Now more than ever, there is a growing sentiment among football fans that the sport is all about money. Concerns over foreign ownership, re-branding for commercialization, and lack of transparency begs the question – do we have a case of misaligned incentives between fans and ownership?

Arsenal fans know this feeling very well. With consistent top-four finishes in the Premier League for several years, Arsenal’s board have gained a reputation as unambitious title-challengers and too satisfied with stable financial performance.

That being said, let’s take a closer look at Arsenal’s ownership and financial statements from their 2017 Annual Report.

Who owns Arsenal Football Club?

Arsenal Football Club is owned by Arsenal Holding Plc – a parent legal entity that owns the club’s football and commercial activities. Interestingly, the holding company is traded on an exchange – but not a public exchange. They are listed on a specialized, infrequently used platform known as NEX Exchange.

In addition, they own just about everything else associated with the Arsenal brand name:

As for the top dogs at the club itself:

Sir Chips Keswick – Chairman, Chief Executive, and Director of Arsenal Holdings Plc

– Chairman, Chief Executive, and Director of Arsenal Holdings Plc Ivan Gazidis – CEO of Arsenal Football Club, Board Member

– CEO of Arsenal Football Club, Board Member Ken Friar OBE – Director, Board Member

– Director, Board Member Lord Harris of Peckham – Director, Board Member

– Director, Board Member Stan Kroenke – Director, Board Member, Majority Shareholder (41,743 shares or 67.09%)

– Director, Board Member, Majority Shareholder (41,743 shares or 67.09%) Alisher Burkhanovich Usmanov – Majority Shareholder (18,695 shares or 30.04%)

– Majority Shareholder (18,695 shares or 30.04%) Josh Kroenke – Director, Board Member

For 2017, it appears the Directors’ Emoluments include a base £25,000 “fee” which the club pays to the board members. Gazidis has a significantly higher salary/fee and bonus compared to the rest – presumably because he runs the club as CEO as well as being on the board.

How is success determined at Arsenal?

So, what do these gentlemen do at meetings? As stated in their annual report, the board is responsible for road-mapping Arsenal’s long-term strategy which is used to determine the success of the club.

“The Board’s long term strategy is to continue to develop Arsenal Football Club as a leading football club on both the domestic and global stage” – Annual Report (2017)

Specifically, the board has outlined what they call a “self-sustaining” business model:

Their strategy is quite simple: invest money in players to win silverware, which would elevate the Arsenal brand worldwide with fans, thus resulting in increased revenue. Then, re-invest the revenue back in the team – rise & repeat.

This strategy could be applied to any sports team in the world, which makes me wonder how the board quantifies each section of the “Virtuous Circle”. There could be external factors which can impact each section. For example, “increased revenue” (as we’ll see later) can come from outside factors such as TV rights money which has nothing to do with the team’s performance.

Additionally, by analyzing this strategy, we can see why Wenger is still manager – he managed to bring in more and more revenue for the club with consistent top-4 finishes and carefully controlled wage/transfer spend. Perhaps each of the four sections in their virtuous circle holds a different weight, with “increased revenue” being the most important for the board during Wenger’s tenure.

Income Statement: Revenues, Expenses, Profit

Speaking of revenue – how much exactly does Arsenal make in a given year?

Let’s take a look at revenue in a little bit more detail. Arsenal reported a total revenue of £424 million following the 2016/17 season:

Revenue from broadcasting was almost half of all revenue. We can see an increase of £58 million in broadcasting revenue year-over-year – this is primarily driven by the new Premier League TV rights deal

Commercial revenue increased from 2016, driven by secondary partnerships (ex. Octopus Energy, Gatorade, Universal Pictures, PUMA, etc)

Player trading revenue was higher in 2017, driven by the sale of Serge Gnarby as well as loan fees for Wilshire, Chambers, Campbell, and Szczesny

Match-day, retail, and property dev revenue were essentially flat year-over-year

Revenue for Arsenal looks healthy, but it means nothing without expenses:

Arsenal reported total operating expenses of £372 million. Lets dissect what is reported above:

In the corporate finance world, “Goodwill” is an intangible asset that sits on the balance sheet. It’s the brand name, reputation, and customer perception that comes with acquisitions from the holding company’s subsidiaries. This is then amortized on the income statement over the assets useful life, in this case 5 years

Amortization of player registration is related to incoming transfers. It is the mechanism by which the cost of player acquisitions is expensed over the term of a player’s contract. In 2017, the £77 million charge is related to the purchase of Granit Xhaka, Shkodran Mustafi, and Lucas Perez

Staff costs in 2017 were for 695 total employees: £176 million for wages & salaries, £21 million for social security, and £2 million for pension costs

“Other operating charges” include various overhead costs such as logistics planning for pre-season matches, security, and donations of profits

Player wages are a part of the £199 million “Staff Costs” reported in 2017. In football finance, “total wage bill to football revenue” ratio is often used to judge the efficiency of costs. Arsenal have reported a ratio of 47.2% and year-over-year increase in staff costs of only £4 million – which is pretty good considering the addition of Xhaka, Mustafi and Perez last season.

The marginal increase in wage costs given the signings is impressive, but it’s also worth keeping in mind there were no Champions League qualification bonuses paid out after the 2017 season.

“The year to year upward change is depressed by the fact that there was no Champions League qualification trigger event in 2016/17 whereas the prior year included a Champions League qualification bonus for applicable First Team players” – Stuart Wisely, CFO, Arsenal FC

So, where does that leave us for profit? Putting it all together, we reach a final pre-tax profit in 2017 of £44.6 million – up significantly compared to a £2.9 million profit in 2016.

As we can see, the increase in revenue from 2016 to 2017 has had a huge impact on overall profit for Arsenal. The new Premier League TV deal did wonders for EPL clubs, allowing teams to use that extra revenue as they see fit – whether it be stadium renovations, player transfers, or bolstering cash in hand.

Cash is King

In corporate finance, it’s all about cash. Operating profits matter, but cash is king. Cash flow is important because it shows the financial health of a company today. Corporations can play around with future revenue recognition rules and deferred costs to fudge their profit margins, but it’s very hard to lie about how much cash they have on hand.

For Arsenal, cash in hand reported as of 31st May, 2017 was £104 million, with an additional £76 million of cash-equivalents – totaling to £180 million.

Arsenal reported a negative cash flow of (£46) million from 2016 to 2017 ending balances, most of which is related to the summer signings previously mentioned and other future investments (which the annual report did not mention in detail).

With over £180 million of cash and low debt, Arsenal were in a healthy cash position at the end of the 2016/17 season. This allowed Arsenal to spend big in following transfer windows, securing the signings of top targets Alexandre Lacazette and Pierre-Emerick Aubameyang. It will be interesting to see how their cash position looks following the 2017/18 season.

Lastly, perhaps there is a financial reason why Wenger was still in charge of the club following Arsenal’s first non-top four finish in ages. In the annual report, Arsenal CFO Stuart Wisely mentions that their financials includes a pre-planned reserve for failing to qualify for Champions League football:

“The Club has previously fully self-insured against a season’s participation in the UEFA Europa League within its cash reserves” – Stuart Wisely, CFO of Arsenal FC

The quote refers to a season of cash reserve – not multiple seasons. It will be interesting to see what impact not finishing in the top four for a 2nd consecutive season will have on the cash position of the club.

The Road Ahead

Arsenal are clearly in good financial standing as of now – however, the road ahead poses a lot of risks. Part of the board’s responsibility is to identify potential risks the club faces in the future. In their latest annual report, the board has identified several risks:

Performance and popularity of the first team Recruitment and retention of key employees Rules and regulations of governing bodies Negotiations and pricing of broadcast contracts Renewal of key commercial partnerships

Firstly, the performance and popularity of the first team is the most important. It is the pillar of their “virtuous circle” strategy, as poor performance leads to poor fan engagement, and eventually decreased revenue to feed the circle.

Next, risks #3 and #4 are important since those decisions are not in the hands of the club (i.e. systematic risks that impact the entire league, not just the club). These risks relate to financial fairplay rules, income distribution, and TV rights deals that are all controlled by the league – not individual clubs.

Risk #5 relates to their sponsorship with Emirates as the naming rights deal and shirt sponsorship are set to expire in 2028 and 2019 respectively. Poor on-field performance puts those renewals at risk – and this is something the board is actively monitoring.

Lastly, the annual report mentions that the board has concerns about Brexit.

“The most significant risk to the Group would appear to be a downturn to the UK or wider economy impacting ticket revenues and / or the value of broadcasting and / or sponsorship rights” – Annual Report (2017)

Specifically, they are concerned about the decreasing value of the Sterling against the Euro – leading to increased costs of player acquisitions from the EU and other FX risks.

Conclusion

As an Arsenal fan and day-time financial analyst, I’ve always wondered what their finances looked like. The most interesting takeaway for me is how the board judges the success of the club (the virtuous circle). It helps explain why Wenger has stayed at the club for so long – consistently providing profits and cash growth without damaging the club’s sponsorship & commercial relations.

However, recent poor finishes and an angry fan base have put the board’s strategy in peril. The strategy only works if the first team has on-field success, or else the circle breaks. Increase in revenue seemed to be the most important factor over the past decade, but perhaps now fan engagement will become paramount.

Looking at the 2017/18 season so far, we can see the strategy starting to fall apart. Increased revenue from the TV rights deal has been invested in the team (Lacazette, Aubameyang, Ozil contract) but on-field performance seems worse than last season. This has caused fan base engagement to implode with constant calls for Wenger & board members to resign.

Arsenal’s “Virtuous Circle” strategy seems to have turned into a “Vicious Circle” strategy.

TL;DR

Arsenal reported revenue following 2016/17 season of £424 million, up £58 million from last year driven by the new Premier League TV rights deal

Arsenal reported expenses of £372 million, up slightly from 2016 driven by player amortization of new signings Xhaka, Mustafi, Perez

Arsenal had £180 million of cash at the end of the season

Board has identified popularity of first team, sponsorship renewals, and Brexit as possible risks ahead

Based on the “Virtuous Circle” strategy outlined by the board itself, Arsenal’s current 17/18 season looks to be a failure

Link to download full 68-page Annual Report: https://www.arsenal.com/the-club/corporate-info/arsenal-holdings-financial-results