Ballpark valuation

Lifelong Liverpool fan Andrew Williams describes the care required when valuing an emotional asset

I have been a fan, as well as a season-ticket holder, of Liverpool Football Club for as long as I can remember. I grew up wearing my replica kit to bed.

My investment in Liverpool FC is one of love. I suspect it was the same for David Moores, the former chairman who sold the club to the American duo of Tom Hicks and George Gillett in February 2007.

However, for Hicks and Gillett, Liverpool is a business investment. Hicks is one of the foremost private equity investors in the United States. If he and Gillett accept the approach for their shares from DIC, they would make a profit of £150m in less than a year. Not a bad result.

But should they? All this begs the question - how do you value a football club?

For any rational business person, the answer is the same as any other business. First, look at trading multiples of similar companies. Take a metric that can be measured (like profit after tax) across a range of comparable public companies, quoted on a stock exchange, where their values are published. Divide these values by the common metrics to derive a consensus ratio (price / earnings). Finally, apply the ratio to the earnings of the target company to suggest a value.

Southampton, Tottenham, Birmingham and Celtic are all quoted companies.

Next, look at multiples derived from precedent transactions, applying the same formula again. Except, rather than deriving values of quoted companies (that have not been sold) from the stock exchange, take them from the closing values of companies bought and sold in recent M&A deals. Newcastle, West Ham, Manchester City, Aston Villa and Manchester United have all changed ownership in the last two years for various valuations from which multiples can be derived.

Both Comparable Companies and Precedent Transactions valuations are 'relative' methods of valuation. They depend on the assumption that companies operating in the same market should be valued in the same way.

A third, intellectually purer approach is a Discounted Cashflow valuation. This is based on two concepts: (1) the time value of money - the idea that cashflows arising in the future are worth less than cashflows arising earlier, because there is greater risk of their not materialising and a loss of opportunity from having to wait for them (2) cashflows are a more reliable guide to value than profits, as the latter can be manipulated by clever accounting.

DCF is a more complicated method of valuation. Here is the approach. First, project the cashflows of the company into the future. Then, discount them, lightly at first, then more substantially as time progresses, to apply the time value of money. Finally, add a terminal value for what will be left over afterwards.

The four primary sources of income for a football club are: (1) TV and broadcasting rights (2) gate and ticket receipts (3) sponsorship (4) merchandising. The major costs are player wages and the cost of ground. It is projections of these items of income and expenditure that will form the stream of future cashlows.

The next step is to apply a discount rate. It will be a high one, reflecting a high level of investor risk. After all, how can you predict future football results? Look what happened to Leeds Utd, who bet the financial future of their club hubristically on the basis of achieving a top four league finish.

Liverpool FC is the most successful club in the history of British football. They have won the league title a record 18 times and the European Cup a record five times. The Liverpool brand is recognised all over the world. A true fan might be willing to pay a premium for emotional reasons.

However, to a rational business person, its value is only what can be monetised, and no more.

But be careful - anyone who lets emotions cloud their business judgement could find themselves walking alone.