Monday 11 April 2011

What Stan Kroenke’s takeover of Arsenal might tell us

After years of jostling between American businessman Stan Kroenke and his Uzbek rival Alisher Usmanov, the deteriorating health of Danny Fiszman looks like it has broken the log jam in the control of Arsenal.

The price paid by Kroenke of £11,750 per share,  values  the club’s equity at £731.05m. To read across from this valuation however we have to take into account the debt on the club’s balance sheet.

The last reported balance sheet figures are for 30th November 2010 (the 2010/11 interims). This showed the following debt and cash structure:

If we add this £147.4m net debt to the value of the equity offer we get the “Enterprise Value” (“EV”) of the business.

In the case of Arsenal however, a simple EV calculation is not appropriate because the club is still selling off development properties at its old ground. The interim accounts showed the remaining properties were valued (at the lower of cost or realisable value) at £28.2m. I have assumed that these will convert into cash at a 50% premium to this carrying value and have thus adjusted the EV calculation to take this into account:

So Kroenke is acquiring control of Arsenal at an Enterprise Value of c. £836m (adjusted for the remaining property) to £878m (unadjusted).

This is a pretty hefty valuation on any measure. In 2009/10, the club generated EBITDA from its football business of £57.4m (excluding volatile profits on player sales). This implies historic adjusted EV/EBITDA multiple of 14.6x and a historic adjusted EV/Sales (football only) of 3.8x.

Comparing the valuation to Liverpool

In contrast to the Arsenal deal, Fenway Sports Group paid an EV of £300m for Liverpool last year, a historic EV/EBITDA multiple of 8.6x. At face value on that basis either FSG got a bargain or Kroenke is overpaying hugely. So what’s going on?

I think the answer here is that FSG actually paid a higher multiple for Liverpool, and Kroenke is probably getting a slightly better deal than the headline numbers imply.

The multiple of 8.6x is calculated using the £35m of EBITDA generated by Liverpool in the 2008/09 season. We do not have numbers for 2009/10 yet, but it was a poor year for the club. Having finished third in 2008/09, Liverpool only managed 6th in 2009/10 and exited the Champions League at the group stage. The failure to qualify for the Champions League in the current season will of course significantly impact profits in the current financial year too. It seems likely that it will take several years to bring Liverpool’s EBITDA back to the £35m level seen in 2008/09 and FSG’s £300m takeover should be compared to a depressed level of profitability, possibly as low as £25m which would take the multiple paid to around 12x.

Arsenal’s depressed profits and the shirt deal opportunity

In the case of Arsenal, it is possible to argue that last year’s profits of £57.4m were quite depressed. The previous year the football side of the company made EBITDA of £66.3m. The club played fewer home games in 2009/10 compared to the prior year, and this will partially reverse this season (28 played vs. 27) adding c. £3.5m to turnover and perhaps 75% of that to profits. The new overseas Premier League TV deal will also add around £5m to the club’s income this season. Even with player costs continuing to rise, EBITDA should bounce back close to 2008/09’s £66m in the current season, reducing the multiple paid to c. 12.6x:

Arsenal is also “structurally” underperforming on its Commercial side due to the (at the time prudent) decision to sign a very long stadium naming rights and shirt sponsorship deal with Emirates in 2004. The shirt element which runs to 2012 is reportedly only worth £5.5m per annum compared to the c. £20m Aon and Standard Chartered pay United and Liverpool respectively and the c. £25m pa Barcelona are to receive from the Qatar Foundation. Arsenal “should” be able to earn a similar sum to its domestic rivals from the next deal creating a step change in profitability.

Taking the expected bounce back in profits into account (and even ignoring a on better shirt deal in the future), the multiple Kroenke is paying for Arsenal looks closer to 13x than 15x EBITDA, more in line with FSG’s acquisition of a Liverpool missing out on the riches of the Champions League.

Reading across

Takeovers of Europe’s biggest clubs are very rare things, and it is therefore worth taking note when they happen. In the case of both Liverpool and Arsenal, American investors are taking a bet on the continued growth of English football which is in itself interesting. At Liverpool, John W Henry has spoken publically about UEFA’s Financial Fair Play being a key factor in buying the club and it seems reasonable to think that Stan Kroenke’s takeover show he is also a believer in the impact of the new rules. Wage inflation is a big problem even at Arsenal, where the salary bill has risen an average 7.5% per annum over the last four years. The move to the Emirates has made this affordable, but with that now complete, it is hard to see significant profit growth without the fall in player wage inflation that UEFA hope FFP will usher in.

Turning to United, the other major club around which takeover speculation always swirls, today’s benchmark doesn’t really help the Glazers. The c. 13x “normal” EBITDA multiple Kroenke is paying would value United at c. £1.3bn. Unlike Arsenal the commercial side is already highly developed, meaning there is less “upside” to go for. Unlike Liverpool, there is no new stadium growth story to hang onto. If 13x EBITDA really is the “market valuation” for a major English club and with the Glazers reportedly looking for a £1.5bn+ price tag, it doesn’t look like much will happen soon.