The economic causes and consequences of Financial Fair Play

Stefan Szymanski University of Michigan

It was the best of times…

• Football is the dominant global sport • European clubs dominate global football • UEFA Champions League final is now the most watched annual sporting event • Annual income of European football clubs - €17 billion (Deloitte) • Revenues rising at 5.6% pa over last five years

it was the worst of times…

• €1.7 billion losses declared by top division clubs in UEFA in 2011 • 71% of income spent on wages and transfers • 63% of clubs in top divisions declared an operating loss • 55% reported an overall net loss • 38% of clubs reported negative net equity • 16% of clubs’ auditors qualified reports on grounds of “going concern”

The economic theory of contests

• Example: professional marathon runners with a cash prize for winning • The harder you try the more likely you are to win • Effort is not zero, and there is only one winner • The expected return to winning may be positive on average, but in every race only the winner gets a positive return (= prize – effort), everyone else made a loss (= - effort) • Result: most of the time most of the runners make losses, but it is still rational for them to enter the race

Contests and football

• Promotion and relegation: a penalty for losing as well as a prize for winning • Short-termism: managers prepared to risk all before they are sacked • Too big to fail: clubs always bailed out • Result: chronic financial losses

Insolvency and attendance in England

UEFA Financial Fair Play: objectives

a) to improve the economic and financial capability of the clubs, increasing their transparency and credibility; b) to place the necessary importance on the protection of creditors by ensuring that clubs settle their liabilities with players, social/tax authorities and other clubs punctually; c) to introduce more discipline and rationality in club football finances; d) to encourage clubs to operate on the basis of their own revenues; e) to encourage responsible spending for the long-term benefit of football; f) to protect the long-term viability and sustainability of European club football.

Requirements

• No overdues payable • No negative equity • Must obtain auditors opinion that club is a “going concern” • Breakeven rule: football income greater than football expenditure

Breakeven rule

• Football income: matchday, broadcasting, merchandising, sponsorship • Football expenditures: wages and transfers • Acceptable deviation: €5 million, averaged over three years, transitional losses permitted • Sanctions: exclusion from competition, withholding prize money, other?

Consequences of breakeven rule

• Operates like a salary cap as a limitation on spending • Salary caps common in US: • Negotiated with unions • Unions obtain various concessions in return- minimum salaries, insurance and pension agreements, guaranteed share of revenues • Salary cap ensures that teams spend similar amounts, intended to improve competitive balance • No concession to players in FFP, no competitive balance argument

Breakeven rule and wage spending

country

England Spain Italy France

Table 1: decline in total wage spending no FFP € 15m € 10m € 5m final

€ 1 694.6m -€ 222.3m -€ 264.3m -€ 316.4m -€ 358.4m € 1 044.3m -€ 19.8m -€ 41.9m -€ 78.3m -€ 107.8m € 1 151.8m -€ 167.2m -€ 197.2m -€ 234.8m -€ 266.2m € 789.0m -€ 19.0m -€ 30.1m -€ 50.5m -€ 76.4m Estimates based on simulation by Peeters and Szymanski (2013)

Breakeven rule and competitive balance

English Premier League and Championship Teams 1998-2007: Revenue and performance

• • • Revenues are proportionate to current success Without spending more than current revenues “small” teams cannot challenge “big” teams Only teams to successfully challenge English “big teams” (Man Utd and Arsenal) in last 20 years are Blackburn, Chelsea and Manchester City sugar daddies 2 1.5

1 0.5

0 -0.5

-1 -1.5

-2 -2.5

-3 -3.5

-5 R 2 = 0.8897

-4 QPR Bristol City Brighton Rotherham United Crewe Alexandra Sheffield Wednesday Wigan Preston North End -3 Leeds Newcastle Chelsea Liverpool Arsenal Manchester United Aston Villa -2 -1 0

league position (-log(P/(45-P))

1 2 3 4

Challenge under Article 101 of EU treaty

• prohibited as incompatible with the internal market: all agreements between undertakings…which have as their object or effect the prevention, restriction or distortion of competition within the internal market •

Unless…

• Agreement…contributes to improving the production or distribution of goods or to promoting technical or economic progress, while allowing consumers a fair share of the resulting benefit •

And does not…

• impose on the undertakings concerned restrictions which are not indispensable to the attainment of these objectives;

Competition law and sport

• Sport is special – agreements necessary among undertakings in order to create a sporting competition (rules, etc) • Competitive balance (solidarity) a legitimate aim of sporting organizations • Rules which deal exclusively with sporting competition cannot be challenged under EU competition law • Rules which have an economic dimension can be challenged

Competition law challenge to breakeven rule

• Clearly a restriction of economic competition (players have fewer alternatives) • Overbroad – restricts clubs that are not insolvent • Clearly likely to raise profitability of clubs • No benefit for consumers- no improvement of competitive balance • Not indispensable – alternatives exist which could achieve goal of reducing insolvency and would be less restrictive

What are the alternatives?

• Guarantee of losses by the owners • Greater revenue sharing- level playing field • Reform competition- remove territorial boundaries (e.g Benelux league, Iberian league, British league)

And is insolvency really a problem anyway?

• 74 clubs in the top division in England, France, Italy and Spain in 1950 • In 2013… • 46 clubs still played in their top division • 13 in second tier • Only 2 clubs no longer in existence • FC Nancy (disbanded 1965) • Racing Tourcoing (disbanded 1970) • Financial crises overcome because football clubs are community assets- the business may fold but the club never dies.

A Schumpeterian view of sporting competition

• “creative gale of destruction” • Capitalism works well when entrepreneurs innovate, enjoy monopoly power, which is then competed away by rival firms • Powerful incentives to succeed, but success is temporary • Individual enterprises are unstable but the system is stable

Europe’s dominance of football

• The biggest investors in football now live outside Europe- Gulf, China, USA • They are mostly interested in participating in European football • But if they are excluded, or restricted from pursuing their own interests… • …maybe they will use their power to develop rival leagues