Leeds United and FFP - A Long Road Ahead

As another transfer window draws itself to the end, it remains one of mixed results, albeit definitely more positive than previous years. A limited number of players have been signed, but more tellingly, the club have shown a willingness to resist multi-million bids for key players for the first time in recent memory, and what's more, even offer them extended contracts.

It remains clear however that Leeds United continues to be run on a fiscally tight ship. The dream of having multi-million pound investment in the playing squad to enable us to compete effectively at the top of the Championship remains just that, a dream. It is clear that the legacy of the Bates era is still acting as a constriction on investment, which has been compounded by falling attendances last season. 

The Current State of Play - Forecasting 2013

Looking at the 2012 accounts, we can attempt to forecast the likely impact of a drop in revenue in the 2013 accounts. Assuming a benign 5% drop in gate receipts, merchandising and other commercial income over last season, cost of sales remaining and utilising the £2.1m assumed net receipts from transfers (as calculated by Transfermarkt.co.uk which may or may not be correct), we would get to a net loss of £3.25m for last year.

If we run sensitivities around this and look at up to a 30% drop in relevant LUFC commercial income, we have the following net losses being generated:

If we use the percentage drop in attendances as a guide for the decline in revenue (7.7% between 2011/12 and 2012/13 seasons) we get to a net loss of c. £3.9m in 2012/13. Again, this forecast is subject to lots of variables and is likely to be incorrect, but gives an indication as to the likely financial pressures that the club are under. In addition, the restructuring of the post-Bates regime (removal of board members, closure of Yorkshire Radio) will have resulted in short-term costs in order to benefit from long-term gains. GFH as an organisation will have planned for this and been aware of the losses being generated and thus will have planned for funding any shortfalls through equity. It is likely too that things have been worse than expected which may have further impacted on any funds set aside for investing in the squad.

Financial Fair Play - The impact for Leeds United

Another further challenge to football owners is the implementation of Financial Fair Play (FFP). Essentially FFP is being introduced to make football clubs sustainable and stop the ability of owners to run clubs at losses with unsustainable wage bills and large transfer expenditure. The mechanism which has been proposed (and which is already in place, with financial penalties in place from next season) is as follows:

Fair Play Result of either:

 

Nil or greater

 

Or

 

Loss of less than the permitted level of acceptable deviation and shareholder equity investment for the season in question.

 

The "Fair Play Result" is based on pre-tax profit or loss with the exception of:

 

-       Investment in Youth Development

-       Purchase, sale and depreciation of fixed assets excluding players

-       Investment in a club’s community scheme

-       Promotion related bonus payments

 

So essentially, (to break this down into plain English), a club has to have either a profit (net of any expenditure on the items above), or if they make a loss it must be less than the total of a) the allowable shareholder equity investment p.a. and b) the level of acceptable deviation (or loss) which a club is allowed to sustain in a given season. These have been set as follows:

 

2013-14 Season (introduced but no financial penalties for those breaching the rules)

 

Deviation £3m

Equity Investment: £5m

Permitted Allowance: £8m

 

2014/15 Season

 

Deviation: £3m

Equity Investment £3m

Permitted Allowance: £6m

 

2015/16 season and subsequent seasons

 

Deviation: £2m

Equity Investment: £3m

Permitted Allowance: £5m

Looking at this, you can therefore see why GFH are concerned about outlaying considerable expenditure on players for 2 reasons:

• Given the uncertainty over revenue, a need to keep the wage bill under control
• A limit to the amount of equity which can be invested in any year (which given we're running profit shortfalls limits the amount that GFH can invest in the squad in any one year).

The Way Forward

So, given the current situation what is the way forward for the club? The issues we face are:

a) The club is running losses which are unsustainable in the long term.
b) The playing squad is in need of investment in order to give us a fighting chance of promotion

In order to resolve this, the following steps need to occur:

Short-Term

Improvement in matchday revenue and assorted merchandising: A key component of getting the club on the right track financially will be for GFH to improve matchday attendances and therefore boost revenue. The initiatives which have been introduced by GFH should encourage more fans to attend, and encourage expenditure through wider avenues such as merchandising etc. It is also up to the fans to participate and boost attendances too. This will partly be driven by the football team performing on the pitch but it will also depend on getting fans used to attending Elland Road again after the fractious nature of the Bates era.

Reduction in overheads: A further step to achieving this is a reduction in the overheads from the Bates era. Much work has gone into this with the restructuring of some of the club's operations, the closure of Yorkshire Radio and cancellation of private jet contracts (!) but more will have to occur over the next few months. It is clear from looking at our wages to turnover ratio that our wage ratio isn't out of kilter given the size of Leeds, however in the short term it is unlikely to be able to increase much either. Expects constraints on squad expenditure to continue for a while yet. 10 years of mismanagement takes time to correct.

Medium to Longer-Term

Buy back of Elland Road: A key element in improving our profitability is re-taking ownership of Elland Road and saving the c. £1.8m of rent which is payable annually. To put that into context, that is 2 players on £17k p/year!

Sponsorship: One of the main impacts of FFP will be that clubs will need to sweat their assets harder. For most clubs this will inevitably lead to trying to generate more revenue through other angles such as sponsorship. This will increase stadium naming deals, and other forms of sponsorship angles. This is a tricky one and a fine line will have to be struck between some relatively benign stadium naming deal and something much grander (such as the Red Bull sponsorship of Salzburg) which is likely to be much more controversial.

So what would the result of this be, given we're currently looking at losses of c. £4m+ currently? Well, looking at increasing 2012 revenue rather than decreasing it we can see the following results:

So a 30% increase (assuming everything else is straight-lined) in revenue would lead to £4.5m of capital to be invested back into the squad. To put those figures into context, that would result in an increase in average attendances from 21,000 to 28,000.










If this increase coincided with a drop of 20% in overheads (given the restructuring of operations and the potential of buying back Elland Road, something which is achievable over the medium term), this would result in an annual profit of £10.7m.  A sum which would provide plenty of ammunition to invest in the playing squad where necessary.

Conclusion

FFP is likely to have a significant impact on the way football clubs operate, Leeds United included. Reconstructing the club after 10 years of Bates is likely to take time and the only way for us to rebuild financially is to re-attract fans to Elland Road, alongside some corporate restructuring and capitalising on some commercial initiatives where appropriate such as sponsorship. Over the long term, clubs with large fanbases who are able to generate sustainable income growth should be able to compete most effectively with the new era, and the impact of billionaires utilising a club as a symbol of their largesse should be reduced.

The QPRs of this world who assemble £55m squads to compete in the Championship are unlikely to be prevalent as the impact of not achieving promotion and being saddled with large running costs and fines is a bet which almost all owners will be unable to stomach.

The shame for Leeds is that it has taken this long to be in a position to instigate these changes, and more importantly we are now having to rebuild under the constraints of a much more challenging financial era, with FFP virtually rendering the ability of most owners to invest large speculative sums into their clubs as impossible. There's a long road still ahead, and overnight success is doubtful, but over the medium-term, Leeds United should be in a position (with the right management and support of the fanbase) to compete effectively financially at the top of the Championship (and hopefully Premiership) once again.