New financial rules for football in England could lead to short-term increase in insolvencies of clubs, expert says

Earlier this week clubs in the Championship voted to introduce new regulations on football finances which will govern limits to club spending. By the 2015/16 season Championship clubs could face sanctions if they incur more than £2 million in losses through the campaign after taking into account investments in certain areas such as youth development.

The rules also introduce a restriction on the level of permissible "shareholder equity investment" during a season.

Punishment for failing to adhere to the rules will result in League One and Two clubs having restrictions placed on their transfer activity, whilst clubs higher up in the Championship face sanctions that will "vary" depending on whether they are operating in the division, have been promoted to the Premier League or relegated into League One, according to the proposed Football League regulations. Clubs promoted from the Championship could also face a form of "tax" on any money they spent beyond the limits that helped them achieve that success.

Sports law expert Trevor Watkins of Pinsent Masons, the law firm behind Out-Law.com, said that the imposition of heavy fines on clubs that fail to keep their finances in order will exacerbate the problems those clubs face and will cause some struggling clubs to go into administration.

"Imposing a financial penalty in a situation in which clubs are suffering financial hardship would have the potential of only compounding the problems they are suffering, because it is precisely those clubs that would be unable to meet these penalties. Alternatively the price of attempting to achieve success may be worth paying for those who can afford it and the punishment will not then fit the crime," Watkins said.

"Fines are likely to be levied by football authorities withholding revenues that clubs may be due from central rights as a way of punishing overspending. Despite the transition period, such penalties could see an increasing number of insolvencies being experienced by clubs, particularly in the next few years when the rules are newly enforced. If the aim is to curb excessive behaviour then this may begin to do it but arguably will still not create a level playing field. I believe it needs to be accompanied by a revamped insolvency procedure that includes automatic relegation as a trigger – that in my view is the most dynamite of penalties and one most likely to achieve the desired result if applied and operated alongside the new rules," he said.

Watkins said he disagreed with plans to put caps on the limit shareholders can invest in equity per season. The new regulations cap shareholder equity investment at a possible £8 million for the current season to £3m during 2015/16.

"Clearly the aim of the regulations is to prevent wealthy owners from bankrolling clubs in an unsustainable fashion," he said. "However, I don't think curtailing shareholders from investing in clubs is the solution – I think such activity should be encouraged. It is the prolonged accrual of debt that is often the issue."

"Given the trading driven analysis that is proposed, clubs will probably look at a number of 'off balance sheet' arrangements in order to find other ways to obtain funding without incurring debts. Arguably this is not the best way to achieve financial prudence," Watkins said.

The way clubs are managed and structured could also change as a result of the changes to the rules and will probably result in more clubs linking players' salary levels more closely with the level of income they generate, Watkins said.

"Many clubs elect to separate parts of their business – such as the ownership of their stadium and commercial rights, for example, catering and hospitality services – from their core structure," Watkins said. "The greater scrutiny of financial performance will likely see a revision to the way in which clubs operate.."

"Each club will need to be mindful of where the costs and revenues of the club are structured and how the football authorities choose to assess that because of the consequences they could face," he said.

"Clubs are going to have to be increasingly astute about the management of finances. The introduction of the new rules could be a spur for contracts that are increasingly variable on success and in which league clubs are operating in – although this often already happens – and tailored to the cost-base overall of the clubs."

"An increasing importance will be also placed on appointing individuals into senior management positions at clubs based on the quality of advice and guidance they can offer, emphasising the moves in recent years to external appointments from other business sectors. The way clubs deal with insolvency situations will also likely change as a result of the new rules as the importance of how clubs are structured will be of extra interest to potential buyers," Watkins said.