Can a £310m F1 budget be justified?

How can a Formula 1 team spend nearly £310million on running two cars for a season - especially when that's not even taking engine development costs into consideration? It's a question that must surely be giving a lot of people in the championship food for thought, not least Liberty, which is trying to get teams to reduce spending and make the business a profitable one for everybody.

That figure, you may not be surprised to know, relates to what Mercedes spent solely on its race team to win the 2017 drivers' and constructors' world championships. However, it's important to stress that only a small proportion of that - around £60m - was actually spent by parent company Daimler AG.

The rest came from sponsorship and income from the commercial rights holder. And the latter number is in turn related not just to Mercedes' ongoing success, but also to what was a record profit for the F1 business in 2016, the last year under the stewardship of Bernie Ecclestone. In other words, Mercedes earned a big slice of what was a bigger pie.

This creates the curious anomaly where the spending keeps going up, and yet achieving success in F1 represents remarkably good value for Daimler.

We know these numbers now because, for the UK-based F1 teams, early October is when the previous year's financial accounts hit the public domain. It's not just journalists who dig through them looking for clues, but other teams, who are assessing what their rivals are spending, and indeed earning.

In 2017 a common thread through all the teams was a substantial hike in spending, a direct result of the change to wider-track, high-downforce cars and the R&D expenditure they required. By a remarkable coincidence, overall spending went up by 17.4% at both Mercedes and its main Britain-based rival Red Bull. While those numbers include other costs alongside R&D, that figure nevertheless grabs the attention.

"It's as simple as that, the cost of change in F1 is enormous," says Red Bull boss Christian Horner. "You can see it will have an impact on all the teams. When you scrap a concept of regulations and have a change of the size that we had, it's significant.

"Responsible regulations are the key. When you look at what are the cost-drivers in the business, I've always said that it's the technical regs that drive the cost. There's no clearer example of that than the 2017 accounts."

For Mercedes, last year's numbers are a double-edged sword in PR terms. On the one hand, the fact that the F1 programme was a relative bargain for the parent company shows how effective competing in the championship can be financially, at least if you're doing the winning. On the other side, that £310m figure inevitably leads to suggestions that Mercedes just spend its way to success.

Mercedes' Toto Wolff agrees with Horner that the rules changes made a big difference in 2017, but he's also keen to point out that those changes were the result of political lobbying by his rivals and by others who wanted to see closer racing.

"[Daimler's spend is] pretty good value, because we were able to generate higher CRH income and higher sponsorship income due to our on-track success" Toto Wolff

"We are making those mistakes over and over again," he says. "Technical regulations are lobbied for by various stakeholders - the teams, the regulator, the commercial rights holder - in order to create what they believe is a more level playing field. The aero regulations for 2017 were ratified in March '16.

"And the reasons the regulations were changed were in order to change the current playing field, and in order to reduce the ability of Mercedes to run away with the championship early.

"There were many warnings that this would trigger a cost escalation - [from] us, predominantly. But our voice wasn't heard because we were looked at as if we were biased to maintain what we have and not change the regulations.

"There are minutes from the final strategy group meeting where this is exactly reflected, where I said, 'Be careful, these cars might be very difficult to overtake, and we will have a cost escalation because you're resetting the aerodynamic regulations'."

Wolff says his warnings about the potential cost of the 2017 rules were ignored, as some players were so keen to force changes.

"There was no lobby to contain costs," he continues. "It was just another initiative to level out the sporting competition. And surprise, surprise, the cars are difficult to overtake, so now we're changing the aerodynamic regulations again. The same teams are at the top and everyone's spending more. So, nothing has changed and we're doing it again.

"I think if you look back at F1's history, that has been the same for a long time, the pattern, because the teams will find logical arguments [for] why they need to go in that direction.

"But the result is irrational, and that is reflected in the accounts of the teams, that we had a big jump in costs in 2016 and '17 in order to develop completely new car designs. That was not given enough consideration when the rules were changed."

As noted, Daimler's contribution, which is called marketing revenue because in effect it's what the company pays for the PR that F1 brings, was up from £30m the previous year. Just to confuse matters, the team in turn gives £19m back to Daimler to pay for its engine lease supply. Not all of the £60m was physically spent - the final figure that Daimler puts in is understood to include a built-in profit margin of 6%, so in reality the actual spend was less.

"That is what Daimler had to subsidise for their F1 activities," says Wolff. "Which is still pretty good value, because we were able to generate higher CRH income and higher sponsorship income due to our on-track success.

"Bear in mind that the higher number from 2017 is still based on a record EBITDA [ie turnover] that FOM achieved in '16. But if you look at the competitive environment, the competitive universe of motor racing, and you look at Mercedes' share of audience of 24.7%, and its global visibility, and you compare it to other series, [with] a cost of around £50m that translates into a $3.4billion advertising equivalent. That is a ratio that is very good."

So, does that make it easier to justify going racing to the Mercedes board?

"Not only to the board," says Wolff, "I think it's a very good case to justify to anybody that partners with a team, or partners with F1 overall. F1 has large global audiences and it's reflected in the numbers."

Of course, engine development costs don't appear in these numbers. HPP in Brixworth is funded from Mercedes' global R&D budget, as it's just one of many such entities within the group.

A few years ago it would have been easy to regard filing F1 expenses under R&D as so much corporate BS, but in the hybrid era there is some genuine crossover to production cars - and in the case of Mercedes, F1 engine tech is going straight into a road car, albeit one that is unlikely to be seen on local high streets very often...

"It comes from different sources," adds Wolff. "HPP hangs under R&D, the chassis side hangs under marketing. That is historic. Both entities are, to a very large portion, R&D entities, but then the chassis side is always the advertising and marketing part. We pay for the engines on an arm's length basis, like all the other teams [Williams and Force India] pay to Daimler. We are actually paying more."

Rival teams that are further down the food chain complain that the big players get a bigger slice of the pie than they deserve, and Liberty is planning to address that. But Mercedes is not about to feel too sorry. It's easy to forget where the team was when Lewis Hamilton came on board in 2013, the last year of the V8 era.

"In 2012 [Ecclestone's deal] seemed further away than the moon. It didn't feel like any gift" Toto Wolff

At the time, Ecclestone took a punt and said that anyone who could win two world championships and 21 races over two seasons would win the jackpot and take their future income to a higher level. Ecclestone didn't think Mercedes could do it - after all, the team was in a similar position to how Renault is now - but by out-developing its rivals in the build-up to the V6 hybrid era, it came up with a dominant package.

"The exceptional income is based on exceptional track record," says Wolff. "Winning two championships in a row - [and] in 2016 we won 19 out of 21 races - assured the extraordinary pots that were there for extraordinary performances. So, the gap that has [been] created in favour of Ferrari, Red Bull and Mercedes - the revenues that we are able to generate - is based on extraordinary track performances, and required financing beforehand.

"The model that has existed until now was a success reward system that whoever was able to follow Red Bull's exceptional double championship record, winning two championships in a row with 21 race wins, was able to tap the pots. That was given to us in the negotiations.

"In 2012 that seemed like further away than the moon. It didn't feel like any gift!

"Mercedes finished fifth in 2012, this was the year it was being given, and it seemed far, but we took a conscious decision in '13 to invest in order to be able to generate those funds.

"Mercedes didn't tap any of this extra revenue pot before 2016; only after we won two championships, the 2014-15 championships, were we able to considerably increase our revenue, and I think that model was a reward that required us to take a courageous investment decision in '12 and '13 and '14."

At around £227m in 2017, Red Bull spends considerably less than Mercedes. Just as Mercedes has engine development to consider, judging these final numbers is complicated by the fact that Red Bull Racing only employs 58 people, and all those involved in making the car go faster are employed by Red Bull Technology, which in turn also supplies Toro Rosso.

It isn't possible to just add the numbers from these two entities together and say "this is how much they're spending" because as well as Toro Rosso numbers being included within RBT's turnover, there is a substantial payment from the Red Bull team for services rendered.

Horner insists that Red Bull's own numbers represent the real cost of the team going racing. But it's intriguing to note that the parent company contribution to the F1 squad is within a few million of Daimler's to Mercedes GP. That figure jumped from £40.6m in 2016 to £56.5m in '17, again thanks to those rules-change costs.

"F1 still represents strong value for the brand," says Horner. "It's the biggest marketing activity within the Red Bull Group. F1 has a global audience and reach [and] obviously its digital audience is increasingly rapidly as well. And Red Bull, through F1's own analysis, is the number one brand in the sport. So, in terms of return on investment, F1 delivers for Red Bull, otherwise obviously they wouldn't be here.

"The numbers will look better again with the introduction of title sponsorship with Aston Martin, and they'll look better again for next year. Certainly, the Red Bull contribution will be stable."

Whether it's Mercedes' spend of £310m, or Red Bull's £227m, these are huge numbers. So, just how can they be justified?

"You must look at the bottom line," Wolff points out. "There are many high-tech companies that are spending vast sums in R&D, but they are able to generate revenue that covers this spending. In the real financial world, the bottom line is what counts, and not revenue or cost. And this is how we are approaching our balance sheet, and our P&L."

The big challenge that Liberty, the FIA and the teams face is that F1 is supposedly heading towards a new era of reduced spending and cost caps - and it's clear for all to see that getting there from where the championship is now won't be easy.