Accounting of permanent transfers and sold-on clauses under IFRS: John Stones (Everton, Manchester City... and Barnsley)

The name of John Stones has been quite in the news recently. A few weeks ago, the Manchester City defender won the Champions League in Istanbul against Inter Milan. Not only that, the Englishman contributed to winning the treble, after also being victorious in the FA Cup and lifting the Premier League trophy following an incredible comeback from the 8-point lead Arsenal had over them. 

Stones was born in Barnsley, South Yorkshire, where he started playing football in the youth academy of the local club, Barnsley FC. At the age of 17, he signed his first professional contract. After a good half-season in the Championship, on January 2013, Stones signed a contract with a Premier League club: Everton FC. The transfer came to a cost, since the toffees had to pay a transfer fee of 3 millions pounds to Barnsley. Despite letting one of its best players go, Barnsley inserted a 15% sell-on clause into the deal with Everton. In other words, if Everton sold the player to a third club in the future, Stone's youth club would keep 15% of the price. During his years in Everton, he debuted with the English national team, and his good performances in the Premier League made him one of the best center-backs in England.

In summer 2016, Manchester City signs a new manager: Pep Guardiola. The Catalan coach, after his success with FC Barcelona and FC Bayern München, landed in England to consolidate the citizens as one of the best clubs in Europe and, eventually, win the Champions League. But he did not come to Manchester alone. Pep arrived with a long list of signings: Claudio Bravo, Nolito, Gundogan, Zinchenko, Sané, Gabriel Jesus... and John Stones. City paid to Everton 47.5 million pounds plus bonuses, the highest transfer fee paid for a defender at that time.

And now it's time for accounting... how would you record this transaction if you were Everton? And what about if you were City?

Accounting for Manchester City (signing club)

As we saw in the first post of this series of articles, the player's registration rights meet the definition of asset, and more concretely, the definition of intangible asset.

Now it is clear for everyone that Manchester City can capitalize the cost of the purchase. But someone could ask, when should the asset be recognized? It should be recognized when control on Stones' registration rights are transferred from Everton to Manchester City. However, to avoid adding complexity, we will discuss this issue in another article.

Initial recognition (2016/2017)

As mentioned, Manchester City is entitled to capitalize all the costs directly attributable to the John Stones' transfer, that is, 47.5 million pounds, and classify it as an intangible asset. Yes, I know, Stones' transfer was closed by 47.5 million, plus bonuses... But's let ignore the variable component for today, since we are going to devote a special article to bonuses and contingent fees.

Manchester City should book the following journal entry:

 

Subsequent recognition

As mentioned in the first article, the player's registration rights are amortized, as a general rule, on straight-line basis over the player's contract. Easy, right? So considering that Stones signed his contract with Manchester City for 6 seasons, we divide 47.5 M by 6, and we get a yearly amortization of 7.9 million pounds. That is the amount that City will expense in the income statement every year.

If the player keeps the same contract until June 2022, the net book value of the intangible asset becomes 0. In that case, if a new contract between the player and the club is signed after the expiration of the first contract, the yearly amortization from season 2022/23 onwards would be 0.

It sounds too good to be true to have a top player in your team who costs you 0 euros in your profit and loss account. The truth is that, with the exceptions of those players who are "home-made" (for example, Messi when he played in FC Barcelona) or free agents, this is rarely the case. The reason is that top-players normally renew their contracts before the expiration of the original one. In this way, the club makes sure that his footballer keeps playing for them for longer and does not sign a contract with the competitors, and the player gets a higher salary.

And this was exactly what happened with City and Stones. At the beginning of year 2021/2022, the citizens and the defender reached an agreement to extend Stones' contract until the end of season 2025/2026. Good news for City and Stones, but... what about the club's accountants? How should they register the player's amortization? The answer is that the amortization should be revisited.

At the beginning of season 2021/2022 (or ending of season 2020/21), the player's book value is 7.9 million pounds. Given that he signed a new six year contract, we should divide this amount by six to get the new yearly amortization.

The 7.9 million remaining to be amortized at the end of season 2020/21 are now spread in six years, resulting in a yearly amortization of 1.3 million pounds.

Accounting for Everton (selling club)

What about Everton? How should the club record the selling of his former player? It is quite straightforward. You should register the operation in the same way that you register the sale of a building or a machine: you just need to derecognize the rights initially recognized and amortized and register any difference as a profit or loss in the income statement. 

We will understand it better with some numbers. Stones signed a five-and-a-half years contract with Everton in January 2013, and the transfer fee was 3 million. If we take a look at the amortization table, the net book value of the player was 1.6 million at the time of the transfer (end of 15/16 season / beginning of 16/17 season):

Given that Everton sold the player for 47.5 million, a gain of 45.8 million was registered. See journal entry below:

Remember, the gain obtained from the sale of intangible assets is not considered revenue. Instead, it is presented as a separate line item within operating profit.

This may look like the end of the story. City signed a great player, Everton made a huge profit, Stones increased his chances to win the Premier League, we learned how to record permanent transfers under IFRS and they all lived happily ever after. But aren't we forgetting about someone? Yes, we are forgetting about Barnsley.

Accounting for the additional consideration received by Barnsley

In January 2013, Barnsley sold Stones to Everton. Since Stones had emerged from their youth academy, no costs were incurred for his registration rights. Consequently, Stones' book value was recorded as 0, and the entire 3 million received from Everton was registered as profit.  

In the agreement with Everton, the club included a 15% sale-on clause. According to IFRS 15, the profit related to the sale-on clause should be recognized when it is considered 'highly probable.' However, at that time, it was uncertain whether Everton would sell Stones. What if Stones remained with Everton for the rest of his professional career? Or what if Stones decided to move to another club as a free agent after his contract with Everton expired? Additionally, even if we could determine that it was highly probable that Everton sold Stones, we wouldn't be able to determine the exact amount involved. For all these reasons, it was prudent not to register any amount at the time.

However, once the deal between Everton and City is closed, Barnsley should recognize gain of 7.1 millions (in line "other income/gain", not in "revenue") and a receivable with Everton for the same amount.

Everton, on the other hand, should net the 7.1 expense to Barnsley against the gain arising from the transfer (note that this fact is not reflected in the previous journal entry, for simplicity).

And that concludes our lesson for today. We have learned not only how to account for standard permanent transfers under IFRS but also how to record transfer operations that involve sold-on clauses. Do you know who else learned the lesson? Southampton, the youth club of Gareth Bale. When they transferred their star player to Tottenham, they included a 15-25% sold-on clause. However, one year later, they waived the clause in exchange for 1.5 million pounds and spurs goalkeeper Tommy Forecast. The rest is history. Tottenham later sold Bale to Real Madrid for a fee of 86 million pounds, and Southampton missed out on an estimated amount of around 13-21 million pounds.

This article is part of the series Accounting Treatment of Football Transfers under IFRS. Click here to access the rest of the articles