The Predicament of Portsmouth – Part 1

Portsmouth Football Club has been flying high for the past 5 years.  Promotion to the top flight was secured in 2003, a record high league finish of 8th achieved and silverware brought home from the 2008 FA Cup. This year, however, Pompey is a favored candidate for relegation and they have been struggling to climb to safety, due in large part to financial instability at the club simmering under the surface since at least last Christmas. That undercurrent has resulted in a fire sale of first team players and a rollercoaster of ownership confusion, the effects of which have clearly been felt on the pitch.

The ‘news’ events of the past year have been well documented by the daily press at this point, I will not describe them again simply because I don’t have information that would make the situation any clearer. I am more interested in understanding how the changing financial situation of the club set these events in motion and what lessons Pompey and other clubs can draw from the experience.

Prelude to the Storm

Even before the current period of turmoil Pompey had a recent history of financial instability with ownership changing hands several times and even a declaration of administration.

In the summer of 1996 Terry Venables arrived at Portsmouth as a consultant, later taking over as chairman after buying the club for £1. The team enjoyed a run to the quarter-finals of the FA Cup in 1996-97, beating FA Premier League side Leeds United en route, but finished just short of the qualifying places for the play-offs for promotion to the Premier League. Portsmouth’s centenary season, 1998-99, saw a serious financial crisis hit the club, and in December 1998 Portsmouth went into financial administration. Milan Mandarić – well known Serbian-Yank fraudster saved the club with a takeover deal in May 1999, and the new chairman immediately started investing.

Source: Wikipedia http://en.wikipedia.org/wiki/Portsmouth_F.C.

After the Mandaric takoever Pompey earned promotion to the Premier League and spent the next three seasons fighting relegation until 2006 and the entrance of Alexander Gaydamak. With new mid-season investment new players were bought and the club’s position improved dramatically…until the wheels started to come loose in late 2008. Others have covered the recent history.

So what caused all this? We have to start with the details of the Gaydamak purchase and the effects of his era of ownership.

Purchase of the Club

Gaydamak first became involved with the club in January 2006, when he purchased a 50% ownership stake from Mandaric for £15m and in July 2006 purchased the remaining shares for an additional £32m (source: Russia IC). By purchasing PFC, Gaydamak assumed control of all assets of the club, including player registrations, stadium, land (more on this one later), and brand rights. As owner he also assumed responsibility for any liabilities held by the club, wages, operation costs and most importantly debt.

Purchase Price for Equity: £47,000,000


Keep in mind that this was the price Gaydamak agreed to pay Mandaric for ownership of the existing shares of PFC. It was NOT the amount of investment put into the club.

Transfer Activity

Transfer activity picked up quite a lot during Gaydamak’s tenure with high profile signings arriving regularly each window.

£6,007,500* = £6,007,500 (transfers in) – £0 (transfers out)””””””””” 2005/2006

£6,497,000  = £7,609,500  – £1,112,500  “””””””””””””””””””””””””””””” 2006/2007

£26,459,700 = £46,929,700 – £20,470,000 “””””””””””””””””””””””””” 2007/2008

-£23,985,500 = £25,098,000 – £49,083,500 “””””””””””””””””””””””””” 2008/2009

-£28,480,000 = £8,277,000 – £36,757,000 “”””””””””””””””””””””””””” 2009/2010

£13,501,300 = Total Transfer Activity Profit

*Only January signings paid for by Gaydamak. All figures taken from TransferMarkt.


Now it appears that PFC have made a profit of £13m over the past five years. However these figures do not include any costs that reduce the overall value of the transfer for the club i.e. agent fees, next of sale clauses, and taxes on profits. They also do not include several undisclosed transfer fees for incoming players that are likely to be approximately £4m in total. If I include these contingencies net profit drops dramatically.

£13,501,300 = Total Transfer Profit

£4,696,085 = £93,921,700 * 0.05 = Total £value incoming players * 5% agent fees **

£4,000,000 = Estimated value of undisclosed incoming transfers. No large undisclosed outgoing transfers.

£??????????? = Fee on next sale clauses

£4,805,215 = Remaining Transfer Profit

**this is a very conservative estimate for the 5 year period as it was disclosed that just between Oct 2008 – Sept 2009 Pompey paid £3,184,725 to agents

As you can see profit dropped by more than 50% after using some reasonable estimates. Next sale clauses have not even been included because I cannot find a reliable figure. If a few high value players had the clauses in their contracts overall profit is quickly wiped out and traded for a loss. As an example if, as rumored, Lassana Diarra had a 25% sell-on clause triggered by his £18m move to Real Madrid, Pompey would have a £4.5m fee to pay. Glen Johnson also was supposed to have a sell-on clause embedded in his move to Portsmouth, which again would have been triggered by his move to Liverpool in the summer. Given these highly likely possibilities it is safe to say that Pompey are, in the best case, at a neutral level in terms of spending, at worst in a multi-million pound hole triggered by fees and deferred payments.

Summary: Almost £94m spent, almost £108m due in from sales, a chance of a profit, but a dubious one and more likely a loss (although a positive point is that it is not likely a large one) in the transfer market. While this is not a poor record, certainly there have been worse, it leads to several short term problems which might explain Pompey’s current situation.

Turnover and Wage Bill

Pompey’s ability to increase turnover ran into a wall squarely due to the limited capacity of Fratton Park. The below graph illustrates that limit was hit in about the 2003/2004 season (naturally the season of promotion to the Premier League). This can also be seen in the turnover figures of the club (both the graph and figures table are from the wonderful footballeconomy.com):

Portsmouth FC Spectator Numbers 1994-2009
Year
Turnover
Pre-tax profit
Wages / Turnover ratio (%)
Employees
2007/08 70.476 -16.882 77.6 635
2006/07 40.245 -23.452 91.7 703
2005/06 36.068 -0.912 68.8 495
2004/05 36.043 3.503 69.5 356
2003/04 39.813 3.356 64.2 281
2002/03 12.667 -9.270 144
2001/02 9.945 -5.571 97.3
2000/01 6.776 -6.404 144

Revenue leveled off for the years 2004-2007, with an increase only achieved through ticket price increases, the large bump in 2007/2008 came mainly from player sales. Because of this player (and management) wages skyrocketed to a tremendous 91% of turnover before coming back down to (a still tremendous) 77% after several high profile player sales. But again this was only achieved because turnover was ‘artificially’ increased by one time events of player sales. The wage bill was clearly getting out of hand by this point.

To put this in perspective from the standpoint of operating the club, by the end of the 2006/2007 season the club was paying almost £37m in wages out of the £40m in turnover leaving about £3.4m for everything else including and most importantly FINANCING COSTS OF DEBT. Which brings us to,

Financing

Barring a massive public hearing by the FA in the event of a blow up, this category will always be the most mysterious of all. 99% of people, including myself, are not privy to the details necessary to piece together the puzzle. But I can make reasonable guesses based on what’s happened.

There are always two extremes that can be taken to finance a club (applicable to all businesses really).

1. The owner can use all his own cash and pay for transfers, club operations, etc. out of pocket. The club is essentially debt free in this situation until the owner dies, is bankrupt, or tires of the business. Think Chelsea.

2. The owner leverages the club up as much as creditors will allow, borrowing cash to operate with against the future projected revenue/turnover of the club. The club is essentially owned by the banks and the owner is one defaulted interest payment away from redundancy. Think West Ham.

Clubs are normally operated somewhere in between the two extremes. It is my opinion that Gaydamak operated much closer to the 100% leveraged end given recent history. It is unlikely that he sunk £94m of his own money into the club for new player investments and much more likely that he invested just enough money into the club to satisfy bank credit evaluations to open up larger access to loans for the club. In addition I believe that he invested monies on an as needed basis to make up operating short falls for interest charges on loans, club operations, etc. Based on the loss data from 2006-2008 alone and expenditures on players over the 5 year period, recent reports that Pompey were in debt to the tune of £60m or more do not seem unlikely. Estimating interest charges on this at a generous 10% rate (unless you’re a big name like Arsenal you’re unlikely to get good rates) the financing cost alone would be £6m per year. I would guess that in total Gaydamak invested £25m into the club, the bulk of which went towards plugging the deficit the club was running and financing the debt.

Putting it All Together

Cash flow is what is ruling Pompey’s current situation. We can see that by late 2008, even after winning the FA Cup and selling some big stars, Pompey must have been running out of cash. It is possible to make millions in the transfer market and still go bankrupt before you can collect on your net earnings because so many deals involve deferred payment while wages are immediate. Assuming that operations remained similar for the 2008/2009 season, under Gaydamak’s ownership the deficit would easily have ballooned to £60m on the operations we know of alone.

The situation was surely compounded by the onset of the financial crisis with banks increasing rates and possibly recalling in loans. As it was Pompey would be running on a knife’s edge, if a large call by a bank were impending it would easily trigger massive player sales to raise cash as quickly as possible. Even with the stripping of the squad there would considerable cash flow pressures, as such Gaydamak’s sale of the club is not surprising. In total we know that his purchase of the club cost him an approximate £71m over the 5 years of his ownership (£47m purchase price + £25m estimated investment). What he will receive back from the sale is still unknown, and a fight was already brewing when a new owner was found.

Next time I will cover the new ownership, what our current financial situation is and most difficult of all, what is Portsmouth worth now?

Next time: The Predicament of Portsmouth – Part 2 (Owners Old and New, Conclusions, and Hope).

The Predicament of Portsmouth – Part 1

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