Volume 2, Chapter 8 Salary caps and luxury taxes in professional sports leagues

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Volume 2, Chapter 8Salary caps and luxury taxes in professional sports leagues

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Athlete compensation

Economic justification Compensated based on marginal revenue product

(MRP), how much employee contribute to eomployer’s revenues, in free and open market

Employer retain most MRP, employee compensated at conservative rate, in restricted, uncompetitive market

Marginal win How much does a win worth?

3

Athlete compensation Player’s point of view

The least willing to accept is what could earn in next-best employment opportunity (reservation wage)

Player’s MRP and reservation wage give max and min limits on salary

Most important consideration is bargaining power of player relative to that of owner More close substitutes there are (easier to be

replaced), more bargaining power team has, salary closer to RW than MRP

4

Athlete compensation Owners usually said if player salaries increase, they

will be forced to raise ticket price Limit salary increase really in the interest for fans Makes very little economic sense

Ticket pricing decision by profit-oriented owner completely independent of player salary Solely on ticket demand by fans Ticket price rise when fan demand rise, in turn increase

player MRP, result in higher salary

5

Athlete compensation Beginning of free agency, raise player salary

immediately Fan would not pay more just because player earning

more in 1980 (4 years after free agency) only Red Sox and

Yankees ticket prices higher than 1971 Ticket price prior to free agency were set by owners at

levels representing best guesses to maximize revenue Rising demand by public for major professional

team sports, lead to increase in ticket prices and TV contract revenues In turn, increase value of skilled players to teams, their

MRP rises

6

The winner’s curse Not easy in determining free agent salaries

Predict how player will perform in future, what his contribution to team, size of crowd will draw…

In ‘sealed-bid’ auction, such as free agent and league TV rights, the winner’s curse may be operative All bidders have same information Winner may make mistake in overvaluing Winning may mean winner bid too much, maybe for too

much Left on the table: difference in bid between the highest

and second-highest

7

Monopsony買主獨家壟斷有很多賣主而只有一個買主的市場情況 MLB Salary/MRP = 0.15 in reserve clause

days Star players Salary/MRP = 0.29-0.45 in

1987, even in collusion period Do not control for player’s effect on revenue

other than stats effects on winning

8

Incentives and performance Better reward/bonus result in better performance? Free agency increased incidence of long-term

contracts FA ask for, competition in bidding for FA, lock up young

players before reaching FA Performance and disabled time before and after

signing long-term contract May decrease performance and increase disabled time,

moral hazard effect Many players perform better in ‘contract year’ Players are still playing for next contract

9

Regulation of salary

支持： Competitive balance in the league, especially in small markets

反對： team continually try to limit players’ ability to sell their talents freely

10

Win-Revenue Relationship

Positive relationship between winning and revenue with 3 stages: flat, steep, & steady stages

Win effects are not equal: a team’s location has dramatic impact on the value of win. Respectability vs playoff contention At the extremes, regular season wins have little

impact on revenue

11Win-Revenue Curve162-game season in MLB

Gennaro, Diamond dollars, 2007

12

Components of Win-Revenue Curve


13

Market Size Matters!


14Effect of Market Size on Revenue: NBA

Data: NBA 1992-1996 Increase in population will increase gate

revenue Moving to a city with an additional million

persons worth $399,503 Such increase in revenue would increase the

value of a win by $1648 Additional persons in population enhance the

monetary value of on-court performance

Berri, et al. Journal of Sports Economics, 5: 33-50, 2004

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Berri, et al. Journal of Sports Economics, 5: 33-50, 2004

NBA 1992-1996, 4 seasons

16Different Team,Different Win-Curve


17

Same Player, Different Value

It is difficult for great players who play on poor teams to create significant value

As a team improves above certain threshold (85 wins), the value of all its players tend to rise As a team gets worse, the value of all its players

tend to decrease Even a mediocre player in a great team may

provide more value in a star player in a poor team

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Same Player, Different Value


19

Evaluation of A Player


20A Player’s Value Depends on Teammates


21

Postseason Effects

Teams increase ticket prices more after making postseason

White Sox win World Series in 2005 8.5% increase in baseline revenue (~17 M) in

2005 Total future value 28 M: 60% realized in 2006

Diminishing return of consecutive appearances in postseason 75% in 2nd, 50% in 3rd, 30% afterwards


22Diminishing Revenue of Consecutive Postseason Appearances


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Star Power on the Road: NBA

Increase TV broadcast ratings 1989-90 season: Magic Johnson 31%, Michael

Jordan 28%, Larry Bird 27% increase ratings. 1991-92 season: Bulls opponents received 50%

higher ratings than otherwise equivalent games. Michael Jordan's total value to other NBA

teams is estimated to be $53.2 million in 1991-92.

Hausman et al. J Labor Econ, 15: 586-624, 1997

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Star Power on the Road: NBA

Berri and Schmidt. Journal of Sports Economics, 7: 347-358, 2006

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Evaluation of Players: NBA

Berri and Schmidt. Journal of Sports Economics, 7: 347-358, 2006

26Effect of Ace Starting Pitchers on the Road: Attendance Increase by 2.07%

係數a

.840 .007 121.365 .000

.122 .013 .142 9.553 .0004.996E-03 .008 .009 .613 .5402.066E-02 .010 .029 2.072 .038

.103 .008 .198 13.420 .000

.189 .008 .361 24.576 .000

( )常數跨聯盟DNVSP1日期編號WEEKEND

模式1

B 之估計值標準誤未標準化係數

Beta 分配

標準化係數

t 顯著性

\依變數：人數比a.

R2=0.194 Tseng and Chang, 2008

MLB 2006-2007

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Star Power in CPBL 2002-2007:Attendance Increases by 6% per ASG Starter

dependent variable: total attendance of all games in the season

係數a

-1755.485 1615.154 -1.087 .290

3541.935 3651.384 .241 .970 .344

4563.628 1990.867 .392 2.292 .033

182.915 85.828 .329 2.131 .046

-264.702 452.065 -.117 -.586 .565

-287.768 404.313 -.127 -.712 .485

343.187 488.155 .119 .703 .490

-722.207 522.415 -.251 -1.382 .182

-488.281 540.629 -.170 -.903 .377

591.413 521.747 .205 1.134 .270

705.893 545.107 .245 1.295 .210

485.459 732.931 .143 .662 .515

( )常數今年勝率去年勝率明星賽先發今年季後賽去年季後賽今年冠軍year1

year2

year3

year4

year5

模式1

B 之估計值標準誤未標準化係數

Beta 分配

標準化係數

t 顯著性

依變數：平均觀眾數a.

R2=0.552

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Reserve clause In 1800s, talented players found ‘contract jumping’

increase salary Cause financial problem, even collapse of teams

Owners of remaining NL teams reached a secret agreement: each team reserve 5 players who can not be touched by other teams Very successful in stopping increase in salary By 1890s every contract include a reserve clause

Reserve clause: contract can be automatically renewed for 1 year upon expiration by team, even without player’s signature A new contract also include reserve clause

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Reserve clause

1922 Supreme Court gave MLB exemption from antitrust laws Baseball was a ‘public exhibition’, not

commerce not subject to antitrust laws Consistently refused to extend exemption to any

other sport or industry

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Dismantling of reserve clause Curt Flood sued MLB for damage and free agency

in 1970, financially supported by MLBPA Refused to be traded Lost in Circuit Court and Supreme Court

Catfish Hunter signed 2-year contract with Charlie Finley of A’s in 1974 Part of money paid to insurance fund, which Finley did

not pay in 1974 Arbitrator ruled that contract is voided, Hunter signed

with Yankees in 1975 for 3-year lucrative contract

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Dismantling of reserve clause Dave McNally (Expos) and Andy Messersmith

(Dodgers) unhappy with club offers Did not sign contract in 1975 Team renew their contract according to reserve clause Grievance panel arbitrator ruled in Dec 1975, that contract

can be renewed without player’s signature only once, granted free agency

CBA in 1976 Owners outraged by free agent ruling, preseason lockout Agreement for all players with 6 years of MLB experience

as free agents Salary arbitration for players with 2-5 years MLB

experience (Super Two, top 17% of 2-3 years experience)

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End of Reserve clause

1957 Supreme Court favor George Radovich NFL All American Football Conference

(AAFC) NFL, but blacklisted by NFL Reject NFL’s right to reserve players Owners agree NOT to pursue others’ players 1960s ‘Rozelle Rule’: team singing FA should

compensate the team that lost the FA 1992 District Court ruled ‘Rozelle Rule’ violate

antitrust laws

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End of Reserve clause

1972 World Hockey Association successfully sued NHL for violations of antitrust laws NHL prevent players moving to WHA

1976 NBA settled with Oscar Robertson suit Robertson: prevent the merge between ABA and

NBA, allow players to jump leagues Agree to phase in FA

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Impact of FA on competitive balance

Failure of rich teams to win champ after champ

Coase theorem: players go to the teams that value their services most highly, regardless of the contractual relationship between players and owners Predict the end of reserve clause should not have

affected distribution of talent

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Salary cap First introduced by NBA Owners regard salary cap as the cure of all

worries about competitive balance MLB: highest correlation between payroll

and winning percentage FA, no salary cap

NFL: lowest correlation between payroll and winning percentage Smallest variation in payroll, hard cap

NBA and NHL in between

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NFL salary cap 2011-2020 120.375 M in 2011

Guaranteed 99% spend Guaranteed league-wide spend 95% in 4-year

average 2013-16, 2017-20 Minimum team cash spend 89% cap in 4-year

average 2013-16, 2017-20 Salary cap base on “all revenue”

55% national media revenue, 45% NFL ventures revenue, 40% local club revenue

Player share must average at least 47% for the 10-year term of the agreement

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NFL: 2005: 94.5 M; 2006: $102 M; 2007: $109 M; 2008: $116 M, 2009: $123 M; 2010: none; 2011: 120.375 M

NBA: 07-08 55.6 M; 08-09: 58.7 M; 09-10 59.7 M; 10-11: 58 M

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NBA salary cap 2005(06)-2010(11) http://www.nbpa.com/cba_articles.php Players will be guaranteed to receive 57% of league

revenues (BRI), the same percentage paid to players the last two seasons.

The Salary Cap will increase from 48% to 51% of BRI All Cap exceptions will remain unchanged

luxury tax level will be set at 61% of league revenues the same level as in the 2001-02 – 2003-04 seasons

The maximum length of a player contract reduced from 7 to 6 years for a team’s own players, and from 6 to 5 years for other players

NBA salary cap 2012(13)

The Salary Cap for 2012-13 is $58.044 million same as the 2011-12

Future Salary Cap will be calculated by multiplying projected “Basketball Related Income” by 44.74%, subtracting projected player benefits, and then dividing the result by 30.

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http://www.nba.com/media/CBA101_9.12.pdf

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NBA Salary cap

Larry Bird rule: allow teams to keep its own FA

Rookie exception: A team may sign its first-round draft pick for up to 120% of his Rookie Salary Scale amount

Soft cap

Escrow system

Escrow system 信託 : league set aside 10% player salary and 1% BRI 2011-12: 51.15% BRI, later: 50% BRI If all salaries > 50% BRI bring salaries to

50% If all salaries < 50% BRI money return to

players Guarantee players with certain percentage of

league income

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43

NBA salary cap and avg salary

http://en.wikipedia.org/wiki/NBA_salary_cap#Luxury_tax

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NHL’s CBA 2005(06)-2011(12) http://www.nhl.com/nhlhq/cba/index.html Extended by NHLPA from 2010 to 2011 The players' share of league revenue

54% in any year league revenue <2.2 billion 55% if LR 2.2-2.4 billion 56% if LR 2.4-2.7 billion 57% if LR > 2.7 billion

Salary cap and salary floor Penalty for exceeding salary cap: 100% tax Escrow system

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NHL’s CBA 2005(06)-2011(12) Salary cap

05-06: 39 M 06-07: 44 M 07-08: 50.3 M 08-09: 56.7 M 09-10: 56.8 M 10-11: 59.4 M 11-12: 64.3 M

Player salary Maximal: <20% maximal payroll, 7.8 million in 2005-06 Minimum: 450 K in 2005-07, 475 K in 2007-09, 500 K in 2009-10,

525 K in 2011-12 Drafted players: contract with limits of salary and length No CBA after Sep, 2012

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Luxury taxes

MLB: 0, 30, 40% tax for the amount of payroll exceeding the threshold Yankees paid every year

NBA: 100% tax No tax in NFL Effective?

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2007: $148, 2008: $155 M, 2009: $162 M 2010: $170 M, 2011-13: $178 M, 2014: 189 M

MLB luxury tax

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MLB luxury tax 2003-13

http://en.wikipedia.org/wiki/Luxury_tax_(sports)

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MLB luxury tax 1997-99threshold: avg (5th+6th highest payroll)

http://bizofbaseball.com/index.php?option=com_content&view=article&id=4971&Itemid=194

50NBA individual and team salary, 2014-15

http://hoopshype.com/salaries.htm

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NBA luxury tax 2005-10

http://members.cox.net/lmcoon/salarycap.htm

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Comparison of salary system

NFL/NBA/NHL players and teams like ‘partners’ Try to make pie grow bigger

MLB employees try to get bigger piece of owners’ pie Rich teams get better players through FA, trade

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Draft

Prevent owners from overbidding entrants No other industry has such restrictions on a

new entrant’s choice of employment Reverse-order draft

Promote competitive balance Potentially worsen competition late in season,

losing teams try to secure higher picks Draft lottery in NBA

54

Major League Soccer

Single entity, keep a light lid on costs Unable to keep its best players from switching to

other leagues with higher salary

55

Bosman ruling in European football

Jean-Marc Bosman sued team, Belgian Football Association, Unions of European Football Associations (UEFA) in 1990 Attempted to transfer from Belgium team to French team Belgian team demand transfer fee from French

Bosman ruling in 1995: after his career was over European Court of Justice agreed with Bosman transfer rules violate European Treaty banned restrictions of foreign EU members within the

national leagues allowed professional football players in the EU to move

freely to another club at the end of their term of contract Football players in Europe significant freedom

56Organization of football before and after Bosman ruling Organization of football

Players must be registered as a professional with his national association in order to be eligible

National associations comprised of clubs playing organized competitions within nation’s borders

Regional confederations comprise membership of international organization body FIFA

Before Bosman ruling, former club NOT required to release player certificate even player signed contract with new club. The former club retain control over player’s career. The new club pay ‘transfer fee’

Before Bosman ruling, ‘3+2’ foreign players in each team

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Effects and arguments More efficient for team to exchange cash for player

May necessary for survival of small clubs Rich teams collect best players Restriction on number of foreign players limit

opportunity for players to move freely in European Union After Bosman, supply and demand of players increased

Clubs offer more long-term contracts Players become FA after contracts Very talented players can still be ‘bought’ by rich team Very talented players may ask for transfer even under

contract Gap between poor and rich teams

58

European football Many teams, even in top leagues, lost money

Higher player costs after 1991 Bosman ruling Before 1991, mobility of football players worldwide limited

by transfer fees Compensate teams who lost players

Today: teams may claim transfer fees only for players under contract

Once a player’s contract ended FA France’s national soccer association limit how much teams

can borrow/spend Germany: team officials personally guarantee any loans by

team Distribution of champ similar before and after Bosman

ruling

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Conclusion Some restrictive method effective in limiting

salaries Reserve clauses, transfer fees, single-entity leagues Not feasible in courts

These restrictions have little impact on competitive balance Coase theorem: restrictions on ability of players to sell

their services freely do not affect distribution of playing talent

These restrictions make small market teams wealthier, but not necessarily make them better

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Business of sports agents Provide variety of service other than contract

negotiation Advise on financial matters such as tax and investment,

medical/physical health/training, legal/criminal consultation, post-playing career counseling, media image, endorsement contract…

Full service firms IMG, has its own training academy, International

Performance Institute (IPI) for various sports SFX sports, Octagon, Assante, send athletes to their

cooperated training sites Scott Boras Corporation hire former major leaguers as

consultants/personal coaches Some connection with entertainment industry

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Business of sports agents

Individual agent or small agency May provide more ‘personal’

service/relationship Athletes may need other lawyer, accountant,

investment firm, sports marketing firm… Can be recommended by agents Always face losing clients to large firms

Commission: 2-5% of total contract, up to 30% of endorsement contract

License to deal (by Jerry Crasnick)

Player endorsement

MLB top 10 earners make $235M in playing salary < $10M combined from endorsements. The only MLB player making more than $4

million off the field in the U.S. is Derek Jeter The NBA has 10 players earning at least $4

M annually from endorsements NFL has 5 players at that level

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http://www.forbes.com/sites/kurtbadenhausen/2014/03/26/baseballs-highest-paid-players-2014/

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IMG IMG Academies

http://www.imgacademies.com/baseball-academy/baseball-department/sports-facilities/

http://www.imgacademies.com/basketball-academy/basketball-department/sports-facilities/

IMG sold for 2.3 B in Dec, 2013 Purchased by Entertainment talent agency William

Morris Endeavor and private equity firm Silver Lake Partners, from IMG’s parent company private equity firm Forstmann Little

http://www.sportbusiness.com/sportbusiness-international/img-sold-23bn-deal

Documents

Volume 2, Chapter 8 Salary caps and luxury taxes in professional sports leagues