When Kraft took over Cadbury, it was seen as a large take-over, but its size pales in comparison to the potential takeover of AstraZeneca by Pfizer. However, having made two offers for the UK drugs firm, the US company has been rejected twice, saying the terms of the offer were ‘inadequate, substantially undervalue AstraZeneca and are not a basis on which to engage with Pfizer.’
Pfizer initially made an offer of £46.61 per share, valuing the company at £58.5bn, but this latest offer increased the share price to around £50 and raised the company value to £63bn. The rejection was relatively swift and the price still too low, though analysts are suggesting that a price closer to £53 may tempt shareholders. At the moment the negotiations between these two giants remain ‘friendly’, but with this second offer being rejected by the Board, there are now concerns that the takeover could become ‘hostile’ with Pfizer going directly to shareholders. Indeed one investor has said:
We were very keen that the two boards actually get around the table and disucss the bid … I’m never very keen when companies just dismiss things and don’t allow shareholders to take a decision on it … The key thing is that these businesses get talking to each other so they can hammer out a deal.
Following the second offer, shares in AstraZeneca rose by 10p, as the debate continued as to whether such a take-over would be good or bad for British jobs.
Cadbury was seen as a jewel in the crown of British industry and the same can be said of AstraZeneca, especially with the growing importance placed on the Science sector in the UK. While Pfizer has now given the British government further assurances about protection for Britain’s science base, there are still concerns about what this take-over would mean for British jobs. Pfizer has said that 20% of the company’s workforce in research and development would work in the UK and the planned R&D base in Cambridge would still go ahead. However, asset-stripping is a phrase that has been thrown around, based on Pfizer’s previous take-overs and, based on this history, many are suggesting that any assurances made by Pfizer will be pointless. In particular, Allan Black from the GMB union said:
Similar undertakings were given by US multinationals before which have proved to be worthless.
This was echoed by Lord Sainsbury who commented that any assurances made by Pfizer would be ‘frankly meaningless’. However, Vince Cable seems more confident about the consequences for British industry and said:
We’ve now received some assurances from the company that they will strengthen the British science base, they will protect British manufacturing … We need to look at that in detail, we need to look at the small print, we need to establish that it is binding, but as far as it goes, on the basis of what we’ve seen so far, it is welcome and encouraging.
We therefore seem to have a tale of two stories. On the one hand, the assurances of a US company that British jobs and its science base will be protected, but on the other hand, suggestions that we should take Pfizer’s assurances with a pinch of salt and that any take-over could be ‘devastating’. The truth of the matter will only be known if and when the take-over goes ahead and perhaps more importantly, whether it remains friendly and co-operative or does indeed go ‘hostile’. The following articles consider this medical take-over between giants.
AstraZeneca rejects Pfizer bid as US Pharma giant courts UK government The Guardian, Julia Kollewe and Sean Farrell (2/5/14)
AstraZeneca rejects new Pfizer offer BBC News (2/5/14)
AstraZeneca Pfizer: major shareholder urges talks The Telegraph, Denise Roland (2/5/14)
AstraZeneca rejects Pfizer’s raised bid of 63 billion pounds Reuters (2/5/14)
Pfizer-AstraZeneca offer: IoD warns intervention ‘disastrous’ for Britain. The Telegraph, Louise Armitstead (2/5/14)
Pfizer enters takeover discussions with AstraZeneca, sources say Wall Street Journal (2/5/14)
Exclusive: Pfizer insider warns that takeover of AstraZeneca could be ‘devastating’ Independent, Jim Armitage and Chris Green (2/5/14)
The Cadbury deal: how it changed takeovers BBC News, Ben Morris (2/5/14)
Pfizer set to make higher bid for AstraZeneca The Guardian, Julia Kollewe (1/5/14)
The UK’s response to Pfizer’s takeover bid is incoherent and misguided The Guardian, Larry Elliott (4/5/14)
Questions
- What type of take-over would this be classified as? Explain your answer.
- What would occur if the take-over became ‘hostile’?
- Using a demand and supply diagram, explain why share prices in AstraZeneca went up by 10p on the day the second offer was made.
- How would such a take-over affect British jobs?
- Explain how this proposed take-over could (a) boost British R&D in science and (b) harm British R&D in science.
- To what extent might there be concerns from the competition authorities were this take-over to go ahead? How might such a takeover affect Pfizer’s market share and hence its ability to charge a high price?
Officials of the Club Financial Control Body (CFCB) of UEFA met on Tuesday 15th April and Wednesday 16th April to decide the fate of a number of European clubs. The job of the CFCB is to implement UEFA’s Financial Fair Play (FFP) rules. Manchester City and Paris Saint-Germain (PSG) are said to be nervously awaiting the outcome of these meetings.
UEFA’s FFP rules apply to teams who want to play in either the Champions League or the Europa League. In order to be eligible to compete in these competitions teams not only have to perform well in their domestic league they also have to obtain a license from UEFA. The application process normally takes place midway through the current season for entry into either the Champions League or Europa League for the following season.
UEFA’s FFP rules cover a broad range of issues such as requirements for clubs to pay taxes, transfer fees and players’ wages on time in order to receive a license. However it is the ‘Break Even’ requirement that has caught the attention of a number of economists. This provision limits the size of the financial losses that team can incur before they become subject to sanctions from UEFA. Some of the stated aims of the policy are to:
– Introduce more discipline and rationality in club football finances
– Encourage clubs to operate on the basis of their own revenues
– Encourage responsible spending for the long-term benefit of football
– Protect the long term viability and sustainability of European club football.
The Royal Economic Society held a special session on the potential impact of the ‘Break Even’ requirement at its annual conference in April of this year.
One key way in which the UEFA rules differ from the rules imposed in the Championship in England is that the financial performance of the clubs is judged over a 2/3 year period rather than just one. The initial assessment period is over 2 seasons – 2011-12 to 2012-13. After this the monitoring period is over 3 seasons. Teams can make an initial loss of €5 million in total over the first two year period but this can increase to a maximum permitted loss €45 million over the two years – approximately £37 million – if the team’s owner is willing to fund this loss out of their own money. Certain categories of expenditure are exempt such as the cost of building a new stadium/stand or spending on youth development and the local community.
Manchester City made a total financial loss of £149 million over the last two seasons, far in excess of the permitted £37million, but these losses are falling which may count in their favour. They made losses of £97.9 million in 2012 and £51.6 million in 2013. Also some of the club’s expenditure will have been on some of the exempted categories so that the actual losses subject to FFP will be lower. Chelsea made a profit of £1.4million in 2011-12 and a loss of £49.4million in 2012-13. Although the losses over the two seasons were greater than £37 million, once adjustments were made for exempted expenditures the club was within the maximum permitted loss so was not subject to a full investigation.
In order to implement its FFP regulations UEFA created the Club Financial Control Body (CFCB). The CFCB has two departments – an investigatory chamber and an adjudicatory chamber. The investigatory chamber does the bulk of the work by investigating the accounts of all the 237 clubs that play in UEFA competitions. It was initially reported that the accounts of 76 clubs were being investigated in some detail because it was thought that they might have failed to meet FFP guidelines. However after further investigations in February it was reported that this number had fallen to below 20 teams. The investigatory panel met on Tuesday 15th April and Wednesday 16th April in order to make its final decisions which will be announced May 5th. The body can choose from one of the four following options in each case:
– Dismiss the case
– Agree a settlement with the club – effectively putting it on probation
– Reprimand and fine the club up to €100,000
– Refer the club to the CFCB adjudicatory chamber
The last option is the most serious as the adjudicatory chamber has the power to issue more serious penalties such as
– A deduction of points from the group stages of UEFA competitions.
– Withholding of revenues from UEFA competitions.
– Restrictions on the number of players that a club can register for participation in UEFA competitions.
– Disqualification from future UEFA competitions.
One issue that concerned UEFA was the possibility that very wealthy team owners might try to artificially inflate the revenues their club’s generate so as to circumvent the rules and make it look as if the team was meeting the FFP guidelines. In particular deals might be struck between other organisations that the club owner has an interest in and the football club at rates far in excess of the normal market level. For example some concerns have been expressed about the nature of the back-dated sponsorship deal of £167 million/year signed by PSG with the Qatar Tourism Authority. PSG are owned by Qatar Sport Investment which itself is a joint venture between the Qatari government and the Qatari Olympic Committee. The CFCB have said that they will analyse these types of deals and adjust club accounts if necessary so that they reflect true market rates.
May 5th could prove to be a very significant day for some of the biggest and most wealthy clubs in Europe.
Webcast
The Economics of “Financial Fair Play” (FFP) in European Soccer (EJ Special Session) Royal Economic Society (7/4/14)
Articles
UEFA probes ‘fewer than 20’ clubs over financial fair play rules Sky Sports, (14/4/14)
Manchester City confident of satisfying Uefa financial fair play rules The Guardian (15/4/14)
Uefa’s Financial Fair Play rules explained The Telegraph (15/4/14)
Man City sweating over sanctions as UEFA prepare to rule over excessive spending Daily Mail (15/4/14)
How Bosman’s lawyer is plotting another football revolution BBC Sport (2/10/13)
Manchester City await fate as Uefa’s financial rules kick in BBC Sport (16/4/14)
Manchester City and Paris Saint-Germain face financial fair play fate The Guardian (14/4/14) .
Questions
- In standard economic theory it is assumed that both consumers and producers act rationally. What precisely does this mean?
- One of the stated aims of UEFA FFP is to ‘introduce more discipline and rationality in club football finances’. Why might the owners of a football club act in an irrational way?
- Consider some of the advantages and disadvantages of assessing the financial performance of a team over 3 years as opposed to 1 year.
- One of the major arguments made against the UEFA FFP rules is that they will lead to a ‘fossilisation’ of the existing market i.e. the current top clubs are more likely to maintain their leadership. Explain the logic of this argument in more detail.
- Which of the possible sanctions for breaking FFP regulations do you think would hit the clubs the hardest in terms of the revenue they would lose? i.e. Which of the sanctions would they most like to avoid?
As Leicester City celebrated promotion to the English Premier League (EPL) last Saturday (5th April) it also became the first club in England that will probably have to pay a new Financial Fair Play (FFP) Tax. This tax is not paid to the government, but is effectively a fine imposed by the English Football League (EFL) on teams who break FFP regulations.
On Tuesday 8th April 2014 representatives from all the Championship clubs met with officials from the English Football League (EFL) in order to discuss the implementation of FFP. It had been reported in February that a number of teams were unhappy about the implementation of the FFP rules and were threatening to take legal action against the league. Unsurprisingly, one of these clubs was rumoured to be Leicester City.
In April 2012, 21 out of the 24 clubs in the Championship agreed on a set of new FFP regulations. These rules place a limit on the size of any financial losses that a team can incur in a given season before punishments, such as a tax, are imposed on them. The English Football League (EFL) stated that the aim of the FFP regulations was to
reduce the levels of losses being incurred at some clubs and, over time, establish a league of financially self-sustaining professional football clubs.
Under the agreed set of rules, all teams in the Championship have to provide a set of annual accounts by 1st December for the previous season: i.e. the first reporting period was in December 2012, when clubs had to submit accounts for 2011–12. No penalties were applied for the first two reporting periods as teams were given time to adjust to the new FFP framework. However sanctions come into effect for the 2013–14 season.
For the 2013–14 season the FFP rules set a threshold of £3 million as the size of the pre-tax financial losses that a team can incur before having to face any sanctions. If a team incurs a pre-tax loss of greater than £3 million but less than £8 million then punishments from the league can be avoided if the team’s owner invests enough money into the club so that the loss is effectively limited to £3 million: i.e. if the club reports a loss of £7 million then the owner would have to invest a minimum of £4 million of his/her own cash to avoid any sanctions.
The club is not allowed to finance the loss by borrowing or adding to the level of the team’s debt. If the owner cannot/refuses to make the investment or the pre-tax loss is greater than £8 million then the team is subject to one of two possible sanctions depending on whether it is promoted or not.
First, if the club is not promoted to the EPL, then it is subject to a transfer ban from the 1st January 2015: i.e. it will be unable to sign new players at the start of the transfer window. The ban remains in place until the club is able to submit financial information that clearly shows that it is meeting the FFP guidelines.
Second, if the club is promoted to the EPL then instead of a transfer embargo it has to pay the FFP Tax. The amount of tax the firm has to pay to the league depends on the size of the financial loss it has incurred. The larger the loss, the greater the tax it has to pay. The marginal rate of tax also increases with the size of the loss.
In order to help illustrate how the tax works it is useful to take a simple example. Leicester city reported a pre-tax loss of £34 million in 2012–13. If the club managed to reduce its pre-tax losses to £15 million in 2013–14 then, given its promotion, it would be subject to the tax. If we also assume that the owners are willing and able to invest £5 million of their own money into the club then the rate of tax the team would have to pay is based on the size of its losses over £8 million in the following way:
1% on losses between £8,000,001 and £8,100,000
20% on losses between £8,100,001 and £8,500,000
40% on losses between £8,500,001 and £9,000,000
60% on losses between £9,000,001 and £13,000,000
80% on losses between £13,000,001 and £18,000,000
100% on any losses over £18,000,000
Therefore with a loss of £15 million the FFP tax that Leicester would have to pay is £4,281,000 (£1,000 + £80,000 + £200,000 + £2.4million + £1.6million). If the club instead made a pre-tax financial loss of £30,000 in the 2013–14 season, then the FFP tax it would have to pay increases to £18,681,000 (£1,000 + £80,000 + £200,000 + £2.4million + £4 million + £12 million).
It was originally agreed that the revenue generated from the FFP tax would be shared equally by the teams in the Championship who managed to meet the FFP regulations. However the EPL objected to this provision and the money will now be donated to charity by the EFL.
Based on the financial results reported in 2012–13, about half the clubs in the Championship would be subject to either a transfer ban or FFP tax in January 2015. It was reported in the press in February that a number of clubs had instructed the solicitors, Brabners, to write to the EFL threatening legal action.
One particular concern was the ability of the clubs in the Championship subject to FFP rules to compete with teams relegated from the EPL. When the original FFP regulations were agreed, the teams relegated from the EPL received parachute payments of £48 million over a 4-year period. Following the record-breaking TV deal to broadcast EPL games, the payments were increased to £59 million for the 2013–14 season.
Following the meeting on Tuesday 8th April a spokesman from the EFL said
Considerable progress was achieved on potential improvements to the current regulations following a constructive debate between the clubs.
It will be interesting to see what changes are finally agreed and the implications they will have for the competitive balance of the league.
Articles
Why Championship clubs are crying foul over financial fair play The Guardian (26/2/14)
Wage bills result in big losses at Leicester City and Nottingham Forest The Guardian (5/3/14)
Financial fair play: Championship clubs make progress on talks BBC Sport (10/4/14)
Financial Fair Play in the Football League The Football League (25/4/12)
Loss leaders – Financial Fair Play Rules When Saturday Comes (25/4/12)
Richard Scudamore: financial fair play rules unsustainable in present form The Guardian (14/3/14)
Questions
- To what extent do you think that the implementation of the FFP regulations will either increase or decrease the competitive balance of the Championship?
- An article in the magazine ‘When Saturday Comes’ made the following statement “Last season’s champions, QPR, lost £25.4m and would have been handed a ‘tax’ of at least £17.4m based on 2013-14 thresholds”. Explain why this statement is not accurate. What mistake has the author made when trying to calculate the level of FFP tax payable?
- Nottingham Forest reported pre-tax financial losses of £17 million in 2012-13. If they made the same losses in 2013-14 and were promoted to the EPL, calculate how much FFP tax they would have to pay under current regulations.
- To what extent do you think that the money generated by the FFP tax should be equally distributed between the teams in the Championship who meet the FFP regulations.
- Why do you think team owners might need regulations to restrict the level of losses that they can make. Why might sport be different from other sectors?
While much of the UK is struggling to recover from recession, the London economy is growing strongly. This is reflected in strong investment, a growth in jobs and rapidly rising house prices.
There are considerable external economies of scale for businesses locating in London. There is a pool of trained labour and complementary companies providing inputs and services are located in close proximity. Firms create positive externalities to the benefit of other firms in the same industry or allied industries.
London is a magnet for entrepreneurs and highly qualified people. Innovative ideas and business opportunities flow from both business dealings and social interactions. As Boris Johnson says in the podcast, “It’s like a cyclotron on bright people… People who meet each other and spark off each other, and that’s when you get the explosion of innovation.”
Then there is a regional multiplier effect. As the London economy grows, so people move to London, thereby increasing consumption and stimulating further production and further employment. Firms may choose to relocate to London to take advantage of its buoyant economy. There is also an accelerator effect as a booming London encourages increased investment in the capital, further stimulating economic growth.
But the movement of labour and capital to London can dampen recovery in other parts of the economy and create a growing divide between London and other parts of the UK, such as the north of England.
The podcast examines ‘agglomeration‘ in London and how company success breeds success of other companies. It also looks at some of the downsides.
Podcast
Boris Johnson: London is cyclotron on bright people BBC Today Programme, Evan Davis (3/3/14)
Articles
London will always win over the rest of the UK The Telegraph, Alwyn Turner (2/3/14)
Evan Davis’s Mind The Gap – the view from Manchester The Guardian, Helen Pidd (4/3/14)
London incubating a new economy London Evening Standard, Phil Cooper (Founder of Kippsy.com) (10/2/14)
Reports and data
London Analysis, Small and Large Firms in London, 2001 to 2012 ONS (8/8/13)
Regional Labour Market Statistics, February 2014 ONS (19/2/14)
London Indicators from Labour Market Statistics (11 Excel worksheets) ONS (19/2/14)
Annual Business Survey, 2011 Regional Results ONS (25/7/13)
Economies of agglomeration Wikipedia
Questions
- Distinguish between internal and external economies of scale.
- Why is London such an attractive location for companies?
- Are there any external diseconomies of scale from locating in London?
- In what ways does the expansion of London (a) help and (b) hinder growth in the rest of the UK?
- Examine the labour statistics (in the links above) for London and the rest of the UK and describe and explain the differences.
The UK energy industry (electricity and gas) is an oligopoly. There are six large suppliers: the ‘Big Six’. These are British Gas (Centrica, UK), EDF Energy (EDF, France), E.ON UK (E.ON, Germany), npower (RWE, Germany), Scottish Power (Iberdrola, Spain) and SSE (SSE Group, UK). The Big Six supply around 73% of the total UK market and around 90% of the domestic market.
Energy suppliers buy wholesale gas and electricity and sell it to customers. The industry has a considerable degree of vertical integration, with the energy suppliers also being involved in both generation and local distribution (long-distance distribution through the familiar pylons is by National Grid). There is also considerable horizontal integration, with energy suppliers supplying both electricity and gas and offering ‘dual-fuel’ deals, whereby customers get a discount by buying both fuels from the same supplier.
Smaller suppliers have complained about substantial barriers to entry in the industry. In particular, they normally have to buy wholesale from one of the Big Six. Lack of transparency concerning their costs and internal transfer prices by the Big Six has led to suspicions that they are charging more to independent suppliers than to themselves.
Under new regulations announced by Ofgem, the industry regulator, the Big Six will have to post the prices at which they will trade wholesale power two years in advance and must trade fairly with independent suppliers or face financial penalties. In addition, ‘a range of measures will make the annual statements of the large companies more robust, useful and accessible.’ According to the Ofgem Press Release:
From 31 March new rules come into force meaning the six largest suppliers and the largest independent generators will have to trade fairly with independent suppliers in the wholesale market, or face financial penalties. The six largest suppliers will also have to publish the price at which they will trade wholesale power up to two years in advance. These prices must be published daily in two one-hour windows, giving independent suppliers and generators the opportunity and products they need to trade and compete effectively.
But will these measures be enough to break down the barriers to entry in the industry and make the market genuinely competitive? The following articles look at the issue.
Articles
Boost for small energy firms as Big Six are ordered to trade fairly on wholesale markets or face multi-million pound fines This is Money, Rachel Rickard Straus (26/2/14)
Energy firms told to trade fairly with smaller rivals BBC News, Rachel Fletcher (26/2/14)
Ofgem ramps up scrutiny of Big Six accounts The Telegraph, Denise Roland (26/2/14)
‘Big six’ told to trade fairly – will it make a difference? Channel 4 News, Emma Maxwell (26/2/14)
Energy regulator Ofgem forces trading rules on ‘big six’ suppliers Financial Times, Andy Sharman (26/2/14)
Information
Ofgem tears down barriers to competition to bear down as hard as possible on energy prices Ofgem Press Release (26/2/14)
The energy market explained Energy UK
Gas Ofgem
Electricity Ofgem
Energy in the United Kingdom Wikipedia
Big Six Energy Suppliers (UK) Wikipedia
Questions
- Describe the structure of the UK energy industry.
- What are the barriers to the entry of new energy suppliers and generators in the UK?
- To what extent is vertical integration in the electricity generation and supply industry in the interests of consumers?
- To what extent is horizontal integration in the electricity and gas markets in the interests of consumers?
- How will requiring the six largest energy suppliers to post their wholesale prices for the next 24 months increase competition in the energy market?
- Is greater transparency about the revenues, costs and profits of energy suppliers likely to make the market more competitive?
- Identify and discuss other measures which Ofgem could introduce to make the energy market more competitive.
