Paying the penalty
For football clubs, the credit crunch is nothing new. Football has been through tough times already due to the collapse of ITV Digital, overspending and a concentration of wealth at the top end of club football. In the last decade alone, an astonishing 30 professional football clubs entered into administration. It is a fairly safe prediction to say that there may well be another 30 in the next five years or so. As things stand, Gretna and Rotherham United, are the latest teams to go into administration.

Last week, Leeds United FC were unsuccessful in their appeal against the imposition of a 15 point deduction by reason of having gone into administration. The rationale for such a deduction is that football clubs were essentially exploiting the use of administration, followed by a Creditors' Voluntary Arrangement (CVA), to escape from their debts and continue on a cycle of financial mismanagement and failure. Essentially, well-run clubs were not benefiting from their prudence.

The immediate consequence of the points deduction for Leeds United is the fact that they remain in the play-offs for promotion. The ruling of the independent panel has been welcomed by a number of clubs, including Swansea, Carlisle, Doncaster and Nottingham Forest, who had all threatened legal action in the event that the points deduction was overturned. Leeds United have proposed an amendment to the relevant Football League regulations to allow clubs to better withstand market conditions.

The application of normal insolvency law principles to football clubs is a fascinating study and we look at certain key aspects of this subject below.

Background
The key difference between football club insolvencies and normal insolvencies is that the employees (that is the players) and other football creditors (so called "super creditors") are in practice paid in full as a priority to other creditors. Other super priority creditors include other football clubs and the team manager. Service providers such as the police and the emergency services are also paid in full in priority to other creditors. This is provided for under Football League rules and from a practical perspective is necessary to maintain the value of the club. In a normal insolvency situation, the employees of the relevant business are paid wages and salary in priority to other creditors if they are retained following 14 days after appointment of the administrator but otherwise are required to seek recovery of unpaid wages and redundancy pay from the Secretary of State and there is a cap on the amounts which can be recovered from this source. Each employee must then rank alongside unsecured creditors for the balance of the sums which they are due.

Administration
Administration is an insolvency proceeding designed to allow a business to continue to trade and survive in the long-term. Often the first real opportunity that creditors and third parties have of knowing the aims of the administration and the actions to be taken by the administrator is when they receive the report and statement of proposals prepared by the administrator and sent to creditors in advance of the creditors' meeting. This meeting should generally be held as soon as reasonably practicable after the company enters into administration and no later than 10 weeks after the administration date or such longer time as the court allows. In practice, this means that the creditors will have very little information on the conduct of the administration until they receive the statement of proposals. As with all administrations, the Administrator faces a difficult decision in determining whether certain assets are sold or retained in the hope that the business turns the corner.

In the context of football administrations, if the club is doing well then the Administrator will wish to retain the best players in the hope that the team can gain promotion, which in turn will lead to greater revenue for the business. On the other hand, if the club does not succeed then the players may well leave for nothing (if their contract expires) or for less than full value if the Administrator is forced into the quick sale of players to secure the continued existence of the club.

The blame game
So where does the buck stop? Well, in the case of Rotherham United, the Football League authorities decided that the Chairman of the club was responsible. He became the first football club director to be disqualified under the Football League's "fit and proper person test" due to being at the helm when the Company agreed a CVA in 2006 (basically non-football creditors took a hit and wrote-off large amounts of debt and the Revenue was paid in full) and also when the club entered into administration recently. Intriguingly, the Chairman has suggested that he may well challenge the ruling and as a matter of fact, could be a potential lifeline for the club in terms of future investment.

Lessons to be learned
The introduction of a 15 point deduction for teams entering into administration, has forced clubs to think twice before calling in the Administrators. Any business experiencing difficulties will be faced with the prospect of seeking further investment (and incurring more debt in many cases) to try and turn the corner, restructuring or entering into a form of insolvency. In certain cases, the precise nature of the insolvency proceedings will be determined by law. However, it is critical that creditors carefully scrutinise the terms of the insolvency practitioner's proposals or the terms of any CVA. Rotherham United were obliged under the original CVA to provide free tickets to the former owners, allow the former owners free hospitality and also pay annual rent to use the stadium.

A considerable constraint on football clubs is the fact that Administrators can only trade the main asset of the business, the players, in two predetermined transfer windows falling in January and the summer months. Additionally, the Football League has ruled that it will not allow clubs to enter into liquidation and essentially re-establish itself under a different guise, free of their historic debt. This is why football clubs tend to enter into administration followed by a CVA.

In terms of the consequences for individuals involved in running a club, we have already seen that there are football specific rules. One wider provision that applies across business is that under the Insolvency Act 1986, anybody who has been a director of a company which has gone into liquidation must follow a set procedure, which may involve notifying all creditors or obtaining the court's permission if he wants to be a director of a new company with a similar name within five years. Trading without obtaining that permission is a criminal offence and anyone prosecuted and found guilty of it is liable to a fine or imprisonment.

Conclusion
The experience of football in the last decade shows that market conditions such as those we are entering into just now, mean that insolvency proceedings are an unavoidable reality, but if managed correctly they can allow the rescue culture to be more than a political aspiration. Despite the recent incidence of administrations, only four football clubs have in fact left the football league due to financial failure. That said, it is worth bearing in mind that the primary function of an Administrator is to obtain the best deal for creditors and he is under no obligation to keep the club in business save to the extent that this will achieve the objective of the administration.

13 May 2008

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