Sunday, July 15, 2007

Massive loophole in the NHL salary cap?

The NHL's labor agreement has a loophole that allows teams to skirt the salary cap almost at will. That is, if I correctly understand Michael Farber's article in the July 16 Sports Illustrated (which I couldn't find online – maybe it's not up yet?).

According to Farber, when a player is given a multi-year contract that doesn't pay the same amount each year, the team's salary cap is debited the average annual amount. For instance, Daniel Brière signed with the Flyers for $52 million over eight years. That's an average of $6.5MM, which will be charged each season against the Flyers' cap. But for the eight years, Brière is actually being paid $10, $8, $8, $7, $7, $7, $3, and $2 million, respectively.

While this contract does add up to $52 million, its present value is obviously much higher than if it were eight equal payments. At an discount rate of 10%, the present value of Brière's contract is about $39.1 million. If the payments were equal, the PV would be only about $36.4 million. So the Flyers are effectively handing Brière a bonus of $2.7 million, right now, without it affecting the salary cap.

Obviously, the Flyers could game the system even worse, by paying Brière $51,999,993 this season, but only $1 for each of the last seven seasons. It still adds up to $52 million, and $6.5 million on the cap each year. But now the present value is $49.6 million, for a salary-cap-free bonus of $13.2 million.

That might be a bit obvious, though, and Gary Bettman would probably take notice.

Now, suppose the Flyers are so rolling in money that they're willing to pay Brière something completely unreasonable, like $50 million a year for 20 years. Technically, they can sign him to a billion year contract, at $1 per year, and front load all the money into the first twenty years. The cap gets charged $1 per year, for a billion years – and the Flyers barely notice. Brière gets rich, and the cap (in spirit, if not in letter) is blown away.

Of course, even if Gary Bettman could ignore the front loading, he couldn't let a billion year contract slip by. So here's another trick. According to Farber,

"Under the collective bargaining agreement, if a player signs a multi-year deal before the age of 35, and retires before it finishes, there is no salary-cap charge for the unplayed seasons."

So, suppose you want to sign a 34-year-old free agent to a six-year, $120 million contract, and the player plans to retire at 40. You'd normally take a $20 million hit to the salary cap each of the six years. But what if you sign him to a twelve-year, $120 million contract, instead, but front-load the contract onto the first six years? Now, his salary cap charge is only $10 million a year. And, when he retires at 40, the last six years of cap charge disappear completely. So you've doubled his salary over the cap charge, and gotten away with it!

If I understand this right, front-loading has the potential to undermine the intent of the salary cap, and allow the rich teams to continue to outspend the poor teams. Maybe in negotiating the agreement that ended the lockout, the NHLPA was a lot smarter than everybody thought?

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At Sunday, July 15, 2007 10:44:00 PM, Anonymous Anonymous said...

I am not quite sure the loophole is valid but for sure you can only front load so much because no player can make more than 20% of the salary cap (i.e. ~10 million for next season). But what is interesting is there are no rules about padding the back end of the contract with $500,000 seasons. For example, last season the Isles signed DiPietro to a 15 year contract at an average annual salary of $4.5 million. But why wouldn't they have signed him to a 20 year contract padding 5 seasons of $500,000 salary on the end. Doing so would have effectively brought his average annual salary (i.e. the cap hit) down to $3.5 million with very little extra risk on the part of the team (the only risk is he plays until he is 44 collecting $500,000 likely in the minors) but the benefit is gaining $1 million in cap space per season.

At Monday, July 16, 2007 12:10:00 AM, Blogger Phil Birnbaum said...

Excellent point about DiPietro ... does anyone know why the Islanders didn't do what David suggests?

At Monday, July 16, 2007 11:43:00 AM, Anonymous Anonymous said...

Leave it to Bettman to screw something else up...

At Monday, July 16, 2007 3:23:00 PM, Blogger Everything But the Game said...

The Islanders DID do this with DiPietro. That is why the deal is for 15 years. Realistically, they only expect 8-10 good/great years from him. But by padding the contract by another 7-10 years, they reduce the hit against the cap.

At Tuesday, July 17, 2007 5:12:00 PM, Blogger James Mirtle said...

There's actually provisions against years in a contract varying to the degree you're talking about here.

At Tuesday, April 15, 2008 9:48:00 AM, Anonymous Anonymous said...

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