Einstein and MacGyver Solve the NBA Lockout

Since it’s Labor Day weekend, I thought it an appropriate time to propose a way to end a labor dispute.  Specifically, the NBA lockout.  This article is the first of three.  They are:

1.         Einstein and MacGyver Solve the NBA Lockout

2.         Handling special circumstances using the new structure.

3.         How to implement this system now and why it’s to everyone’s benefit to do so.

Einstein and MacGyver Solve the NBA Lockout

How do they do that?  Well, first we paraphrase Einstein – “the thinking that got us to where we are today is not the thinking that will get us to where we want to be tomorrow”.  Now Einstein was a pretty smart guy, so let’s give him the benefit of the doubt here and think a little differently.  That will mean both looking at a unique solution and then looking at any deficiencies in the solution as obstacles to overcome and not reasons that it can’t be done.  Odds are pretty good that it can be.

What about MacGyver?  Well he was great at taking stuff that was lying around and didn’t look like it applied to anything important going on and turning that stuff into a way to save the day.  Although we’ll be thinking about things differently, per Einstein, we’ll be doing that different thinking using things that we have “at hand”, per MacGyver.  And I think I’ll be able to get a gratuitous Matt Damon / Will Hunting reference into this (in addition to this sentence right here) as well.

Some Basics about the NBA Contract Dispute

Owners want to make a profit.  Players want to make as much money as they can.  Owners want a hard cap and for the players to swallow a $750M drop in salaries.  Players don’t want a hard cap.  Probably don’t want to have the $750M drop, either.  Players want to keep Bird Rights.  Owners want them off the table.  Etc., etc., etc.

A Major Cause of the Problems

I knew that sooner or later, the MBA Accounting class I took would be worth the pain of sitting through it.  Now is that time.  I’m going to talk about expenses and revenues.  I’ll try to make it interesting, but don’t operate any heavy machinery, just in case.

NBA salaries are for fixed amounts (with some players also having bonuses for things like All-Star appearances, etc.).  What I mean by this is that you can look at a player’s contract and know exactly what he’s going to make for the season.  It’s not going to be “he’ll make somewhere between $8M and $12M based on…”.  The only real variable that comes into play is for any salaries that are earmarked off the salary cap figures that are released after some of the contracts are signed.  But once the salary cap figures are calculated and released by the League, any guessing about the exact dollar value of those contracts ends as well.

Other player expenses, such as flying charters to 41 away games, staying in luxury hotels, per diem for travel expenses, etc., are also fixed (and substantial).  So, with some minor wiggle room, the cost to pay players and have them at all the games is known before the season begins.  In accounting terms, these are called “fixed expenses”.  And assuming no trades and no need to add additional players because of injuries to the original team, the expenses will remain fixed.  And significant. 

But revenues are not fixed, they are “variable”.  And they are variable on at least two levels: how many people come to the games and how much can those people (and the team’s market, in general) afford to pay for a ticket?  I’m not sure how television money is divided up and don’t want to research it at this point.  But if teams that are on national television get more money than teams that aren’t, this will also vary based on three factors: what stars does the team have, how well is the team playing and how big is the market?

Small market teams normally don’t do very well based on some of the criteria in the previous paragraph. 

So we have substantial “fixed expenses” and sometimes limited “variable revenues”.  This has long been a recipe for disaster and we’ve seen it cause problems in many industries over the years, not just the NBA.  It’s just that with the NBA, the numbers are sooo much bigger.

What the Owners Want and Why It’s Not Good for Them or the Players

As previously mentioned, there’s talk about a hard salary cap and about the players giving back about $750M in salaries.  We don’t have to say too much about why the latter is bad for the players, so let’s not. 

The hard cap, however, is an attempt to fix a problem that we’ll deal with in the next article.  It provides a way for an owner to say “no” to a player without insulting him.  Right now, that doesn’t really exist and it’s another big part of why the league and players are squaring off over a new CBA.  It needs to be addressed and I’ll give you more on why it’s a problem and how to solve it without a hard cap in the not-too-distant future.

The other reason that a hard cap is a problem is that, if a team does very well financially, the players won’t share in that extra success.  And if a team is spending the limit (for example) and the team does poorly financially, the team will bear the burden of that alone.

And, as will also be expounded upon in the next article, fixed salaries often hurt the level of play, contributing to the poor showing at the gate.

Some Other Targets for the New Solution to Hit

In addition to being profitable for the players and owners alike, the new solution should also resolve some other ongoing complaints from knowledgeable observers of the game.  Things like the handful of players who sign a deal and then don’t really seem motivated until the last year of that deal comes around.  Things like the rare situations where players mutiny on a coach and do so in a way that’s detrimental to the organization.  The, fortunately rare, times that a player gets in trouble with the law and the fan base reacts by backing away from the team.  If we can find a way to “fix” those things along with the salary structure, that’d be sweet.

The Concept

Can we find a way to keep salaries in balance with revenue; allow the players to partly control their salaries with their efforts; ensure that owners invest at least a minimum dollar amount in players’ salaries; better motivate players; and hit the other targets mentioned above?  In MacGyver-esque fashion, can we find something that’s lying around looking like it doesn’t apply? 

(Of course you knew that the answer was “yes”.  I’m writing this piece and it would have been pretty dumb to reference MacGyver and then not be able to find anything that fit…)

What’s lying around that we might be able to use?  How about the stock market.  That’s right, that roller coaster that drops 800 points because people panic about nothing.  Can we take something that looks so wrong in its present form and make it work well in another?  I think we can.

I’ve got to talk financial stuff here for a second.  Since my Will Hunting days are behind me (gratuitous Matt Damon reference here, too), I’m going to keep things at a high level and the numbers simple.  That’s for my benefit but hopefully will be for yours as well.

Currently, the NBA Players get 57% of the “basketball-related” revenue.  Let’s stick with that for this deal, too.  And I saw some figures that showed that NBA teams were averaging around $104M in basketball-related revenue.  Let’s use $100M for the example, remembering that some teams may be under and some over.

Instead of giving players a guaranteed $57M per team (which ends up hurting the smaller markets), let’s give them $57M (estimated) in “stock” instead.  Let’s create non-tradable shares of stock with each share worth $50K (estimated).  We would probably want to create the shares with a $5K value but using $50K for the example keeps the numbers simpler and makes me feel like I’m investing in Berkshire Hathaway.  Well, at least investing in half shares of Berkshire Hathaway ($110K per share as I’m writing this!).

Back to the NBA: if each share is worth $50K, then we need to create 1,140 shares to equal $57M.  But we’re not going to spread all of those 1,140 shares amongst the players right away.  First, we’re going to take 20-25% of those shares and put them in “escrow” to be dispersed during and at the end of the season (more on that later).  Let’s use 20% for the example.

1,140 total shares – 228 escrow shares = 912 shares to give to the players at the beginning of the season.  And those 912 shares represent just 80% of the players’ salaries.

According to the salary statistics on www.Hoopshype.com, the Milwaukee Bucks are a team in the middle-of-the-pack for team salary ($52.9M in the ’10-’11 season).  I’m going to use them for the example, realizing there are issues that need to be addressed for teams that are at the ends of the spectrum (top salaries, bottom salaries).  We’ll deal with a lot of those issues in the next article.

Here’s what the Bucks’ salaries and “stock holdings” look like at the beginning:

Player                          Salary in Dollars      Salary in $50K Shares             Shares @ 80%

Andrew Bogut               $12,100,000                      242                                           193.6
Stephen Jackson           $9,260,000                      185.2                                        148.16
Beno Udrih                      $7,232,500                      144.65                                     115.72
Drew Gooden                 $6,200,000                      124                                             99.2
Carlos Delfino                $3,500,000                        70                                             56
Shaun Livingston          $3,500,000                         70                                             56
Ersan Ilyasova               $2,514,000                         50.28                                       40.224
Brandon Jennings         $2,493,720                        49.875                                    39.9
Keyon Dooling                $2,160,000                        43.2                                          34.56
Larry Sanders                 $1,861,920                        37.24                                       29.792
Luc Mbah a Moute          $1,091,100                        21.822                                     17.458
Jon Brockman                 $1,000,000                        20                                             16
                                        ——————–                   ————–                             ————-
Total                                $52,913,240                     1,058.267                               846.614

Since we had 912 shares left after we dumped 20% in escrow, this means that we have an additional 65+ shares to go into the escrow account after giving the players the shares to cover 80% of their salary.  At this point, we have 847 (rounded) shares for specific player salaries and 293 in escrow.

Is a share really worth $50K?  No, it’s worth 1/1140^th of 57% of basketball-related revenue that the team realizes for the season.  Here’s what happens based on different levels of revenue, using Andrew Bogut’s salary as the example:

Basketball-Related Revenue  57% of B-Ball Rev     Share Price      80% of Bogut Salary

      $100,000,000                           $57,000,000          $50,000                   $9,680,000
      $125,000,000                            $71,250,000         $62,500                 $12,100,000
        $75,000,000                            $42,750,000          $37,500                   $7,260,000

As you can see, if basketball-related revenues actually equal $100M, the $50K share price we estimated at the beginning of the season has held.  If the team brought in more revenue, the share price goes up accordingly.  If it brings in less revenue, the share price drops accordingly.  One very real possibility here is that a max player in a large market will make more money than a max player in a smaller market.  But the max player from the smaller market will still make beaucoup bucks.

Back to the example: right out of the gate, we see some benefits.  If the team plays hard and plays well and its market embraces the players, revenues will go up.  And salaries go up with them.  If the team plays badly and alienates the fan base (as happened years ago in Portland and Indiana when some of the players repeatedly got into legal troubles), revenues go down.  And salaries go down with them.

Players will reap what they sow.  And while they’re on the hook, in some ways, because the salary isn’t a guaranteed amount, we provide rewards for good play, good effort, and good character and provide penalties for their opposites.

It’s often said that the right voice in the locker room can be more influential than the coach’s voice.  How much will a player be allowed to coast when it affects the salary of his teammates as well as his own?  How much trouble will a player get into when his bad actions cost his teammates, too?  How much more quickly will a team leader say something to the offending player?  Salaries based on share price give everyone on the team a reason to be supportive of everyone else.

Although we’ll deal with escrow more fully in the next article, it will be used to pay players that must be brought in because one of the original group is injured for the long term.  It’ll also be used to pay a variety of bonuses.  There should also be some guaranteed minimums for players on their first contracts and those on their last.  And don’t forget the other 20% of the players’ salaries that we haven’t addressed yet.  I’m sure that they haven’t.

Two rules of the road here:

1.         Every penny of the 57% of basketball-related income will be paid to players.  There’ll be no incentive for ownership to do something fancy in order to save on salaries.

2.         There must be, as there is now, a minimum figure that an owner spends on player salaries in a season, regardless of revenues.  This not only allows each team to go after the talent that it needs to compete, it limits the downside risk for the players.  Unlike the stock market, there’ll be a minimum price per share that can be counted on by everyone on the team.

Wrapping This Up, For Now

This is a real paradigm shift and I expect there to be a lot of comments about it.  Paying players, in large part, based on their levels of success is a strange concept but one that will ultimately keep the players from taking a massive outright hit to get a new CBA; let all teams be profitable; and raise the quality of play.  There’s not a lot of downside to it.  The upsides are numerous, including getting a full season started ASAP; eliminating player losses because of a lockout; and allowing players to make more when their teams make more.  Pretty sweet.

Please post your thoughts and pass the idea around.  I’m interested to read what you have to say.

Article 2 will be out in a few days.  Thanks for your time and attention.  You can go back to operating that heavy machinery now.