Insolvency and English Football

Stefan has written his most recent research paper about insolvency and English football clubs. The link to the full paper is below. Between 1982 and 2010, there were 67 cases of insolvency affecting clubs in the top four English divisions. The paper considers two possible explanations for this phenomenon:

(i) irrational exuberance
(ii) negative shocks

Irrational exuberance here is taken to mean excessive spending which manifests itself in short term success (higher placings in the league) only to be followed by decline. Negative shocks refer to unexpected events (e.g. player injuries) which undermine a rational plan of action. The evidence shows, perhaps surprising, that there is little evidence of irrational exuberance. Before becoming insolvent, most clubs appear to have been in decline for a period of several years. Negative shocks, however, are significantly correlated with subsequent financial collapse (insolvency).

This is an important issue in the light of UEFA’s Financial Fair Play, and similar schemes such as the one announced by the Football League Championship. These aim to “introduce more discipline and rationality in club football finances” through regulation. One way this could be achieved would be if irrational exuberance caused financial failure and regulation could restrain such exuberance.

In reality, however, the bigger problem seems to be negative shocks and it is much harder to see how the regulators can control them. This is similar to the problems that governments face when trying to keep the economy on course. A large fraction of economic failures are triggered by recessions, which themselves are due to negative shocks (such as banking failures or oil price increases). If government could regulate away negative shocks, we would all be a lot better off. It remains to be seen if the football authorities can shield football clubs from negative shocks. Do not bet on it.

• Research Paper on Insolvency and English Football (PDF download)

  1. Dave Boyle Reply

    Hmm. I think the paper draws a false opposition between poor decisions making by clubs and the external shocks they face. Its like describing car crashes as having two causes – road conditions or bad driving. One on its own can cause a crash, but most crashes involve both. Better driving will mitigate the impact of poor road conditions just as better conditions will mitigate bad driving.

    The point of regulatory interventions to tackle bad driving are that if we can’t control the road conditions, we can make sure we’re traveling at speeds which enable us to safely avoid road hazards, to continue the metaphor, not that hazards disappear.

    If you ask the wrong question, you’ll end up with the wrong answer.

  2. Dave Boyle Reply

    Or to use a live example right now – Hearts will no doubt cite the lack of Rangers in the SPL as a proximate cause of their troubles, and if one looks at the income gap between what they receive in TV income and what they might have received in an alternative reality in which Rangers didn’t implode, then its clearly a factor.

    But hearts have been run badly by the current owner, who himself was brought in at the last minute due to reaction against plans to leave their ground, which were deemed necessary to repay debts by the old owners. Hearts have been exuberant for 15 years, but, like a person who trips whilst walking fast, they can keep moving forward for some time, but their centre of gravity is getting lower and lower, and their ability to control their direction progressively reduces until they fall flat on their face.

  3. Stefan Szymanski Reply

    Dave, Sorry for not replying earlier- snafu on comments. Nice analogy. the big question is what are we to take as evidence of bad driving? My point was that in the financial data there is no evidence of bad driving before the crash. All you can see after the crash are the skid marks on the road.

    Remember Enron- there was little evidence in their accounting data that there were any problems before the crash occurred. OK, you may say, that’s due to corrupt practices and people “in the know” recognized there was a problem.

    FFP is about using “objective criteria” to identify financial distress, I’m worried that the financial data won’t tell you that much, and what evidence there is can be attributed as much to “bad luck” as bad driving. So should the regulators use their “judgment” to decide when a case is critical? That risks accusations of being arbitrary- and plenty of court cases.

  4. Dave Boyle Reply

    I’m surprised by that, as in 10 years at SD, what was clear was that – ITV Digital level shocks aside – the insolvencies we worked on were all predicted by the supporters close to the club. It might be things datasets are hard to capture, such as cash flow crises manifested as late supplier payments, or a degree of belt-tightening which sees the community department start to have to pay for its kit whereas once it was free etc.

    The year-end figures will show good driving, but anyone in the car will sense the driver is having to do more correcting and the ride is getting bumpy.

    (I’d agree on the subjectivity and objectivity point; I’ve never been particularly convinced in the argument that there is either objective process or arbitrary fiat and that it isn’t possible to construct something in between these poles. In the absence of it, you end up with long lists of rules which invite gaming, but that’s not a reason to not have rules, just rethink how you regulate. Take tax – you can have a detailed code which expensive lawyers can find loopholes in, or use the approach of tax justice campaigners who argue for a general anti-avoidance principle.

    I think part of this is part of a wider crisis of authority which correlates with the rise of neo-liberal ethics; in this worldview, there is the law, and everything else is permitted. Only markets can be seen as sovereign, which renders al other judgements flawed. Because shareholder value is a elevated to moral injunction, trust evaporates between actors, requiring contracts to take the place of trust, which engenders a legalistic mindset which assesses risk everywhere where objective criteria aren’t to be found, and so looks to drive out judgement and trust wherever it can as a business risk to be militated.

    But I’ll stop there as I expect your readers didn’t come here for this kind of chat!

    • Stefan Szymanski Reply

      One possibility is that I’m not using the correct indicators in the data – I used measures such as profitability, the ratio of assets to liabilities and indebtedness to try to predict insolvency- none of them worked. I think this is a case of “confirmation bias” at work- when a club becomes insolvent we all think it was obvious- too much debt, too much spending on players, etc, but in reality the financial ratios of the clubs that do not fall into insolvency look just as bad. It’s bad luck that pushes you over edge (or into the central reservation, to continue the driving analogy).

      And I think the ethics issue is relevant. I’ve taught in business schools for 25 years, every time there’s a corruption scandal there is pressure to create an “ethics” course, as if ethical behaviour is another trick to learn like accounting or human resource management. Right and wrong is something you have to learn when you’re growing up, and I fear that if you don’t know the difference by the time you’re 25 you never will. But I also don’t think we should legislate ethical behaviour- that just leads to hypocrisy.

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