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.