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

2 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 = 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

11 Win-Revenue Curve 162-game season in MLB Gennaro, Diamond dollars, 2007

12 Components of Win-Revenue Curve Gennaro, Diamond dollars, 2007

13 Market Size Matters! Gennaro, Diamond dollars, 2007

14 Effect of Market Size on Revenue: NBA Data: NBA 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

15 Berri, et al. Journal of Sports Economics, 5: 33-50, 2004 NBA , 4 seasons

16 Different Team, Different Win-Curve Gennaro, Diamond dollars, 2007

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

18 Same Player, Different Value Gennaro, Diamond dollars, 2007

19 Evaluation of A Player Gennaro, Diamond dollars, 2007

20 A Player’s Value Depends on Teammates Gennaro, Diamond dollars, 2007

21 Postseason Effects Teams increase ticket prices more after making postseason White Sox win World Series in % 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 2 nd, 50% in 3rd, 30% afterwards Gennaro, Diamond dollars, 2007

22 Diminishing Revenue of Consecutive Postseason Appearances Gennaro, Diamond dollars, 2007

23 Star Power on the Road: NBA Increase TV broadcast ratings season: Magic Johnson 31%, Michael Jordan 28%, Larry Bird 27% increase ratings 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 Hausman et al. J Labor Econ, 15: , 1997

24 Star Power on the Road: NBA Berri and Schmidt. Journal of Sports Economics, 7: , 2006

25 Evaluation of Players: NBA Berri and Schmidt. Journal of Sports Economics, 7: , 2006

26 Effect of Ace Starting Pitchers on the Road: Attendance Increase by 2.07% R2=0.194 Tseng and Chang, 2008 MLB

27 Star Power in CPBL : Attendance Increases by 6% per ASG Starter dependent variable: total attendance of all games in the season R2=0.552

28 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

29 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

30 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

31 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)

32 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

33 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

34

35 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

36 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

37 NFL salary cap M in 2011 Guaranteed 99% spend Guaranteed league-wide spend 95% in 4-year average , Minimum team cash spend 89% cap in 4-year average , 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

38 NFL: 2005: 94.5 M; 2006: $102 M; 2007: $109 M; 2008: $116 M, 2009: $123 M; 2010: none; 2011: M NBA: M; 08-09: 58.7 M; M; 10-11: 58 M

39 NBA salary cap 2005(06)-2010(11) 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 – 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 is $ million same as the 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

41 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 : 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 42

43 NBA salary cap and avg salary

44 NHL’s CBA 2005(06)-2011(12) 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 billion 56% if LR billion 57% if LR > 2.7 billion Salary cap and salary floor Penalty for exceeding salary cap: 100% tax Escrow system

45 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 Minimum: 450 K in , 475 K in , 500 K in , 525 K in Drafted players: contract with limits of salary and length No CBA after Sep, 2012

46 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?

: $148, 2008: $155 M, 2009: $162 M 2010: $170 M, : $178 M, 2014: 189 M MLB luxury tax

48 MLB luxury tax

49 MLB luxury tax threshold: avg (5th+6th highest payroll)

50 NBA individual and team salary, m/salaries.htm

51 NBA luxury tax

52 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

53 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

56 Organization 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

57 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

59 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

60 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

61 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 JeterDerek Jeter The NBA has 10 players earning at least $4 M annually from endorsements NFL has 5 players at that level /

63 IMG IMG Academies academy/baseball-department/sports-facilities/ academy/baseball-department/sports-facilities/ academy/basketball-department/sports-facilities/ 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 international/img-sold-23bn-deal international/img-sold-23bn-deal