Insure football clubs against the threat of insolvency

The expulsion of Bury FC from the English Football League is a bitter pill for the fans of a club that was founded in 1885 and has played in the league since 1894. A similar fate faced Bolton Wanderers which this week was given a 14-day deadline to solve the same problem Bury had — to show that it is able to meet its financial commitments, not least among them player wages.

Many people blame incompetence and dodgy business practice for these crises, but my research on football club insolvencies in England, France and Germany shows that its causes lie elsewhere. Insolvency has been a problem since the earliest days of professional football. In 1893, Middlesbrough Ironopolis reached the quarter-finals of the FA Cup only to find itself wound up in 1894. Financial failures occurred regularly during the Depression, and over the past 40 years, there have been about 70 cases of legal proceedings for insolvency in the top four English divisions.

It is a popular misconception that such things are rare in the French and German league systems, where clubs have long been subject to financial regulation. In fact, insolvency is common in those leagues as well. Between 1992 and 2014, there were 45 insolvencies in the top three tiers in England, 40 in France and 30 in Germany. In the top five tiers, there were 97 in England and 106 in Germany over the same period. Clearly, there is a lot of insolvency in football.

The most likely cause is not incompetence or malice, though these traits are not in short supply — rather, it is the intersection of bad luck and the promotion and relegation system. Generally, the finances of professional football clubs are highly predictable. Achieving a better league performance requires increased spending on players, and revenues increase with league performance. Relegation to a lower division is a financial disaster: revenues fall quickly, while salary costs, tied to player contracts, can only adjust slowly. Clubs that enter insolvency have, on average, dropped 15 league ranking places over the previous five seasons. That is typically enough to be relegated — and indeed, Bolton, who played in the Premier League in 2012, were relegated to the third tier in April this year.

All these relationships can be estimated using regression analysis, a standard statistical method. In any estimation, there is a systematic component, that which can be explained, and that which we cannot explain: the residual. Residuals are by definition random.

A club will benefit from a positive residual in some seasons — perhaps an ageing striker has an unexpected goalscoring streak — and suffer from a negative residual in others — the striker breaks his leg. Relegation is, more often than not, a product of persistent negative residuals: bad luck.

The good news is that the clubs usually survive. All English clubs in the top four tiers that have gone into insolvency since 1980s have been resurrected in one form or another. Nonetheless, it might be easier on everybody involved if we could avoid this costly and upsetting process altogether. But how?

Abolishing promotion and relegation is a non-starter, since fans consider it to be one of the most attractive aspects of the game. European football’s governing body, Uefa, introduced a regulatory system called financial fair play in 2011. This requires clubs to limit spending to their own resources, which, Uefa had hoped, would prevent further insolvencies. But precisely because the system requires each club to stand on its own two feet financially, it is not good for dealing with the kinds of risk created by promotion and relegation.

Once we accept that insolvency is predominantly a product of bad luck rather than mismanagement, the solution becomes obvious. After all, we already know how to guard against bad luck in other walks of life: by buying insurance. If professional football clubs were required to pay just half a per cent of revenues into an insurance fund, they would generate about £30m a year in England, more than enough to finance the restructuring of Bury and Bolton.

Whenever insurance arises as a possible solution to a problem of risk, sceptics raise the spectre of moral hazard. Wouldn’t insurance lead clubs to overspend deliberately, knowing they will be bailed out? Maybe, but this a poor excuse for not having any insurance at all. Insurance policies need to be designed with safeguards that militate against cheating. An elegant way to address this concern is to appoint an independent body to oversee the restructuring, before handing over control to a registered supporter trust.

Over the past 30 years, these trusts have shown significant commitment to preserving the clubs they love, particularly when hit by insolvency. Rather than looking for scapegoats every time disaster strikes, we should use our collective strength to draw its sting.

The writer is co-author of ‘Soccernomics’ and a professor at the University of Michigan