL franchises).  No doubt you will have seen that United top the list with an estimated valuation of $1.84bn (£1.19bn).  This estimate caused much confusion among journalists, many of whom saw the numbers quoted as being very bad news for the Red Knights consortium that is hoping to bid for United.  This article from the Telegraph was typical:

The Red Knights, a group of wealthy businessmen, are attempting to raise funds to launch a takeover bid at Old Trafford, but the Forbes figures suggest they must raise well in excess of £1 billion if they are to make a viable offer for the club.

Unlike some football money surveys (yes I'm talking to you Deloittes), the Forbes one has some financial logic to it.  This is how it is constructed.....

They take EBITDA before profits and losses on player trading - this is what they call "Operating Income".  For United they have a figure of $150m which is roughly consistent with Red Football's pre-exceptional EBITDA for the year to 30 June 2009 of £92.1m (the average exchange rate for that period was $1.603 which actually gives a dollar number of $147.6m but its pretty close).

EBITDA is a very common measure of profits used for valuing companies, perhaps the most common.  It has some disadvantageous when applied to football clubs because it takes no account of transfer spending (something no club can avoid in the long-term if they don't want a team of pensioners and a cost that can sink a club - see Pompey and Leeds for example), but as I say, its a commonly used number.

When you value a business using a multiple of EBITDA (which is profits before interest), the number you end up with is a measure of the "enterprise value" (or "EV") of the company.  Enterprise value is "capital structure neutral", it measures the value of the debt and the equity of the company (see Wikipedia's perfectly sensible article on enterprise value for more details).  Forbes confirm this is their approach in the footnotes to their survey:

Value of team based on past transactions and current stadium deals (unless new stadium is pending) without deduction for debt (other than stadium debt).

Other than this footnote, Forbes give no further information on how they arrive at their chosen "multiple" of EBITDA which drives their club valuations.  United's multiple is 12.2x, whilst Real Madrid's is only 10.2x which is odd.  Forbes say they use "past transactions", but the Glazers' paid almost 17x for United in 2005, and Real Madrid is of course structurally unbuyable which means its "value" is something of an oxymoron, can something you can never buy or sell have a value?

The JP Morgan research report on United helpfully included the EBITDA multiples paid (or offered) for stakes in ten European clubs (including the Glazers buying United).  The multiples ranged from a low of 12.2x implied by the Rhone offer to buy 40% of Liverpool to the 18.9x paid by Roman Abramovich when he bought Chelsea.  His presence on the list, as well as football finance geniuses like Hicks and Gillett shows the problems with valuing big clubs.  There are so few precedents and all too often the price is crazy and irrational.  There is no efficient market for assets like Manchester United, the number of individuals who could afford the club is tiny. Anyway, Forbes' 12.2x used to value United looks perfectly sensible as United's profits are hardly depressed, indeed JP Morgan show last year being the peak for a few years to come.

So Forbes value United at £1.19bn.  Where journalists such as Mark Ogden at the Telegraph get confused is that they forget that this includes United's debt.  Forbes says there is $844m (£518m) of debt which I assume is the bank debt on the balance sheet last June.  This obviously excludes the PIKs, but that really doesn't matter.  The £1.19bn is their estimate of the value of the whole business.  The debt figure you use just drives the equity value (the value of the Glazers' shares in United).

Which brings us to the Red Knights.  Articles such as this one by the ever sensible BBC Sports Editor David Bond (ex-Daily Telegraph himself) suggest the Red Knights will offer around £1.2bn.  Let's be totally clear here, this number is the enterprise value of United, it is completely comparable with the Forbes valuation.  David Bond goes on to suggest that the Red Knights intend to keep United's bonds in place in the short-term (something I wrote about recently).  So if the offer was c. £1.2bn and they kept £534m of bonds, the Red Knights would need to raise around £700m to fund their offer.

Hopefully you can see how the confusion has arisen between the £700m described in the paragraph above and the £1.2bn Forbes valuation.  If the Glazers sold Manchester United to the Red Knights at Forbes' valuation, the Red Knights would pay them around £700m in cash, the Glazers would have to pay off the PIKs, leaving them with around £500m for their (and our trouble).  And the rest of us would go back to worrying about Rafael Da Silva's immaturity vs. his undoubted natural talent.



Thorsten said...

I heard bondholders can demand 101% repaid immidiatelly in the case of takeover. Doesn't this mean red knights will need to issue their own bonds to pay off the ones United have now?

andersred said...

Hi there,

They'll probably try to persuade the bond holders to waive that right.

See my post on the subject:


Diem said...

Given the institutional investment in the bonds in the first place, one would hope that they'd not changed their mind so quickly about whether it was a good idea. Indeed, anders et al would probably argue that they'd be more likely to hold on to them, since the Glazers would be removed and all would be rosier! ;-)

So the question becomes how much of the bonds would be redeemed. Perhaps the longer the Red Knights take to perform their takeover actually works in their favour here - a 1% capital return for the bondholders looks worse and worse, the longer they hold onto them!

So, assuming that the bonds are no worse an investment than before, even a total replacement of them would only cost 1%, which in the context of £700m is just a rounding error.

It looks like Forbes just adopts the JPMorgan multiplier of 12.2x - and to fair to them, why wouldn't they, if a global investment bank with professionals familiar with the club and the industry saw fit to publish that as their estimate!

And finally, with regards to Rafael, I'm torn in attributing the rapid decline in our season to him or Nev, depending on the handball that lead to Bayern's equaliser in the first leg, or the reduction to ten men in the second! Without wanting to diverge further from the Financials into squad discussions, I'll just content myself with Andy Gray's comments about Gareth Bale being required time to make mistakes in learning his position and apply them to Rafael (and remember his screamer at the Emirates last season).

Steven said...

If the club was valued on its assets ie land & property, value of squad, value of brand etc, would the valuation not be much lower? More nearer to £900m - £1 billion?

Anonymous said...

The assets of the club are valued at about £500m I think? So the remainder of the valuation of the club is based on it's ability to generate cash profit.

And this is where valuing a football club is difficult. It's not as easy as for example valuing a company that makes chocolate bars, where you know how many chocolate bars you manufacture & sell every week, year-on-year, you know how much profit you make per bar, you know how much you have to invest every year in renewing/upgrading plant & machinery etc.

With a football club (a) the profit the business makes is determined by what happens on the pitch and there are a whole load of variables (some outside of the clubs' control) which affect team performance, and (b) you never really know for sure how much you will need to invest in player aquisitions year-on-year.

It's easy to say "we'll budget to spend £5m a year to maintain the stadium" but it's not so easy to say "we'll budget to spend £10m per year to maintain the performance of the team".

Using a multiple of "last years EBITDA" to value a football club seems a little dangerous to me. I'd be more inclined to use an average of say the last 5 years EBITDA. That would be a 'safe' valuation IMO. And that would value United at £800-900m. Not that I have the money anyway :) And of course that would be nowhere near enough to persuade the Glazers to sell United.