Saturday 18 January 2020

Neil Francis: Rugby's 'big short' is a serious threat to the game

Bond issues are becoming the norm for top clubs in the English Premiership but the risks surrounding these investments make it a very dangerous game

The Champions Cup still waits for a multi-sponsor deal but as long as the television money is there everyting will be dandy.
The Champions Cup still waits for a multi-sponsor deal but as long as the television money is there everyting will be dandy.
Neil Francis

Neil Francis

Let’s go back to the 1980s, the decade of greed and avarice in the financial markets. Anyone remember Michael Milken? Correct and right: he was the junk bond king in Drexel Burnham Lambert, one of Wall Street’s finest, now no longer. Milken made markets in any high yield bond that he underwrote. As long as nobody said anything this market would continue on its merry way. Somebody did say something and sure enough the whole thing came crashing down amidst securities fraud and racketeering. Milken got 10 years, reduced to two on the back of shopping all his buddies.

Jordan Belfort’s extraordinary career, again on Wall Street, was told in the 2014 film, The Wolf Of Wall Street. He used Straton Oakmont (he invented the name because it sounded blue-blooded — just fantastic) as his vehicle to pump and dump penny dreadful stocks to unsuspecting randomers. Belfort only got two years because he shopped, sorry he co-operated with the SEC and the Feds.

Currently, we have quite a number of well-known tech stocks who are awash with billions and billions of dollars pumped into them by Wall Street. These companies trade at impossible price earnings ratios. We are told that the multiples here are based on what these companies might earn in say 10 years’ time. The model of a lot of these companies is based purely on advertising. Some of their annualised revenues don’t even meet interest cover. These companies are producing very little and to survive are burning capital raised at the IPO. It is truly remarkable that, based on any rational analysis of any of these companies, it would lead to only one conclusion: failure. As we speak the music has begun to stop for one or two of them.

Earlier this year we saw the screen adaptation of Michael Lewis’ oeuvre The Big Short — a scarcely believable story of about half a dozen ‘players’ who bet against the credit default swap market when they recognised that it had inflated to the size of Donald Trump’s ego and backed up by subprime security.

When it all came tumbling down the scale of dishonesty was just breathtaking, but why were we not surprised? Greed is good, is it not! Unquestioning stupidity is definitely not.

Why are we talking about Wall Street on the back pages? Well, because rugby’s ‘big short’ is just around the corner. There are a number of worrying trends beginning to pop up in rugby’s portfolio. Down south the seemingly irreversible fall-off in audience numbers in Super Rugby continues. Rupert still calls the shots and his television money keeps the show on the road. In this neck of the woods the crowd figures for the Pro12 do not make for good reading. The Champions Cup hit a wall too this year. Rupert will still keep his hand in here in conjunction with BT but he is unsure about continuing to broadcast Pro12 rugby. The Pro12 can survive on smaller gate revenues but not on a total pull-out of its television revenues.

The Turkish Airlines Champions Cup, aka The Heineken Cup, still waits for a multi-sponsor deal but as long as the television money is there everything will be dandy .

The French clubs — despite their unsustainable budgets and payroll obligations — are doing ok. Only ok. The Aviva Premiership clubs are all going to go after the French clubs. The fact that they had three clubs in this weekend’s semi-finals might point to the fact that it has already happened.

We know that one of the reasons the English clubs, through PRL, agitated for the change in the status quo of the old ERC was because most of their clubs were losing money hand over fist and the accumulated deficit on their collective balance sheet was north of £27m. That was in 2014. No word of how bad it has become in 2016. It is true that they have managed to wangle a bigger slice of the pie but if they are chasing the French, the additional revenues from the hijacking of the Heineken Cup won’t even come close to bridging the gap or meet the increased salary cap.

So now they need alternative ways of raising capital just to keep them going. The season before last Wasps, one of the great English clubs, could not pay its players at the end of the season. The club was hopelessly insolvent and were about to go under. Irish financier Derek Richardson came in and saved them. One of the prices they had to pay was to move to Coventry and play their home games at the Ricoh Arena.

To fund this Wasps issued a retail bond to raise £35m. The issue was listed on the London Stock Exchange. The bond was securitised on the football ground in Coventry. The bonds are convertible and they are also tradable. The issue has a seven-year term and a not particularly generous coupon of 6.5 per cent per annum. Incredibly, the issue was over-subscribed. The ground was valued at £46m. I’m just not sure in the event of a default how you would sell a football ground. Neither would I be so sure of the ability to trade in these bonds particularly in year five or six. It will be interesting to see what happens when the issue matures in five years.

Meanwhile, Wasps’ former cross-city rivals Harlequins have just organised their own bond issue. A five-year mini-bond issue with a very ungenerous coupon of 5.5 per cent. Harlequins are looking to raise £7.5m and possibly as much as £15m depending on how many turkeys — sorry, investors — they can lure into the scheme.

The ‘quality’ of these investments are all relative but compared to the Wasps bond this one is very unattractive. The issue is not convertible, which means it cannot be traded on the smaller London markets, not that it would have any demand in these markets. It has no share class and if they can’t pay the interest you won’t be rolling it up and taking it into share capital. The issue is also unsecured; at least Wasps had a football stadium. What could Harlequins offer? A charge on the gate receipts? A fixed and floating charge on their trophies? A first legal debenture on Chris Robshaw?

Why would you invest in an illiquid, loss-making rugby club that can’t trade profitably? Last year they lost £1.4m on a turnover of £15.1m. This year they have made a profit of £15.1m, on an increased turnover of £17.9m as of June 30, 2015. I am at a loss to explain how that came about.

What we are now seeing is a state of affairs where sugar daddies, probably recognising the need to up their game to compete, are either unwilling or unable to invest more in their club and are also unwilling to dilute their equity stake in the club and issuing these bonds is an easy way of raising capital to put into the big black hole they have found themselves in.

Where the money goes which has been raised nobody knows. Improving facilities, investment in income-producing areas like more or better corporate boxes? Maybe it is just used for an ‘out’ for the disillusioned sugar daddy. Maybe it would be to invest in better quality players. You could buy three or four really good players and a good coach for £7.5m for a few years.

It is though a nil sum game if that is what you are chasing. Improving your roster so that you win titles does not pay for itself. The bonuses for winning cups pales into insignificance when compared to the size of the wage bill it requires. Just ask Monsieur Boudjellal. Upping the ante by paying for players that they couldn’t ordinarily or previously afford is a fool’s game. It is called the Leeds United model.

Last week London Irish RFC were effectively relegated from the Premiership. Two seasons ago a consortium bought 52 per cent of the share capital of the club for £3m and talked about becoming one of the ‘best clubs in Europe’. As a former London Irish player, I feel for them and their thwarted ambition. They have been loss-making since the game went professional. How much is the club worth now in the Championship, a shark tank where Bristol have been scrapping for three seasons to get back out of? It is a painful and chastening financial experience for all concerned.

What happens if Wasps or Harlequins get relegated? What happens the 5.5 per cent or 6.5 per cent yield? What happens if they can’t pay the interest? Incredibly more rugby clubs in the Premiership intend to go this route. They probably have to. Harlequins motto is ‘Numquam Dormio’ (Never Sleep). If I invested in that bond that is exactly what would happen to me.

If English clubs are going down this route I think it will be the beginning of the end. As for anyone who invests in these things remember the value of your investment can . . . you know the rest.

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