Are Tottenham's Results Too Good To Be True?

After many years of disappointment, Tottenham Hotspur are going great guns this season, threatening to break the stranglehold of the so-called Big Four and qualify for the Champions League. However well they have played so far, I suspect that even the staunchest Spurs fans do not entirely trust their team to finish in fourth place, especially as they have an incredibly tough run-in featuring matches against Manchester United, Chelsea, Manchester City and their North London rivals Arsenal. I have no idea whether or not they will fall at the final fence, but in any case I am more concerned with their financial results.

The media acclaimed last year’s tremendous profits with chairman Daniel Levy boasting, “The robust and well financed nature of our business, early prudent financial management measures, profitable player trading and the continued, unwavering loyalty of our supporters has meant that we are able to announce a record profit before tax of £33.4m for the year”. Given the financial Armageddon afflicting Portsmouth and the challenges posed to Manchester United and Liverpool by their debt mountains, this is no mean feat, but, as always, the devil is in the detail.

"I make Tottenham shareholders big profit"

Yes, the annual profit of £33.4m (to 30 June 2009) was considerably higher than the £3.0m reported in 2008, but this was hugely influenced by the £56.5m profit on disposal of intangible assets – or gains made from the sales of players, as most people would put it, including the big money moves of Dimitar Berbatov to Manchester United and Robbie Keane to Liverpool. Excluding these once-off sales, Tottenham would actually have reported a loss of £23.1m. The reality is that you’re unlikely to make that much money from transfers every year, which was underlined in Tottenham’s next set of accounts, the recent interim results (to 31 December 2009), when they reported a loss before tax of £8.3m. Strangely, the press release opted to highlight the profit from operations before football trading and amortisation, which was “consistent with the same period last year at £4.9m”, instead of the loss. It’s almost as if they want to emphasise the good news, while glossing over the bad news …

The £8.3m loss arose even after Tottenham still made money from player trading, albeit only £9.4m. This was much lower than the £53.4m made in the corresponding period last year, which included £23.4m for Berbatov, £17.5m for Keane and £7.3m for the sale of three players to Sunderland (Steed Malbranque, Teemu Tainio and Pascal Chimbonda). It should be noted that profit from player trading is equivalent to the price paid to Tottenham by the buying club less the value reported in Tottenham’s accounts, so not all of the transfer fee received is booked as profit.

"What's my net book value?"

Unfortunately we now need to get a little technical in order to understand the concept of amortisation, which is how accountants reduce the value of assets over time. In this case, we mean footballers. At the end of a player’s contract, accountants consider that a player has no value, as he is allowed to leave the club on a free transfer. It’s probably easier to comprehend with an example. Spurs bought Sebastien Bassong for £8m, so if we assume that his contract is for four years, then the annual amortisation would be £2m. After two years his net book value in the accounts would be £4m (the original cost of £8m less two years amortisation at £2m per annum). So, if Bassong were sold at that point for £10m, the accounts would show a profit of £6m, i.e. £10m sales proceeds less £4m net book value. Alles klar?

In Tottenham’s accounts, amortisation expenses have significantly increased over the last four years from £11.8m in 2006 to £38.1m in 2009, reflecting “the continued investment in the club’s playing squad”. It is no different in the recent interims with £20.0m being reported – up from £16.2m the previous year. This is the main reason for the pre-tax loss of £8.3m, as operating profits of £4.9m have been boosted by £9.4m from player sales, but totally wiped out by the £20.0m amortisation – and the £2.5m net finance costs, but we will address debt later.

"Not much to crow about"

Even if we remove amortisation and profit from player sales from the equation and just focus on the operating profit, there are two sides to the story. Yes, healthy profits are being made (£18.4m in the 2009 annual accounts), but the profit has been falling in the last two years: from £27.5m in 2008 and £29.7m in 2007. This is despite the club taking “pre-emptive steps of reducing our operating costs in advance of the downturn in the economy”, which, to be fair, cut operating expenses from £50.0m to £48.6m in the interims, despite an increase in player-related costs. Having said that, over the last few years the club has blown millions on the management merry-go-round, being contractually obliged to make substantial pay-offs to Martin Jol and Juande Ramos and pay £5m compensation to Portsmouth for Harry Redknapp’s services.

All the wheeler dealing in the transfer market has generated significant profits for the club (£65.9m over the last 18 months), but there is a price to pay through the increased amortisation. In that year and a half the club spent almost £150m, which surpassed the traditional Premier League top four and was only exceeded by big-spending Manchester City. The annual accounts revealed a spend of £119.3m in the twelve months up to June 2009 with the lengthy shopping list including Modric, Dos Santos, Gomes, Bentley, Corluka, Pavlyuchenko, Palacios, Cudicini, Defoe, Chimbonda and Keane; while a further £29.4m was splurged after the year-end on the likes of Crouch, Kranjcar and Bassong. This level of spend (and consequent amortisation) on new players is simply not sustainable unless Tottenham manage to sell a few at a profit each year and/or they increase income.

"Harry's just been told his budget"

This is probably why Daniel Levy clamped down on purchases during the January 2010 transfer window. Twelve months after Harry Redknapp forked out £45m on five new players in a (successful) attempt to climb away from the relegation zone, Levy dashed his hopes of another spending spree, “We do not envisage being very active in the window, although we will take note of any opportunities that arise. That is with the proviso, however, that we do not envisage any net spending”. In other words, Redknapp will have to sell before he can add to his enormous squad. It is tempting to think that Harry has finally met his match in Levy, as the old rogue was forced to abandon his pursuit of Ruud Van Nistelrooy with the amazingly responsible message, “We don’t pay that type of wages here. Daniel, the chairman, runs a good business and wouldn’t be paying that sort of money. Not a chance”. This is demonstrated by the staff costs/income ratio, which is not too bad at 53.5% (most agree that 50% is a reasonable target).

Levy’s own salary, which is paid as chairman’s fees to ENIC Group, has actually gone down in 2009 to £675k after many years of increases (2008 - £1.0m, 2007 - £950k, 2006 - £775k, 2005 - £525k, 2004 - £250k). In other words, up until this year, Levy has been enjoying substantial pay rises of almost £200k a year. Still, you have to think that he’s probably worth it, as he has finally realised that “money doesn’t necessarily buy you success”. He continued, “If you look at the amount we spent compared to Arsenal over three, five or ten years, we have spent considerably more, but I would have to say we have under-achieved”. You have to agree that one Carling Cup does not represent the greatest return on investment ever seen.

"Glory, Glory"

None of this would matter so much if the revenue was increasing, but the problem is that it’s not. In the interim accounts, the headline is, “Revenue is consistent with the same period last year at £54m, despite not having European competition”, which actually means that the revenue fell 2.5% from £54.9m to £53.5m. Similarly, the annual accounts were not exactly unambiguous, “Revenue all but reached the same level as that achieved in the previous year”, but “given the economic climate over the past twelve months, this represents a strong performance by the club”. Translation: revenue decreased 1.6% from £114.8m to £113.0m. How can this be, when everyone knows that Sky is pouring more money into the game than ever before? Well, broadcasting revenue is indeed increasing (up 11% in the annual accounts to £44.8m) and is now the most important element of Tottenham’s revenue, accounting for just under 40% of the total. However, corporate hospitality has been weak, falling by 11% in the last six months, principally due to the absence of European competition, and merchandising also struggled last year, declining £2.8m, though this has partially recovered in the interims.

Whatever the position in the Premier League, the reality is that Tottenham lag a long way behind the Big Four in terms of their ability to generate revenue, according to the Deloittes Football Money League. Their last annual revenue of £113.0m is dwarfed by Manchester United £278.5m, Arsenal £224.0m, Chelsea £206.4m and Liverpool £184.8m. When you drill down into these figures, you can clearly see the issues that Tottenham face. First of all, match day revenue is considerably less than the other teams with the exception of Liverpool. Tottenham only received £39.5m, which is about the same as Liverpool £42.5m, the other club with a desperate need for a larger stadium, but is less than half of the revenue generated by Manchester United £108.8m and Arsenal £100.1m. White Hart Lane’s capacity is only 36,000, compared to Old Trafford 76,000 and The Emirates 60,000. Of course a new stadium will cost a lot of money to construct, but in the long run it has to be worth it.

Similarly, although broadcasting income has increased, largely due to Murdoch’s millions, it is still nowhere near the Big Four. This is partly because the central deal awards merit payments based on the finishing position in the Premier League, but mainly due to the riches the other clubs receive from their participation in the Champions League. Just look at the difference: Spurs £44.8m compared to Manchester United £99.7m, Chelsea £79.1m, Arsenal £75.8m and Liverpool £74.6m. That’s an extra £30-50m a year.

For a club that has employed numerous marketing experts in the past, including Sir Alan Sugar, revenue from commercial operations is also surprisingly feeble at £28.7m. Okay, you might not expect them to be on the same level as “Franchise” United who generate £70.0m, but they are even a long way behind a conservative team like Arsenal who have managed to gather £48.1m. As you might expect, Spurs are actively looking for a new shirt sponsor to replace MANSION from next year, when the contract is up for renewal. If Liverpool’s success at signing a more lucrative deal with Standard Chartered is anything to go by, there’s a good chance of securing more revenue here. Again, without European football (and I mean Champions League not Europa League), the big bucks are likely to go to others.

"Don't get shirty with me"

I’ve said it before and I’ll say it again: revenue is for vanity, profit is for sanity, but cash is king – and Tottenham’s cash flow statement is highly revealing. Although the club reported an operating profit of £4.9m for the interims, there was a net decrease in cash of £13.5m in the same period. This can be a harbinger of doom with some clubs (cough, Portsmouth, cough) struggling to pay their players and critically the taxman. To be clear, I am not saying that Spurs will go the same way as Pompey, but it is worrying that cash has been pouring out of the company for the last three years: 2009 £(15.7)m, 2008 £7.0m and 2007 £(6.3)m. Let’s look at how this has worked in the last six months: the net cash outflow from operating activities of £3.3m was increased by £31.4m for investments, though this was off-set by £21.2m financing to give the negative cash flow of £13.5m. The investment comprises a net spend of £19.5m on new players plus £11.8m on site assembly for the new stadium project and the development of a “state of the art” training centre at Bulls’ Cross, Enfield. The financing comes from issuing 30 million new shares at 50 pence (£15m) and an increase in borrowing of £6.2m.

Of course, these days everyone in football seems to be concerned about debt and Tottenham are no exception. In the interims Daniel Levy stated, “It has been important that we have operated with strict financial planning and controls and that any debt we incur as a result of our increased activities is kept at manageable and prudent levels”. Amen. As if we had not got the point, he added, “The club continues to make a profit at the operating level and importantly this profit continues to cover all financing costs by a significant margin”, though I would note that the net interest payable slightly increased from £2.3m to £2.5m, which is not a vast amount less than the £4.9m profit from operations (before football trading and amortisation). As you might expect by now, the accounts tend to paint the best possible picture with finance director Matthew Collecott observing that “net debt excluding CRPS remains at a comparatively low level of £45.9m” and this is the figure that the national media have picked up on.

"You're talking CRPS"

However, as the statement says, this is net debt, i.e. it includes £19.6m of cash and cash equivalents, while excluding £14.8m of Convertible Redeemable Preference Shares (CRPS), which are a hybrid form of security between debt and equity (debt in all but name). This gives us a gross debt of £80.3m, which, to be fair, is lower than many other football clubs, but is more than the £70m or so which took Portsmouth into administration. The latest interim accounts do not give an explicit figure for net debt, but we can see that the gross debt (interest bearing overdrafts and loans) has increased to £86.2m. If we assume that the CRPS are much the same as the last accounts at £14.8m and take off the cash (a lot lower at £6.2m), this suggests that the net debt has risen by over 40% to £65.2m in just six months. The majority of Tottenham’s debt is in the form of 7.29% secured loan notes that are repayable in equal annual instalments until 2024. Even though the interest rate looks high compared to current LIBOR, this is a better form of debt than the extremely expensive PIK notes that the Glazers used to fund their purchase of Manchester United.

The interim accounts made great play of net assets increasing by 14% to £71m in the last six months, though do not mention that total assets fell by 2% to £285m. The largest element on the balance sheet is the mysterious intangible assets at £127m, but all this represents is the value of the squad. This has dramatically increased over the last few years (it was only £30m in 2006), once again confirming the massive transfer spend, but “the directors believe that the market value of intangible assets is considerably in excess of the book value”. The value of property, plant and equipment has also greatly risen from £87.7m in 2008 to £113.8m due to the significant investments in the “Northumberland Development Project” (proposed new stadium) and the new training centre. Levy hit the nail on the head, when he said, “Off the pitch, our two major capital expenditure projects are making progress – they require considerable dedication of resources, both financial and management time, but will be key to ensuring the future competitiveness and success of our club”. It’s a message that could have come from the red and white half of North London.

"Grounds for optimism"

There can be no doubt that the new stadium is pivotal to Tottenham’s ambitions, as it would provide a significant boost to match day revenues. As Levy put it, “The stadium issue for us is about having 23,000 on the waiting list for season tickets”. However, building a new stadium is not cheap. No estimate has been provided, but there is unlikely to be change from £300m. The finance director also cautioned, “The development of the new stadium will expose the group to additional risks. The risks that we might not obtain planning permission or obtain the necessary financing would have a significant negative impact and require a write-off of professional fees paid to date. In addition, there may be property write-downs that would impact the income statement”. To this end, Levy promised “a prudent approach to minimise the club’s exposure to debt”.

This effectively means charging for naming rights and subsidising the development with partners building new houses, a hotel and a supermarket in the area around the ground. Levy has not yet divulged how the build will be funded, muttering about bank finance and equity issues, though he hinted at some problems in a seemingly confident statement, “Market conditions are likely to change. It is not always going to be like this. We have a very viable business case and believe in the right conditions it will be viable to raise the finance”. Boy does he love the word “viable”. The board’s difficulties in obtaining money were evidenced by the fact that when they raised £15m capital via a share issue for the professional costs involved in preparing the planning proposal for its October submission, only 7% of the shares were bought by third parties, leaving Tottenham’s major shareholder ENIC to under-write the placing by subscribing for 27.8m of the 30m shares. The club is also investigating a scheme whereby fans could buy their own seat for the next 25 years a bit like mortgaging an apartment, which seems pretty desperate to me (and horribly reminiscent of the bond schemes floated and then abandoned by Arsenal and West Ham).

"Joe Lewis - or is it Joe 90?"

Tottenham have always been in the financial vanguard of the football community, having been the first English club to be floated on the London Stock Exchange in 1983, though their attempts to become some sort of leisure conglomerate ended in tears with a near bankruptcy in 1991. Hence their focus on financial activities, though Daniel Levy has stressed that “it is always a football decision first and a money decision second”, even describing the highly profitable “sale of certain key players” as “regrettable”. In 2008 he reiterated the importance of football in an emotional letter to supporters, “There is an inaccurate perception that our club is run entirely for profit and that football is secondary. Success on the pitch is the sole determinant to the future of the Club and its financial stability, so it would be entirely counter-productive to have anything other than football as our first and foremost priority and it is ridiculous to suggest otherwise. At a time when football clubs are criticised for losing money and for their debt levels, I am surprised that we should be criticised for running our Club on a sound commercial basis and for making a profit. I make no apologies for the fact that we reinvest the Club’s positive cash flow in both players and infrastructure.”

You can’t really argue with that, but there is still a nagging feeling that Tottenham are being prepared for a sale. Levy has frequently denied that he wants to sell the club, but there has long been a belief in the City that Tottenham were ripe for a takeover. Rumours of foreign interest have swirled around including all the usual suspects (oil-rich Russians, anonymous Far Eastern consortiums and various property developers), but the continuous management changes have possibly delayed any formal approaches. However, Levy has admitted that an offer would be considered, saying, “If it was in the interests of everyone, including the fans, we’d have to think about it”. Non-executive director, Sir Keith Mills, confirmed this, “If someone came along and paid a lot of money in cash, I’m sure the shareholders would sell like any other company”. In short, come and get me, big boy.

"Who's a clever boy, then?"

The club has one majority shareholder, ENIC International Limited, which holds 76.5% of the stock. Daniel Levy is a managing director of that company and has an interest in 29.4% of the ENIC Group, but the majority shareholder is secretive, Bahamas-based billionaire Joe Lewis. Although the company built up a series of stakes in football clubs in the late 1990s, they have since divested all their interests except Tottenham, so football is no longer a core business for them. The timing could soon be right for a sale, as the club’s value would surely increase if: (a) they qualify for the money-spinning Champions League; (b) they are granted planning permission for a new, larger stadium. This is where ENIC’s purchase of nearly 28m shares at a heavily discounted price in the recent placing could prove a master stroke, as the price would surge if both of these events came to pass. It is well known that Joe Lewis lost over £500m after his ill-advised investment in Bear Sterns before that bank went bust, and, although he still has a £2 bln fortune to comfort him, it must be tempting to recoup some of the losses. It is believed that ENIC have spent just over £100m on building their stake in the company, so they would be in line for a tidy profit if the club were worth anything like the reported £300-400m.

So, where does that leave us? The club’s financial results are by no means terrible, just not as good as they have been presented, both in the accounts and the media. Future developments, in both senses of the word, could be fascinating. Although most Spurs fans would understandably be more interested in whether their team qualifies for the Champions League or wins the FA Cup, they might just want to consider whether their club is likely to be sold in the near future.