The art world doesn’t seem to be doing too poorly, at least financially speaking. Between July 2013 and July 2014, auction house Sotheby’s generated more than $390.2 million. Online art auctions don’t appear to be suffering, either. Fully, 71% of art collectors have now purchased art in some form online. At the same time, global online art sales amounted to about $1.57 billion in 2014.
However, it’s not art that’s the most profitable business at auction house Sotheby’s — it’s its finance arm.
The auction house’s activist investors have been pressuring Sotheby’s to boost profitability amidst record art prices. Yet the auction house’s shares have dropped about 25% in 2015. The activists have even gone so far as to force the CEO to resign last March.
In response, Sotheby’s boosted the size of its credit facility by almost three times this past summer to about $1.34 billion, which has enabled Sotheby’s to double its portfolio of loans to $1.3 billion, Business Insider reports.
The problem is that if the art market takes a downturn, the auction house could face some serious problems.
“The potential $1 billion borrowing to support growth at the finance segment would materially weaken Sotheby’s credit metrics and its corresponding credit profile during the next cyclical downturn, compared to the last recession – potentially putting the company’s ratings under pressure in this scenario,” said Margaret Taylor, senior vice president of ratings agency Moody’s.
“Although the finance segment earnings generate the highest margins and are poised to continue growing rapidly, Sotheby’s is sacrificing its balance sheet to support its loan portfolio.”
However, the problem will really only surface if the art market hits turbulence. That, Taylor said, is really only a matter of time.
“The art market is highly cyclical,” said Taylor. “It’s not ‘if,’ it’s ‘when’ there will be a down cycle.”