Are football clubs the worst investment ever?
Warren Buffett once joked that had he been at Kitty Hawk in 1903 the best thing he could have done for future investors would have been to shoot down Orville Wright because the airline industry had lost more money than it had ever earned for shareholders! A business with a similar disregard for investors is the association football club. Indeed, in recent times investing in football club shares has, with a few exceptions, only been slightly better than setting your money on fire.
As many people are now finding out to their cost, football is a licence to lose money
When looking at any company as a potential investment it is useful to consider not just what makes for a successful business but also what makes businesses unsuccessful, since this tells you what businesses you want to avoid. Looking at how football clubs operate is highly instructive because if you see similar behaviour in another business you probably shouldn't touch their shares with someone else's bargepole!
For example, if a high technology company appointed a CEO with no business experience, no management experience and no qualifications you'd expect the board of directors to be replaced fairly quickly. Yet football clubs frequently put somebody like this in charge of a multi-million pound business.
A very peculiar way of doing business
Below I've noted some of the ways in which the football business operates and given examples in italics of similarly destructive behaviour that is seen in non-football businesses.
1) In football many clubs are primarily run for the vanity and ego of their owners. To them profitability is largely irrelevant and the club permanently operates at a loss -- firms which are run for the benefit of the directors and their families, rather than for the shareholders.
2) Football clubs are experts at refusing to publicly acknowledge blindingly obvious truths, such as that the club is almost bankrupt -- the company's management claims that the business is doing really well because it has won an award, glosses over the massive losses incurred in the previous year and decides to "rebase" (i.e. cut) the dividend.
3) Many football clubs throw money around like confetti -- companies buy other firms solely because the increased size of the new business means that the directors can justify paying themselves more.
4) The behaviour of some football clubs which spray cash around like the proverbial drunken sailor on shore leave has the unfortunate side effect of driving up the costs for other football clubs -- paying a crazy price in a takeover battle because everyone else is.
Manchester City and Real Madrid's pursuit of various players this summer has driven up wages and transfer fees for top-end players so, if past experience is anything to go by, this will have a knock-on effect further down the football pyramid. In the business world this is often seen when boards claim that they have to pay lots of money and/or bonuses to attract top managerial talent, despite evidence showing very little connection between top salaries and profitability.
Looking at the wreckage left behind by the so-called "top talent" at the Royal Bank of Scotland (LSE: RBS) it makes you wonder whether you should ever invest in that line of business.
A licence to lose money
Football seems to be incapable of living within its means; the constant flirtation of many clubs with bankruptcy is testament to football's dodgy finances and generally incompetent financial management.
Football is what game theorists call a "zero-sum game" because for every winner there must be a loser. Lose too often and you're relegated. For high-spending Premier League clubs relegation is the first step towards bankruptcy because they still have to pay their vastly overpaid players whilst their income collapses. Every year 15% of the clubs in the Premier league fall through the relegation trapdoor; clubs like Charlton and Southampton have shown us that getting relegated is but one step short of a death sentence and investors being wiped out.
Today, whilst the money flowing into football has never been greater, clubs are still making huge losses. In the 2007/2008 season only 3 of the 20 English Premier League clubs are believed to have made a profit. Any mature business whose turnover is hitting record levels but still makes huge losses is an awful investment. Football's biggest problem is its cost base with clubs vastly overpaying mediocre "squad players" and wasting millions in the transfer market.
How to make money from football
American sports' teams are highly profitable because they operate in a rigged market. Competition is restricted, teams operate with budget caps that prevent most of their turnover going to the players and there's no threat of your business being destroyed by relegation. However, the American model is illegal under European law, so that leaves investors with one way to make money from football; buy shares in a business that is connected with football.
British Sky Broadcasting (LSE: BSY) was largely built on the strength of its Premier League football contract to entice subscribers. Setanta Sports' British arm tried to copy Sky, overstretched itself to acquire Premier League football rights and tipping into bankruptcy when it couldn't afford to pay for them. Bookmakers such as Ladbrokes (LSE: LAD) and William Hill (LSE: WMH) make a small fortune taking bets on matches and newspapers sell lots of copies solely because of their football coverage. You can find many other firms that make a tidy living off football but few that make a living in football.
To sum up, football is an entertainment that masquerades as a business. Enjoy watching it but when it comes to investing in it you're probably better off at the bookies!
More sector reviews by Tony Luckett:
Tony owns shares in Ladbrokes.
