Generally we're not so firm on football shares. While some clubs are able to create a growing world wide fan base that secures a steady merchandising income and the biggest competitions (England, Spain, Germany) see a substantial increase in TV-rights income, these circumstances only hold for a few clubs.
You have to be amongst the elite clubs, the biggest clubs playing in the biggest competitions, and there are probably only a dozen of these clubs or less. It's extremely hard to get into this elite, almost invariably it takes a very wealthy owner willing and able to spend a really huge sums of money in order to give the squad such a quality boost that it is able to compete with the elite clubs.
We have seen this with the likes of Chelsea (backed by the Russian billionaire Roman Abramovitch), Manchester City (Sheikh Mansour from the United Arab Emirates), Paris St Germain (Qatar Investment Authority). These were rather ordinary clubs before they got their rich backer, which enabled a big spending spree on players, moving them into the elite.
Not even billionaire backers is a guarantee of a successful break into the club elite, as clubs like Monaco (backed by Russian billionaire Dmitry Rybolovlev), Anzi Makhachkala (backed by billionaire Suleyman Kerimov) have shown (at least so far).
A club's place amongst the elite is usually firm, but by no means guaranteed. The example of Manchester United (MANU) is telling. It's the biggest club in the biggest competition, which assures it of really substantial TV income, but a failure to invest in new players and the departure of emblematic manager Sir Alex Ferguson has led to a very shaky start to the season and the shares losing a substantial amount of their value.
Level playing field
Football isn't a level playing field, which is the most important element to realize when investing in football shares. There are pretty strong increasing return mechanism at work in favor of the biggest clubs in the biggest competitions:
- They are the most successful, thereby attracting the biggest income from ticket sales, merchandising, TV rights and billionaire backers
- This allows them to spend the most on player salaries and transfers, buying the best players from the rest.
- The competition is therefore likely to bleed their best players every year as they move to elite clubs, having to start all over.
The latter is an especially big handicap in team-sport. Not only is this a direct zero-sum game (the loss of their best player is the gain to the elite club), for the losing club it's much more difficult keep their players together for years necessary to ingrain the routines which are at the basis of success.
These economic realities have been greatly strengthened by the European Union insisting on players being treated the same as workers in any other industry. As a consequence, there are for instance no limits to the number of foreigners that clubs can field, which has resulted in many big clubs fielding almost no nationals.
Another shift in the power balance occurred in the mid 1990s with the so called Bosman ruling by the European Court of Justice, allowing players to move without any transfer fee at the end of their contract period. These developments have given the players great leverage, enabling them to force a transfer to a bigger club almost at will.
This is how the best players invariably end up at the biggest clubs in the biggest leagues. European football has become a cartel, sort off. This is more than a little ironic, considering that the EU interventions have taken place under the Single Market initiative, which supposedly has the aim of creating a 'level playing field' in European industry.
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Look at the table above and compare Real Madrid, generating 161M euro in TV rights and 139M euro in merchandising and sponsorship, to those of Ajax, with just 7M euro in TV rights and 32M in merchandising and sponsorship. This really isn't a level playing field.
The Bosman ruling happened just after Ajax Amsterdam (AEX:AJAX, NL0000018034) was crowned winner of the most prestigious European club competition (and arguably the most prestigious club competition in the world) in May 1995. Ajax was the first, and perhaps most prominent victim of the Bosman ruling as over a short period of years, all their star players (bar Jari Litmanen) from that 1995 winning team left, often without generating any transfer fee at all.
The 1995 Ajax success in itself was remarkable, as it was essentially achieved by a team of teenagers playing for a club (one of them, Clarence Seedorf, is still playing today at top level at Botafogo in Brazil!) that had a fraction of the financial possibilities of the big league clubs.
The Bosman arrest and the abolishing of restrictions on foreign players (which were present up to the mid 1990s in many European leagues) have conspired in a situation that it is near unthinkable that a club like Ajax, a four times winner, will ever win the biggest European club championship ever again.
Johan Cruyff revolution at Ajax
The rich history of Dutch football in general, and that of Ajax in particular can be ascribed almost entirely to the genius of one man, Johan Cruyff. Before Cruyff developed the ideas of total football that led Ajax to three successive European cup wins and astounded the world at the world cup for nations in 1974, Dutch football wasn't on the map at all and nobody had heard about Ajax.
Since, Dutch football in general, and that of Ajax in particular have a recognizable philosophy and style, its own DNA. And we think this is the essence of a club, and that can most easily be demonstrated with the example of Barcelona, the club where Cruyff could implement his philosophy in fullest.
What Cruyff did at Barcelona when he was a manager was:
- Create a recognizable style of play
- Create a youth academy which instills this style throughout all its teams
Before, Barcelona was an incidental champion, but after the implementation of this philosophy, Barça has become a brand name and the most successful and admired club in the world. According to Graham Hunter, author of a book on Barcelona's history:
Without him, there would be no Pep Guardiola, no Leo Messi, no Xavi and no Andres Iniesta. They would have been judged to be too slow, too small - table footballers. The genius from Amsterdam created the conditions which allowed these incredible players to be recognised and to become central to FC Barcelona's values. Without Cruyff, this story simply wouldn't exist. Even the latest, greatest, Barcelona era has his DNA running through it: the way they train and play, how they recruit players and staff and why entertainment falls only slightly behind victory in their list of priorities. [goal.com]
And after some 15 years in the wilderness, Cruyff has returned to Ajax, where he created similar conditions and once again imposed his philosophy on every aspect of the club. The results have been coming in. Ajax won three straight national titles, which enabled them to earn needed millions in the champions league
In that most prestigious of club championships, they have been unlucky twice not to proceed to the second round, but they have beaten clubs like AC Milan, Manchester City, and Barcelona (albeit without Messi), and played the recognizable style of football for which they became famous in the first place.
Given the limited size of the Dutch market, greatly limiting the revenues from TV rights, it's nevertheless quite unlikely that Ajax will join the likes of Real Madrid, Arsenal, Bayern Munich or Chelsea anytime soon. Why's that? Simply, because the lack of finance leads the club to bleed its best players every year, often at a really young age.
However, the Cruyff revolution has brought back some needed unity of perspective and purpose at the club. This has two advantages for shareholders:
- The club is more likely to qualify for the Championship League, which bring in extra revenues of $15B+
- The club is even more relying on its own famed youth development, not embarking on big signings.
The first has happened three years in a row now (while the last time was in 2005), and we haven't seen any big signings for quite some time. Ajax relying instead on their youth players, the likes of Veltman and Klaassen. Both these issues bring a structural surplus of funds, as Ajax can't prevent the selling of its best players (like Suarez and Eriksen).
That is, this new operating modus operandi should structurally improve finances. And indeed, that has been the case. From Bloomberg:
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Over the four year period, the company's net income moved from a net loss of 22.8M euros to a steadily increasing profit, lastly of 18.2M euros. The share price has reflected some of that, but in our view, not nearly all:
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Football is a risky business, and nothing is more fickle then results. Ajax could fail to qualify for next years Champions League, for instance, which would be a substantial financial blow. They have to finish in the top two in the Dutch league. First place means automatic qualification, second place gives them a shot via two qualification rounds.
We think that whilst obviously desirable, the club doesn't need to qualify every year, but only something like 3 out of 5 years, to remain profitable. Another risk would be coaches embarking on panic buying of players, but we think that under the new regime, this is much less likely than before.
We simply think that the market has yet to discount the Cruyff revolution fully, and significant upside remains in the shares. Lets not forget that Ajax is still a very recognizable brand name in international football, only the second club (after Real Madrid) to enter UEFA's Hall of Fame.