“Most people get interested in stocks when everyone else is. The time to get interested is when no one else is.” ~ Warren Buffett
This quote from Warren Buffet perfectly illustrates how we view the current investment opportunity in European football.
Professionalization of the sector is advancing at a rapid rate. Financial controls imposed by the various governing bodies have become increasingly strict. Managers of major clubs have started to speak in terms of profitability. Leading executives from throughout the business world have started to fill the top posts in all of the principal leagues. In our opinion, in five to ten years this change will be readily apparent, and we would not be surprised to see European clubs listed on all of the major stock exchanges.
Why is no one investing?
As Buffett said, the opportunity to invest in the sector is now when no one else is. The concept of “availability bias” suggests that we, as humans, tend to assign a greater probability that an event will occur when we are able to recall it more easily. In the world of football, the scandals and spotty track record of management greatly eclipse the stories of financial success.
For many investors, it is difficult to leave behind these prejudices, and very few institutional investors are interested in analyzing the change underway in the sector. Intelligent people have a hard time leaving aside the conceptions that they have formed about the quality of professional football management over decades. Even still, many who actually do the analysis find it difficult to overcome these very biases among their bosses or clients, creating yet another barrier to action.
Analyzing the opportunity clearly and rationally, European football is an excellent product. Its importance to the consumer is extremely high and its economic cost is relatively low. Responsible financial management is perfectly compatible with the good results on the football pitch that die-hard fans demand, and there are plenty of examples that prove it. Further, if we look at current valuations, investor biases have created clear market inefficiencies and a compelling value opportunity.
The average value of a major American sports franchise, according to Forbes, is around $3 billion. On the other hand, the average value of a European football club is closer to $300 million, a mere one tenth of their value. However, the difference in value of the global television rights is significantly less – closer to three times – and this gap has narrowed considerably in recent years, a trend we expect to continue. Further, European football clubs, unlike American sports franchises, have the ability to generate income through the player transfer market, which can result in many millions of dollars in net receipts each year for the teams that invest in human capital wisely.
So how do we take advantage of this investment opportunity in the public equity markets?
Like in any other sector, it is absolutely crucial to identify and back good management teams and to take a long-term perspective. In the short term, irrationality prevails, with traders acting akin to sports bettors, while in the long-term the fundamentals win out. The market’s approach to football is, unsurprisingly, no different.
Having applied this lens to the market landscape, we have identified two truly interesting opportunities among the listed universe of European football clubs – Ajax of Amsterdam and Olympique of Lyon. The following is a summary of our investment thesis for these two companies.
Ajax of Amsterdam is the most-decorated club in Holland and a four-time winner of the European Cup. It is very well managed on and off the pitch and has maintained a healthy balance sheet for many years. How much does it cost to buy Ajax of Amsterdam?
Let’s take a look at the surprising math.
The current market capitalization of the Dutch club is €310 million. However, as of December 31st, 2018, the club had net cash of €31 million and a 13% ownership of its stadium, which combined are worth around €80 million.
Additionally, Ajax has recently sold players in the summer exchange market, generating proceeds exceeding €110 million net of estimated taxes and commissions. Further, the club has an additional “liquid asset” in the form of Donny van de Beek, in which various European clubs have shown great interest. According to media reports, these potential buyers are willing to pay around €45 million, again net of taxes and commissions.
Finally, the year-end cash does not include pending payments for league prizes and television rights from the most recent edition of the UEFA Champions League, nor expected fees for the club’s participation in the European competition this season. Combined, these amounts total another €75 million after-tax according to our estimates.
In total, the math for Ajax looks like the following: €310 million market capitalization, less €80 million net cash and stadium value, less €110 in net proceeds from the summer transfer market, less €45 million in likely proceeds from a deal involving Donny van de Beek, less €75 million in net proceeds from the Champions League, leaving us with €0.
At current prices we are effectively paying nothing for a well-managed, unique global asset. Zero euros for a premiere European football club that generates positive cash flow on a regular basis and has the capacity to continue generating income in the transfer market based on the market value of its current roster, which is valued around €312 million (excluding van de Beek) by the website Transfermarket.
The case of Olympique de Lyon is similarly surprising.
The French club invested €410 million to develop a new multi-functional stadium in 2016, of which it maintains a 100% ownership. The club has the ability to use these facilities effectively every day of the year, including for major concerts, conferences, exhibitions, rugby matches, and corporate events. All of these cash flows have little correlation with the football team that takes the field.
Combining the cash generated from football ticket sales, where attendance is also quite stable, with these event-related revenues, we view the stadium as a high-quality asset with €50 million in high-margin annual revenues. Looked at it differently, the real estate business of Olympique de Lyon generates a gross yield of more than 12% annually from a long-term “tenant” with stable, recurring revenues and inflation protection. In the current environment of historically low interest rates, it is hard to find many assets with a similarly attractive profile.
It’s entirely possible that there are large investors looking for a stable yield would be interested in buying all or part of this stadium. It is a highly attractive asset in the second most-visited city in France with a tenant who almost certainly will not relocate in the coming decades. If a transaction were to occur, it is highly likely that the implied yield would be significantly below the 12% we referenced. If we assume that the market accepted a gross yield of 8%, which still could be high, it would imply a valuation of the stadium of roughly €625 million. For reference, the market capitalization of Olympique de Lyon, including dilution from its convertible bonds, is currently less than €400 million. Again, we are able to invest in a leading European football club effectively for free.
“Our estimates of fair value offer us a risk / reward that is difficult to match for most companies”
In the two cases that we just presented our estimates of fair value offer us a risk / reward that is difficult to match for most companies, including many of those currently within our portfolio. Additionally, exposure to European football provides a degree of stability and diversification to the overall portfolio given the non-correlated and acyclical nature of professional sports. These two companies operate in an industry that has consistently grown for over 150 years. Factors such as growing global interest in European football, technology, media distribution, and the increasing popularity of football among women, as both players and fans, are likely to drive continued industry growth well into the future.
These opportunities, as Mr. Buffett said, will be greatest when no one else is paying attention.
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The views expressed in these blog posts are the opinions of their authors, and do not necessarily reflect those of the Centre. The intention of this blog is provide a platform for current and past HBA, MBA and Executive program value investing students to discuss value investing and related topics.
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