From a pure footballing perspective, the need for Everton to be active in this transfer window has never been more apparent. We finish the 2019/20 season with a desperately unbalanced, uncompetitive squad devoid of direction, leadership and the numerous qualities required of a competitive football club.

Every poor decision, and execution thereof, every mistake in recruitment and every failing of our players have drawn to a crescendo at the worst possible time. A time when the club is performing badly financially and at a time when the finances of the football industry look their most vulnerable for decades as a result of the coronavirus.

The Premier League’s profit and sustainability rules permit losses of up to £105 million over three years (covered by the shareholders and with exclusions for ladies football, community expenditure and costs relating to fixed assets (stadium)). Everton’s P&L reads +£30 million, – £13 million, -£112 million for the last three years, projected -£60 million for this year (19/20) and -£58 million for 20/21 subject to player trading.

So that’s the background to Brands and Ancelotti’s task of turning around the good ship Everton, seemingly destined for a considerable period becalmed in the doldrums.

I have explained on many occasions both on this site and the numerous podcasts on the topic that Everton are beset by cash flow and working capital issues. So let’s work through the possible sources of cash:

Capital:

It is possible for Moshiri, should he have the resources or should he wish to do so, to pump more money into the club. To the last accounts (31 June 2019) he has injected £350 million and there’s a fair case for assuming he put more in during 2019/20. The downside of that is that given football is a regulated business (Premier League profit and sustainability rules and UEFA financial fair play rules) investing capital for the purpose of paying transfer fees and paying wages can only be done as long as the club is profitable. However, Everton are loss making, have been for the last two completed & published financial years, will be for 2019/20 and for 2020/21. The regulations limit those losses and de facto limit the use of capital unless there’s an increase in income or the losses are covered by player trading. As we will see, the ability to do either appears limited.

Debt

It is possible to fund capital purchases (players) through debt. However, for Everton, this is problematic given that we are already using debt facilities to meet our negative cash flow arising from ordinary operations. Compounded by the reduced income arising from Covid-19 shutdown, empty stadia, tv rights rebates and reduced commercial income, it’s difficult to see lenders (even those who appear more relaxed such as Rights and Media Funding) playing ball with that game.

Increased sponsorship/commercial income

 Increasing income is the clear optimal solution. Firstly, it helps reduces losses, secondly it assists cash flow, and thirdly, with the right partner and contract might be securitised (ie we receive a significant sum upfront for a multi-year deal).

The difficulty is finding new commercial partners at a time when most major corporates are reducing advertising/marketing/promotional budgets. If they’re not reducing those budgets they will be allocating existing resources to existing relationships.

Therefore it is extremely unlikely that significant new commercial partners will be sourced. Theoretically, there is the possibility of further support from USM. The only major remaining sponsorship open currently would be naming rights attached to Goodison Park. The limitation is how much are they worth on a fair value market (FVM) test. Established industry research suggests FVM of around £3-3.5 million per annum at best. Helpful, but not a significant sum in the wider context.

Player trading

The final option (and one that Everton have relied upon heavily in recent years) is player trading. Selling a player above his book value provides three major benefits:

• A player trading profit which goes straight to the bottom line
• A reduction in this year’s wage bill
• A reduction in this year’s amortisation bill (only applicable for players we purchased for a fee)

The obvious challenges for Everton are (i) with the financial damage to the game caused by Covid-19, the market is clearly a buyers market, thereby suppressing player values (ii) many of Everton’s players are enjoying wages above their market value, have had a poor season or have not featured at all for Everton, and (iii) it is difficult to simultaneously strengthen the squad and sell your (best) most marketable/valuable players.

So, what do transfers look like from an accounting point of view? (Not boring it will help make sense of the financial consequences of players being bought and sold).

Remember the key here is how much cost do we add to the profit and loss account when buying a player, and how much cost do we take off the profit and loss account when selling.

Transfer options and the financial implications:

Buying a player

Let’s assume we buy a player for a transfer fee of £20 million (including agents fees etc).

The player signs a 5 year contract for £75,000 a week.

What does that do to our profit and loss account?

The £20 million purchase fee is spread over the length of the contract, so over a 5 year period (assuming the player stays) we add £4 million to the amortisation costs on the profit and loss account each year.

The player is on £75,000 a week. Ignoring any bonuses which would also be added to the cost, the wage bill increases by £3.9 million a year (£75k x 52).

Therefore the annual cost of buying this player is £7.9 million a year – our profit reduces by, or our losses increase by this amount each year for 5 years.

The payment terms, for example paying in 3 instalments, do not affect the profit and loss account, so do not form part of profit and sustainability regulations nor financial fair play.

Selling a player

When we sell a player, the impact on the profit and loss account is as follows:

Let’s say we sell a player for £15 million. He joined us 3 years ago for £30 million and has a 5 year contract worth £100,000 a week.

Immediately:

• Our wages fall by £100,000 a week – £5.2 million a year
• Our amortisation costs fall by £6 million this year (£30 million divided by 5)
• The profit and loss account shows a £3 million profit because his book value was £12 million (£30 million – (3×30/5) million) and we received £15 million.

When the accounts are presented next year this transaction will have produced a £3 million trading profit, a reduction in amortisation of £6 million and a reduction in wages of £5.2 million.

Thus, for this year the profit and loss account would benefit by £14.2 million.

If we sold the same player for £9 million then it would look like this:

• Our wages fall by £100,000 a week – £5.2 million a year
• Our amortisation costs fall by £6 million this year (£30 million divided by 5)
• The profit and loss account shows a £3 million loss because his book value was £12 million (£30 million – £(3×30/5) million) and we only received £9 million.

Thus, for this year the profit and loss account would benefit by £8.2 million.

This demonstrates how it is possible to sell a player for less than book value but still benefit the profit and loss account.

Loans

Bringing a player in on loan

There are two elements to the finances of a loan (i) a loan fee, and (ii) how much of the player’s wages do the borrowing club pay?

So we might loan a player for a year. In profit and loss terms the loan fee and the element of the players wages we pay are treated as direct costs against the P&L. So a player with a loan fee of £2 million and we pay £50,000 per week of his wages would cost us £4.6 million for a 52 week loan.

Putting a player out on loan

Let’s put a player out on loan for a year. We bought him for £30 million 2 years ago on a 5 year contract at £100,000 a week.

The club receiving the player has agreed to pay a £1 million loan fee and pay £40,000 a week towards his wages.

So, the player costs us £6 million in amortisation charges and £5.2 million in wages – total annual cost to the P&L account £11.2 million.

However the receiving club is contributing £1 million in fees and paying £2.08 million in wages.

Therefore the costs to the P&L account reduce by £3.08 million from £11.2 million to £8.12 million.

Player swaps

In many economies when cash is short, bartering takes place. Bartering is the exchange of goods and services without using money. It is possible in football when two clubs decide to swap players.

If the players are of equal value then no cash changes hands (apart from any taxes or levies due). If one player is more valuable than the other the balance can be made up with cash.

The accounting treatment is the same as mentioned above in terms of buying and selling.

There is one opportunity though for clubs to barter and that is by inflating the value of the deal. Increasing the value of each player by a similar amount allows both clubs to temporarily (ie this accounting year) inflate their profits but the downside is it increases amortisation costs over the long term.

In truth, it is a rather desperate measure – for example the inflated Arthur/Pjanic player swap between Barcelona & Juventus helps satisfy some of the profitability issues both clubs have, but does nothing to solve the structural issues both clubs have that forced them down this route in the first instance.

So where does that leave us?

Here’s a summary of the main players in our squad, what they cost and what their current book value is (when considering selling).

*multiple sources

I have said on many occasions we find ourselves in a difficult position both from a cash flow point of view (we’re spending far more cash than we are earning and we have significant debts based on my previous cash flow analysis).

Our profit and loss situation is such that we cannot add to our costs without (i) significantly increasing our revenues (see above) (ii)significantly reducing our costs and generating player trading profits.

The need for changes in the squad is clear and obvious. How it is achieved will be down to the skills of Brands in selling players in particular, plus his and Ancelotti’s ability to use a buyers’ market to find bargains. Despite the messages in the media, it remains my belief we will trade our way through this window – the outgoings will be as important financially as the incoming. We will not, however, be seeking to add to the overall cost of the squad – that must reduce even further despite the reductions achieved already this window.