Why Arsenal’s version of the ‘self-financing model’ is not the way forward

Arsenal’s profitability over the last few years has been remarkable in an industry where financial prudence and sporting success are so often an impossible combination to achieve. The last time Arsenal reported a loss was 2002 making them one of the best financially operated football clubs in the world. However, over the last few seasons the realities of operating under such financial constraints has become apparent, not least to the Arsenal fans that are now questioning Wenger’s leadership despite his reputation as the most successful, longest serving manager in Arsenal history with the highest win ratio of any Arsenal manager ever (excluding caretaker managers). Arsenal have not won a trophy in seven years, quite a shocking fact for a club that had the 5^th highest revenue in Europe in 2011 according to Deloitte. The club has vastly increase their revenue production since their move to The Emirates in 2006, and the subsequent sale of property at Highbury, yet this money does not appear to have been used to strengthen the team. This article explores the financial data to highlight exactly what is going on at Arsenal in comparison to their main Premier League rivals, and anticipates the likely impact of FFP on the future success of Arsenal.

Financial Success

Arsenal is a financially successful club. Over the last nine years since 2003/4 Arsenal have produced an average annual pre tax profit of £26.8 million. They are also becoming more profitable as the last three years (period 3) show an average of £35.8 million pre tax profit per season.

Pre tax profit (£’000)
2004	2005	2006	2007	2008	2009	2010	2011	2012
10,577	19,265	15,885	5,573	36,668	45,512	55,968	14,776	36,588
Average pre tax profit of 26,757
Period 1 average of 15,242			Period 2 average of 29,251			Period 3 average of 35,777

This increase in profitability is being driven by a number of different factors.

Total revenue breakdown (£’000)
	Total revenue	Match day income	Media income	Commercial income	Player trading income	Other income
2004	159,169	33,765	59,780	21,017	2,282	42,325
	100%	21.21%	37.56%	13.2%	1.44%	26.59%
2005	141,289	37,397	48,594	29,092	2,894	23,312
	100%	26.47%	34.39%	20.59%	2.05%	16.5%
2006	156,562	44,099	54,870	33,014	19,150	5,429
	100%	28.17%	35.05%	21.08%	12.23%	3.47%
2007	219,310	90,613	44,312	41,582	18,467	24,336
	100%	41.32%	20.2%	18.96%	8.42%	11.1%
2008	249,428	94,580	68,360	44,311	26,458	15,719
	100%	37.92%	27.41%	17.76%	10.61%	6.3%
2009	336,516	100,086	73,239	48,138	23,177	91,876
	100%	29.74%	21.76%	14.31%	6.89%	27.3%
2010	417,993	93,929	84,584	43,973	38,137	157,370
	100%	22.47%	20.24%	10.52%	9.12%	37.65%
2011	261,948	93,108	85,244	46,323	6,256	31,017
	100%	35.54%	32.54%	17.69%	2.39%	11.84%
2012	308,469	95,212	84,701	52,515	65,456	10,585
	100%	30.87%	27.46%	17.02%	21.22%	3.43%

The move to The Emirates in 2006 significantly elevated match day income for The Gunners, more than doubling annual income from matches. Match day income in 2012 was almost three times the amount received in 2004, and more than double the amount received in Arsenal’s final year at Highbury. Media income has also grown, however, this is not exceptional to Arsenal, as broadcasting deals have continuously increased income for the vast majority of clubs, and certainly for Premier League clubs. Arsenal has also grown commercially over the period, but again this does not appear to be anything extraordinary when compared to other Premier League clubs. Player trading income at Arsenal has been consistently significant over the last few years, and is one of the most contentious elements of Arsenal’s ‘self-financing model’. This will be explored later, but for now, it is clear that income from the sale of players has played a pivotal role in driving Arsenal’s revenue over the last few years. Other income fundamentally includes financial investments, and in Arsenal’s case property investment. The extraordinary revenue peak in 2010 can largely be attributed to the sale of property at Highbury and should not be considered as a long-term growth in revenue streams. Overall, Arsenal have almost doubled their revenue since 2004 (up 94%), and are in an extremely healthy position with the advent of Financial Fair Play.

Arsenal are also doing well in terms of their costs.

Total cost breakdown (£’000) (excluding exceptional costs)
	Total costs	Costs of sales and other operating costs	Staff costs	Amortisation + player acquisition costs	Finance costs
2004	114,808	22,888	69,889	20,137	1,894
	100%	19.94%	60.87%	17.54%	1.65%
2005	110,075	27,599	66,012	14,993	1,471
	100%	25.07%	59.97%	13.62%	1.34%
2006	136,091	37,725	82,965	15,401	0
	100%	27.72%	60.96%	11.32%	0%
2007	168,466	44,677	89,703	18,782	15,304
	100%	26.52%	53.25%	11.15%	9.08%
2008	186,654	46,603	101,302	21,757	16,992
	100%	24.97%	54.27%	11.66%	9.1%
2009	199,846	55,359	103,978	23,876	16,633
	100%	27.7%	52.03%	11.95%	8.32%
2010	208,943	54,994	110,733	25,033	18,183
	100%	26.32%	53%	11.98%	8.7%
2011	210,012	49,745	124,401	21,658	14,208
	100%	23.69%	59.23%	10.31%	6.77%
2012	250,462	56,716	143,448	36,802	13,496
	100%	22.65%	57.27%	14.69%	5.39%

Like revenue, costs have also doubled over the period (up 118%), but in real terms Arsenal have improved. Costs of sales and operating costs have increased significantly over the period, most of which can be attributed to the increased costs of operating at The Emirates. Staff costs have increased, as they have at every other Premier League club, but in Arsenal’s case have actually decreased as a percentage of overall costs. Amortisation and acquisition costs are low when compared to other Premier League teams (this is explored further later). Arsenal are in a very healthy position regarding their finances, easily able to afford interest payments, and have written off the majority of their debt over the last few years. Net debt now stands at £98 million.

Football clubs are often examined in terms of their wage bills, and it is safe to say that Arsenal are extremely healthy in this respect.

Wages (£’000)
2004	2005	2006	2007	2008	2009	2010	2011	2012
69,889	66,012	82,965	89,703	101,302	103,978	110,733	124,401	143,448
Increase of 105%

Wages have risen, that is to be expected, but Arsenal, unlike so many other clubs have been able to keep the wage to revenue ratio consistent and low.

Wages to revenue (£’000)
2004	2005	2006	2007	2008	2009	2010	2011	2012
69,889/ 159,169 x 100 = 43.91%	66,012/ 141,289 x 100 = 46.72%	82,965/ 156,387 x 100 = 53.05%	89,703/ 219,310 x 100 = 40.9%	101,302/ 249,428 x 100 = 40.61%	103,978/ 336,516 x 100 = 30.9%	110,733/ 417,993 x 100 = 26.49%	124,401/ 261,948 x 100 = 47.49%	143,448/ 308,469 x 100 = 46.5%
Average wages to revenue of 41.84%
Period 1 average of 47.89%			Period 2 average of 37.47%			Period 3 average of 40.16%

The figures show that wages as a proportion of revenue have been consistently below 50% (apart from 2006) and have even been as low as 26.49% in the year Arsenal received the most from their property sale. Financially this is great news, in terms of competitiveness however, the news is not so good.

No one can argue that Arsenal have not been fantastically successful financially over the past decade, indeed many supporters have worn this fact as a badge of honour, whilst other clubs overspend and plunge deeper and deeper into debt. However, no Arsenal fan can deny that the last seven years have been tough with a lack of success and the escalating costs of supporting their club after the move to The Emirates. Many believe that FFP is the light at the end of the tunnel and that other clubs will be pegged back allowing Arsenal to manoeuvre themselves back into pole position, but does tighter financial regulation arrive too late to save them?

The problem for Arsenal fans

The issue is not that Arsenal are unable to produce the required resources to compete at the highest level, the problem is the way in which these resources are produced, and the way they are used.

Return on equity (£’000)
2004	2005	2006	2007	2008	2009	2010	2011	2012
(8,152/ 84,363) x 100 = 9.66%	(8,293/ 122,656) x 100 = 6.76%	(7,902/ 130,558) x 100 = 6.05%	(2,816/ 133,374) x 100 = 2.11%	(25,726/ 159,100) x 100 = 16.17%	(35,230/ 194,330) x 100 = 18.13%	(60,992/ 255,322) x 100 = 23.89%	(12,633/ 267,955) x 100 = 4.71%	(29,593/ 297,548) x 100 = 9.95%
Average ROE of 10.83%
Period 1 average of 7.49%			Period 2 average of 12.14%			Period 3 average of 12.85%

Over the nine years Arsenal have produced a handsome 10.83% average return on equity, and the figure has grown over the period. The club is highly profitable, indeed one ordinary share would have earned you a tidy £475.64 in the 2011/12 season, yet this money does not appear to be utilised to enhance the quality of players at the club. The obvious question is: do those that operate the club want to make money or achieve success? For the fans, the answer appears to be evident.

If we examine player trading it becomes apparent that Arsenal are significantly different to their rivals.

Player amortisation and acquisition costs (£’000)
2004	2005	2006	2007	2008	2009	2010	2011	2012
20,137	14,993	15,401	18,782	21,757	23,876	25,033	21,658	36,802
Average for the period of 22,049
Period 1 average of 16,844			Period 2 average of 21,472			Period 3 average of 27,831

Player amortisation and acquisition costs for the top PL clubs (£’000)
	2009	2010	2011
Arsenal	23,876	25,033	21,658
Chelsea	61,578	38,629	75,121
Liverpool	43,009	48,006	45,645
Manchester City	39,431	71,006	118,295
Manchester United	37,641	40,087	39,245
Tottenham	37,288	39,991	41,953

Player trading income (£’000)
2004	2005	2006	2007	2008	2009	2010	2011	2012
2,282	2,894	19,150	18,467	26,458	23,177	38,137	6,256	65,456
Average for the period of 22,475
Period 1 average of 8,109			Period 2 average of 22,701			Period 3 average of 36,616

Player amortisation is worked out by dividing the transfer fee by the number of years on the player’s contract. For example a player that is signed for £10 million on a 5-year contract would be amortised at the rate of £2 million per year. Amortisation does not therefore represent the exact inflow of talent on a yearly basis, but does give a strong indication of talent procurement over time. The amount of money that Arsenal are spending on player purchases has increased over the period and averages at around £22 million a season. Yet the outflow of talent over the period has been even greater with an average of £22.5 million worth of talent leaving the club every year. The figures show that this transformation has occurred over recent seasons. In period 1 Arsenal were spending significantly more on talent than they were receiving from player sales, however, by period 3 the average annual income of £36.6 million far outweighs the £27.8 million spent, on average, each year.

In terms of Arsenal’s main Premier League rivals they appear to be far from competitive. Of course its not all about how much money a club throws at players, but it is difficult to ignore the relationship between the amount of money a club is prepared to spend on both acquisition and wages, and the relative success that gives them on the pitch. In the Premier League Arsenal’s revenue is 2^nd only to Manchester United; therefore they should easily be able to afford top quality players and their wage demands. However, the evidence clearly indicates that money is not being spent on players. Arsenal spend around half as much as Manchester United on players per year despite having similar revenues. They also spend half as much as bitter rivals Tottenham, who despite their high spending still manage to produce a profit, or remain relatively close to breaking even, on a regular basis. It would appear that the powers that be are not simply content to run a tight ship and maintain financial prudence; they want to see significant returns on their investments, which means producing a substantial profit. The result? No trophies since 2005 whilst all of the other teams listed (Chelsea, Liverpool, Manchester City, Manchester United and Tottenham) have won at least one trophy in that period.

In all, player trading income figures demonstrate a scary outflow of talent from Arsenal, and those figures do not even include the latest notable outgoings of Robin Van Persie and Alex Song, along with a few less well-publicised transfers Carlos Vela, Henri Lansbury and Kyle Bartley, which could easily push income from player trading for the 2012/13 season to around £40 million.

Pre tax profit minus transfer income (£’000)
2004	2005	2006	2007	2008	2009	2010	2011	2012
8,295	16,371	-3,265	-12,894	10,210	22,335	17,831	8,520	-28,868
Average of 4,282
Period 1 average of 7,134			Period 2 average of 6,550			Period 3 average of -839

What is even more frustrating for the fans is that the sale of players is completely unnecessary in terms of the financial health of the club. The table above shows the profit/loss Arsenal would have made had none of their players been sold over the last nine years. As you can see the club would still be profitable producing around £38.5 million in total. The sale of star players is nothing to do with remaining financially stable, and has everything to do with the desires of the shareholders.

Light at the end of the tunnel?

Many at Arsenal will be thinking that FFP offers hope as clubs like Chelsea and Manchester City will be forced to reign in their spending. With superior revenues Arsenal should be able to become competitive once again, but only if the unjustifiable sale of talent is halted. Arsenal are on the edge of a dangerous precipice as their position in the top four has never been under more threat. It would appear, despite the fact that we are only 10 games into the season, that there are ominous signs that the top three positions have already been decided; hence Arsenal are likely to be in a tight race for the fourth Champions League qualifying position. Failure would be a significant blow. With FFP operating on three-year rotations (i.e. reporting periods for break-even requirements are taken over a three-year period (two-years for the first period 2011/2 – 2012/13)) the club will need to reinvest its profit from 2011/12 (£29.5 million) within the next couple of seasons before it becomes obsolete in terms of using it to improve the squad. As I have argued in previous posts, FFP is likely to widen the performance gap between the top teams and the rest, especially in terms of those teams in the Champions League due to the vast additional revenue they receive. It is therefore critical that Arsenal qualify for the Champions League this season and next season.

The only concern is that FFP has arrived too late to save Arsenal. In the mad rush of the last few years Manchester City have been spending big before the proverbial trapdoor slams shut on exogenous owner investment. Notably, City have purchased four players from Arsenal (Adebayor, Toure, Clichy and Nasri) for a reported combined total of £70 million (source: transferleague.co.uk). Wenger has been good in the past at buying relatively unknown young talent for reasonably small amounts of money, and selling those players on at vastly increased amounts once their best years were utilised, and a replacement had been found e.g. Overmars, Henry, Vieira and Anelka. Recently however, players have been sold at their peak and whilst Wenger has wanted to retain them. Notably Robin Van Persie, who transferred to one of Arsenal’s greatest rivals Manchester United, stated that his reason for leaving was because he did not agree with Arsenal’s strategy or ambition. Equally, Alisher Usmanov, owner of 30% of Arsenal, has voiced his concerns that the current ‘self-financing model’ is limiting competitiveness and eroding the belief of the players that Arsenal can match their ambitions. If Arsenal continue as they have done over the last few seasons, they will be busy maximising profit whilst the vast majority of other clubs, including their main rivals, will be minimising loss. The difference is subtle in theory but significant in practice.

With the trapdoor already half closed Arsenal need to ensure that they are not on the wrong side of it in the next couple of years, which means abandoning the pursuit of returns for shareholders and focusing on utilising club funds for the improvement of the club. If they don’t their future could be one of frustrating mediocrity.