finance and football clubs - what cash flow analysis reveals

8/2/2019 Finance and Football Clubs - What Cash Flow Analysis Reveals

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Finance and Football Clubs : W hat Cash FlowAnalysis Reveals

ntion that the use of "tradition al" financial reportingdif

nancial reportin g, and the view that these are best

low approach .Objectives of Financial Reporting

"The fundamental objective... is to communicateeconomic measurements of, and information about, theresources and performance of the reporting entity usefulto those having reasonable rights to such information."(3)

the decisions to b e made by users could be summarisedTab le 1(5).Th e ch aracteristics and objectives of football clubs, howThey are not primarily profit oriented and can be

ed in Tab le 1.Football clubs are essentially small private

by the Football L eague, the opportunity for capifuture incom e is severely curtailed. Shareholders

or local team.Th e " bu y, h old or se ll" decision is largely inappropriatearket cannot act as a constraintgulato r of financial resources, and as such traditionalinvestment decisions become clouded as no realoppo rtunity cost exists.

The Football League is characterised by on-must co ntinue to exist in order to provide opposi

Table 1: The Provision of Information to Those Interestedin the Financial Affairs of Commercial Organisations(Source - Carsberg et al (5))

1. Th e provision of information to shareholders (actualand potential) to guide their investment decisions,i.e. decisions on whether to buy, hold, or sellsecurities.2. The provision of information to inform shareholdersof the uses to which their funds have been appliedand the legality of those uses with a view to enablingthe shareholders to exercise any legal remediesavailable.3. The provision of information to guide creditors

(long-term and s hort-term ) in decisions on the allowance of future credit and the administration ofexisting indebtedness.4. Th e provision of information to employees to guidetheir decisions on future relationships with theundertaking.5. Th e provision of information to managers to enablethem to take efficient decisions in management.6. Th e provision of information to the representativesof society to enable them to judge whether the activities of the undertaking are consistent withnational objectives.7. The provision of information to guide governmentofficials in the assessment of taxation.8. Th e provision of information to guide governmentofficials in the enforcement of statutory controls.9. Th e provision of information tofinancial nstitutionsto assist in the n egotiation of financial facilities.

promise their own cash flows by offering extended creditfor the p aym ent of transfer fees(9), and that ability to pay islikely to become an important element in transfernegotiations.Spectators and the community: While all 92 Football League clubs have legal status as limited companies their function in the community is much m ore akin to that of a socialclub or church. Without the support of the community theclub would lose its (paying) congregation; without the clubthe community would lose an emotional and economicfocus. The relationship was amply demonstrated duringSun derlan d's 1973 FA C up run which completely capturedthe local imagination. Each needs the other, and eachshould take the needs of the other into account whenmaking strategic decisions.Employees: The labour market in professional football isunique; professional footballers face unusual restrictionsand also possess greater o pportun ity to negotiate terms ofemploy ment than do most employees(10). It is correspondingly important that full information is available to enable

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For the most part suppliers of goods,

A modified decision profile for those having dealingsfootball clubs is summ arised in Table 2 which may b epared with Tab le 1 .W e cont end that all the users detailed have a ' reasonableht' to receiv e from club s inform ation which is useful a nd

me rs and e mplo yees may well be inhibited by the way

ab le 2: Th e Provision of Information to Those Interestedin the Financ ial Affairs of Football Clubs1. Th e provision of information to shareholders to inform them about financial support for football ambition so that shareholders may exercise any possibleinf luence upon management .2 . Th e provision of information to inform shareho ldersof the uses to which their funds have been appliedand the legality of those uses with a view to enablingthe shareholders to exercise any legal remediesavai lable .3 . The provision of information to guide creditors(long-term and short- term) in decisions on the allo

wance of future credit and the administration ofexis ting indeb tedness .4 . The provision of information to players and otheremployees to guide their decisions on future relationships with the club.5 . The provision of information to managers to enablethem to take efficient decisions in manag em ent.6. T he provision of information to spectators and thecom mu nity to enable them to judge whether the clubrequires f inancial or other support.7. Th e provision of information to guide the FootballLea gue in its regulation of the indu stry.8. T he provisio n of inform ation to financial institution sto assist in th e nego tiation of financial facilities.

o be useful, inform ation should be reliable and relevant to

is ions relate to future ev ents and that i t was there

pable of use as a predictive tool. We doubt that

football clubs could ever satisfy that criterion. None of theuser decisions identif ied in Table 2 requires informationabo ut profit o r return on capital employed as a direct input.Profit is an accounting co ncep t, encompassing a mixtureof complete and incomplete transactions, and the result isdependent upon the treatment and classif ication of unusualitems, e.g. the sale of investments or donations from supporters . I ts use as a reliable indicator of past events orpred ictor of future events must be doubted when "th e 1968profits of so large a company - Pergamon Press - which weresolemnly audited as 2.1 million by one respected firm ofaccountants are now said to have been only 495,000, andthat a cautionary rider should be applied to 355,000 ofthem!"(12). While the Accounting Standards which followed the Pergamon scandal have limited some of thepossible approaches to profit measurement, they have notmade the classification of unusual items significantlyeas ier .We have argued that profit is an irrelevant and potentially misle adin g conc ept for the users of the financial information of football clubs. Further, we have suggested thatsuch us ers a re inte reste d in financial affairs only in so far asthey underly the club's ability to survive and strive forfootball success. The most appropriate f inancial reportingsystem wou ld therefore be one which is factual, und erstandable and relevant (i.e. indicative of the clubs ability tomeet obligations and to acquire and keep a successfulfootball team). We contend that the system which bestsatisfies these criteria is Cash Flow Accounting.Cash Flow Accounting; Some Observations and ResearchFindingsIt could be argued that the limitations of Profit and LossAccounts and Balance Sheets were "officially" recognisedin 1975 with th e publication of SSA P 10 "Statem ents ofSources and Application of Funds"(13) which requiredcompanies to include such statements with their AnnualReport and Accounts . All the user decisions we haveiden tified, in so far as the y have a financial perspe ctive , aremore s trongly related to cash transactions than the accountin g conc ept of funds (cash and credit) . A club's capacity to survive, acquire players , pay wages and interest andattract supporters (by way of providing facilit ies) dependson its cash flow; cash is the one resource which indicatesprogress and survival. Lee argues that the concept of adynamic report which details the f lows to and from anentity has much appeal, but that "funds f low reports contain one very significant limiting factor - they are basedupo n th e concep t of allocation accoun ting. Thu s the flow offunds.. . . contains all the measurement faults and problemsassocia ted with income determ inat ion"(14) .

The reporting of cash flows would directly address theneeds of users of football club accounts. Several studieshave applied ex post cash flow analysis to individual companies or industry groups. Lee, for example, has suggestedtha t :"If cash flow analysis techniques had been used by theBankers responsible for the Laker Airways account,they oug ht to have bec om e worried in 1978 and ta kenaction in 1979.. . . instead they continued through 1980,1981 and 1982 "(15).Lawson analysed the reports of F.W. Woolworth for thefive years to 1982 observing that "the principal inference isthat accounting numbers have some seriously misleading

prop er t ies"(1 6) , whi le Webb and Arnold reached a s imilarconclusion from an analysis of the affairs of Pergamonbetween 1964 and 1982(17). Webb, in a study of failure inthe construction industry, found that accruals accountinghad a significant capacity to mislead; thus while the industry was shown to have significant cash flow problems,7


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75% of com panies surveyed repo rted profits in each of theyears analysed, and the other 25 % only reported losses inthe yea r imm ediately prior to failure(18).Previous studies have amply demonstrated that ex postcash flow analysis can reveal significant features of corporate activity which are of immediate and major concern tointerested parties. It is our view that cash flow statementsshould at the very least, replace funds flow statements incorp orate rep orts (including those of football clubs) so as toprovide relevant and reliable information for user decisionmaking. In view of the unusual characteristics and objectives of football clubs we feel that such an app roach wouldbe particularly suita ble, and we report on the results of suchan analysis in the next section.Cash Flow Analysis of Football ClubsSince 1976 most companies (including football clubs) havereported a Funds Flow Statement as required by SSAP 10which norm ally follows the form:

(P + E + B(l)) - (I + T + D + B(2) + W) = CWhere P = profit before tax and after adjustment forextraordinary items and non cash items such as depreciation; E = share issues; B(l) = additional medium and longterm borrowing; I = net long term investment in assets; T= tax payments; D = dividend payments; B(2) = redemp tion of long and medium term debt; W = changes in working capital and C = the change in net liquid funds.This can b e readily a ltered into an approximate cash flowstatem ent by adjusting profit for changes in working capital(i .e. for inco mplete transactions). In this way problems ofasset valuation and income allocation inherent in workingcapital determination are avoided. Lee suggests that theformat of presentation of the cash flow statement shouldreflect how the pool of cash has been generated and onwhat it has been sp ent, as in:

O + E + B + X = I + T + B + CWhere O = Profit before extraordinary items changes inworking capital (i.e . operating cash flows); X = extraordinary items; and where O, B, X and C could be eithersources o r outflows of cash and would be positioned on theleft o r right han d side of the equation accordingly.Footba ll Clubs rarely pay tax and dividends; the formerbecause many clubs make losses (often due to substantialtransfer fees), the latter largely because of dividend restriction. In the few cases where they have arisen we have setthem off against operating cash flows (redefined as O(l)).Extraordinary items are harder to define. Most clubs include gains or losses on player transfers within the body ofthe profit and loss account, but it is impossible to determ inethe cash elem ent thereof because transfer fee creditors anddebtors are not separately identified. We have thereforereluctantly included transfer fees in O(l). The receipt ofcash don ation s, how ever, was separately identified in mostreports, although treatment in the accounts varied greatlybetween clubs (see note (2) Table 4). We therefore decidedto pres ent don ations in a consistent manner as a separatelyitemised flow, X, in the analysis, giving the format:

O (l) + E + B + X = I + CCash flow analysis does not smooth cash payments andreceipts, so annual cash flow statements are therefore

likely to exhibit a more 'lumpy' pattern, especially withtransfer fees; matched income statements are likely to besmoother. This does not negate the approach (indeed itreinforces one's doubt about the informational content ofthe latter), but trends in liquidity will be more readilydiscernible from an aggregation of several years' flows. Lee

suggests that an optimu m aggregate period would be threeyears, and that trend analysis should be applied to threeyear rolling aggre gates. Whe re 'lumpiness' of investment ismore severe, he suggests that the rolling aggregates mayneed to be four or even five years long. We decided to baseour analysis on a four year aggregate period.

Sample SelectionAll 92 Foo tball L eague clubs were asked to provide copiesof their Annual Report and Accounts for afiveyear periodto 1979 (preceding the well-publicisedfinancialcrisis of theearly 1980's). 12 clubs indicated that they would not be ableto supply their Annual Reports, and 26 sent copies asrequested. There were 54 nil replies. Of the 26 copiessupplied , on e was rejected because it did not contain fundsflow data for the required period to 1979, leaving 25 usablesets. A break dow n of the responden t clubs is given in Table3.

Table 3: Analysis of Sample by DivisionEnd 1976 SeasonNum ber of Clubs

Division 1 92 83 54 325

The 12 clubs who were unable to supply their accounts wereexplicit as to their reasons; 4 had insufficient copies available, but the rest did not wish to make such informationavailable:e.g. "this is a private company and it is not our practice todistribute copies of our acco unts."(Charlton A thletic)and "It is the policy of the Board to only make accountsavailable to shareholders and the various statutorybodies who by law require to see a copy ."(Ipswich Town)

We are unable to draw firm conclusions from the 54 nilreplies but it is clear that many football clubs view shareholders as the only users having a reasonable right to receive information. While this may be consistent with theappro ach taken by othe r small private commercial organisations, we contend that it is inconsistent with the uniquesocial and econom ic role assumed (and desired) by footballclubs.

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e be en netted off by division in Table 4 .Not surprisingly, clubs in a higher division had althie r cash flow than other c lubs; most of their cash flow

In this particularly r isky industry we would have exrecent publ ic quotat ion by Tot tenham Hots r (which was substantially oversubscribed) indicates that

tive. F ew clubs raised long term finance, m ost ofster U nite d) had a major share issue in the period und er

ors wh o do not wish to dilute their influence(8).We believe that the extent of donations as a source of

out donatio ns it is reasonab le to suggest thatGr an ts received unde r the terms of the Football G roun dsmprovement Trust are an important source of cash for

1975 applies) and can be related to the expenditure on

Grounds by those clubs. As might be expected, expenditure on fixed assets by clubs in lower divisions is at am i n i m u m .The most surprising finding, in view of all the publicityabout club Finances and borrowings(20), is that there is ageneral improvement in liquidity (or reduction in overdraft) across all divis ions, although this was more appa rentin Divisions On e an d Tw o. (O nly 6 clubs, 4 from the lowerdivisions, increased their overdraft during the period.) Th isimplies that respondent clubs were successful to some extent in their general objective of maintaining a level offinancial stability as a basis for football achievement.ConclusionsWe have noted that there are divergent treatments of donat ions , (see Note 2, Table 4) and transfer expenditure andinco me , which reinforces our belief that traditional repo rting is l iable to mislead. W e also doubt whe ther the resultantaccou nts can m eet the objectives of f inancial reporting forany business and specifically for football clubs.W e conten d that cash flow accounting, extended perhapsto cover the detailed flows to and from football clubs, is notonly relev ant to users , but less likely to be manipu lated ormis under s tood .Foo tball clubs are dep end ent upo n local support throughthe turnstile s , through lotteries and dona tions, and throughlocal business. It seems very strange that clubs do not issueequity to this local support so as to encourage wider participation and to provide a more s table f inancial base. Wefound no significant reference to directors' financial support ( thro ugh new equity or de bt) - clubs relied extensivelyon donations and cash from operations (particularly in theFirst and Secon d Divisions). W e are forced to surmise thatdirectors prefer local support to provide cash withoutstr ings and thus enforce a form of internal capital rationingso as to maintain their own control.

Table 4: Football Clubs Aggregate Cash Flows 1976-79

& M ed . D eb t

Division 1'000

2,296987692,24883 56,435

2,65524 83,5326,435

%

361513513100

41455

100

Division 2'000

1,43413134 11,1051173,128

1,22227 01,6363,128

%

46411354100

39952

100

Division'000

16051 61,390582,124

49 0521,31826 42,124

3/ 4%

824653100

2326213100

After Tax and Dividends. We suspect that donations may be understated. Some larger clubs do not disclose sufficient detail in their Accounts forcomp lete analys is.W he re inf orm ation is given it is subject to extrem e variation in disclosure:Accou nt 14 Ded ucted f rom Asset value 1ropr ia t io n 3 No men t ion 5

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Table 5: Analysis of Clubs by Division and by Cash Flow PercentageSources of Cash

Net Operating CashSurplus

EquityLong & Medium DebtDonationsGrantsNet Disposal of AssetsReduction in Liquid

Funds

Applications of CashNet Investment in AssetsBorrowing RepaidNet Operating Cash

DeficitIncrease in Liquid Funds

1

21126-

1

13

-1

1-25%Division

2

-2324-

-

36

21

3/4

143222

1

53

1-

1

31--1-1

5-

12

Cash Flow Percentage26-50% 51-100%Division

2 3/4

11 1-

2--

1

32

1 32 1

Division1 2

2 3-

14 3-1

-

2 2-

1 14 4

3/4

--14--

2

1-

33

1

721671

2

83

27

TotalDivision

2

43454-

-

88

47

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154622

4

63

74

References1. See for example: The Guardian, 4.2.82, p.8.2. See for example: The Football League: Report of the Committee ofEnquiry into Structure and Finance - The Football League, ChairmanSir Norman C heste r, 1983.3. Accounting Standards Steering Committee, Th e Corporate Report,1976.4. Report of the Inflation Accounting Committee, HMSO 6225, TheSandilands Re port, 1975.5. Carsberg, Hope and Scapens, "The Objectives of Published Accounting Reports", Accounting andBusiness Research, Summer1974.6. See for example: "Report of the Committee on Football", (TheChester Report), D.E.S., 1968, p.33.7. P.J. Sloane, "The Economics of Professional Football: the footballclub as a utility m aximiser", Scottish Journal of Political Economy,June 1971, pp.121-146.8. Financial Intelligence and Research, English Football League Clubs-Financial Status and Performance, 1982.9. E.g. Chesterfield's decision to sue for the transfer fee payable forAlan Birch was the cause of Wolverhampton W anderers Receivership in 1982.

10. See accompanying papers by R.J. Sutherland and G. Stewart.11. J. Arnold and A. Hope "Reporting Business Performance", Accounting an d Business Research, Spring 1975, p.96.12. The Economist, August 29, 1970.13. Accounting S tandards Steering Com mittee, 1975.14. T.A. Lee, "Income and Value Measurement", (2nd Edition),Nelson, p. 169.

15. T.A . Lee, "Laker Airways - the cash flow truth" Accountancy, June1982,p . l l5 .16. G.H. Lawson, "W as Woohworth A iling?" The Accountant, Nov.4,1982, p. 12.17. A.J. Arnold and B.J. Webb, "Cash, Profits and Pergamon", TheAccountant, July 8, 1982, p.28.18. B.J. Webb, "Failure in the Construction Industry" unpublisheddiscussion pape r, Leeds Polytechnic.19. T.A. Lee, "Towards a Practice of Cash Flow Accounting" Discussion paper 13, University of Edinburgh.20. See for example, The Observer, 2 September, 1984.

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finance and football clubs - what cash flow analysis reveals

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