February 28, 2012

Baseball ProGUESTus

Sizing Up the CBA Again

by Dustin Palmateer

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Dustin Palmateer once played division III junior college baseball, finishing with a career batting average below the Mendoza Line. He now writes about the game. You can reach him via email.

In late November of 2011, Major League Baseball and the Players Association reached a new five-year Collective Bargaining Agreement (PDF), guaranteeing 21 straight years of labor peace. The new CBA features some radical changes, however, and many fans, analysts, and executives are worried about how those changes might impact an already sizable gap between small- and large-market franchises.

The biggest changes in the newly constructed CBA involve how much teams will be able to spend on prospects, specifically in the Rule 4 Draft and the international market. Previously, while the Commissioners’ office strongly suggested how much teams should spend on draft pick signing bonuses via slot recommendations, there was no hard limit in place. Further, there was no cap on international signings.

To recap, here are some of the highlights of the new CBA:

• Teams will have a signing bonus pool with a specific amount of money allotted for spending on the first 10 rounds of the draft. The amount will be based on where they pick in each round and how many picks they have.
• Signing bonuses after the 10^th round will not count against a team’s signing bonus pool if they do not exceed $100,000.
• Teams that exceed their spending threshold will be penalized in the form of a tax on the amount spent over their signing bonus pool and a loss of future draft picks.
• There will be a competitive balance lottery, awarding six draft picks to small-market, small-revenue teams following the first and second rounds.
• In the international market, teams will also be given a signing bonus pool and will be penalized for exceeding it.

In this article, we’ll focus on the Rule 4 Draft.

Ignoring recommendations
Over the years, Commissioner Bud Selig has handed out “slot recommendations”— suggested dollar amounts teams should spend on each draft pick—before each draft and strongly urged teams to follow the guidelines. For instance, in 2007, MLB recommended that the first pick in the draft sign for $3.6 million and the 30^th pick for $945,000. In last year’s draft, those recommendations had only grown slightly over five years ($4 million for the first pick and just under $1.1 million for the 30^th).

A number of organizations have followed Selig’s guidelines, although it isn’t mandatory and no punishments are handed down when a team blows them away (as long as they follow a set procedure before doing so). However, in recent years, the slot recommendations haven’t grown along with the industry’s willingness to spend on amateur players, making the whole “slot system” look broken and likely infuriating Selig and those looking to keep draft expenditures down.

Here’s a look at how the first-round broke down from 2007 through 2011:

I defined an over-slot selection as at least $200,000 over the recommended slot for that pick. You can see that while the recommended slot total has actually decreased since 2008, first-round bonuses have generally continued to rise, outside of 2010 (when three of the first 14 picks failed to sign), peaking at a record $81.9 million in last year’s draft, which featured a very talented, deep class). The actual bonus totals are just that and do not include major-league contracts.

I should note that slot recommendations are confidential, and the estimates here are from Baseball America, as is much of the draft-related data in this article.

Organizations don’t limit their over-slot spending to first-round selections. In the first 10 rounds of the 2011 draft, according to Jim Callis (BA sub. required), teams spent $191.9 million on draft picks, while the slot total for those picks was just $133.3 million. The Pirates, Royals, and Nationals spent well over double their respective slot totals. Only eight teams spent under slot.

Some over-slot highlights beyond the first round in 2011 include the Nationals signing outfielder Brian Goodwin for $3 million (34^th overall pick), the Pirates signing outfielder Josh Bell for $5 million (61^st pick), the Padres signing catcher Austin Hedges for $3 million (82^nd pick), and the Orioles signing catcher Nicky Delmonico for $1.5 million (185th pick).

With draft spending out of control—at least in relation to Selig’s wishes—and the new CBA on the table this offseason, it was clear that reform in this area was imminent. 

Large-market vs. small-market spending
The main concern regarding changes to the draft is that small-market, small-revenue teams like the Pittsburgh Pirates, Kansas City Royals, and San Diego Padres will be negatively impacted. In recent years, while large-market teams like the Yankees and Red Sox have continued to flex their financial muscle on big-league payrolls, small-market teams like the Pirates and Royals have gone on spending sprees of their own in the amateur draft.

Since 2007, only two organizations have spent more than $50 million on draft bonuses, the Pirates ($52.1) and the Nationals ($51.1). Only four others have spent over $40 million: the Royals ($45.2), the Red Sox ($44.1), the Orioles ($41.2), and the Rays ($40.6). Only one, the Red Sox, could be classified as a large-market team.

Below is a chart of the top five and bottom five draft spenders per year (’07-’11), compared to their average major-league payroll over the same period. Draft data from Baseball America and payroll figures from BP’s own Cot’s Contracts:

Google Docs spreadsheet for data on all 30 teams

Draft and payroll index put spending in context, with 100 being league average and 150 being 50 percent higher than league average. Below is a chart with all 30 teams:

As you can see, there isn’t too strong a relationship between payroll and draft spending. If anything, small-market (small-payroll, at least) organizations are slightly more likely to be big spenders in the draft than their large-market counterparts. Of course, there are multiple explanations for why this might be true.

One, small-market teams like the Pirates and Royals have been getting smarter and spending big dollars in the draft in effort to build from within. They can compete with their large-market foes in this area, where $10-15 million buys an elite draft class, as opposed to the free-agent market, where it buys two years of Aaron Harang.

That said, the Pirates and Royals have also had picks at or near the top of the draft each year, giving them first dibs at the best prospects and their accompanying hefty price tags. If we reversed the draft order, letting the best records—generally, those of large-market teams—select first, there would certainly be changes in spending patterns.

Of course, the draft is set up with the lowest records at the top for competitive balance purposes, and many small-market teams have been taking full advantage.

So, who is really punished?
Every organization looking to spend significantly over-slot money in the draft will be hurt by the new policy. First, let’s take a closer look at the penalties for exceeding a team’s respective signing bonus pool:

There are stiff penalties in place for exceeding one’s signing bonus pool by more than five percent, including a tax on the overage and a loss of future high draft picks. A rebuilding team expected to receive a high draft pick in the following season can’t risk losing that pick, unless it’s trying to reel in an elite, once-in-a-decade talent like Bryce Harper.

It’s hard to spot the loopholes in this policy. As mentioned earlier, if teams exceed $100,000 in bonuses for a pick after the 10^th round, that dollar amount will be counted toward their signing bonus pool. Further, if a team decides to forgo a selection—a high first-round pick, let’s say—that money ($5 million, for example) will be deducted from that team’s signing bonus pool.

With 2012 signing bonus pools recently published, I wanted to take a look at how teams would have been impacted if this policy had been in place for last year’s draft (theoretically, of course, since teams would not have spent as much if the policy had actually been in place last year). Below is a chart with a few selected teams’ estimated signing bonus pools for last year’s draft, the actual bonus total for their selections through the first 10 rounds (plus bonuses in excess of $100,000 past the 10^th round), and the penalties they would have triggered:

The Pirates and Royals, who paid little heed to slot recommendations (and my estimated 2011 signing bonus pools), would have been severely punished if this policy had been in place last year, getting taxed $6-7 million and losing two future first-round draft picks. That was expected.

Perhaps more interesting, consider the Cleveland Indians, who spent over $1 million on only two picks, didn’t sign their eighth-rounder, and still incurred the maximum penalty. The Indians spent $1.4 million to reel in signability risks from rounds 11-20, including $250,000 on 14^th-round right-hander Cody Anderson to lure him away from a TCU commitment. While this new draft policy will limit big signing bonuses in the early rounds, it will also prohibit teams like the Indians from stockpiling good prospects in the mid- to late rounds.

The Red Sox, one of the large-market draft spenders we mentioned earlier, are going to have to change their spending habits as well. They haven’t given out any huge bonuses since 2007, but they have frequently gone over-slot in the middle rounds. Considering the Red Sox will usually have a relatively small signing bonus pool (it is $6.9 million in 2012) due to selecting late in the first-round, they likely won’t be as able to spend big dollars in the middle rounds going forward.

The Yankees, despite not having a first-round draft pick, not signing their second-rounder, and spending over $1 million on just one pick, still easily exceeded their modest estimated draft cap.

As mentioned, it’s clear that the draft changes will affect any organization looking to spend big dollars, be it the small-market, rebuilding Pirates or the large-market, perennially contending Red Sox. The consensus, however, is a concern for the health of the small-market organizations, primarily because their most sustainable route to long-term success will likely come from building a productive farm system. 

While teams like the Red Sox and Yankees rely heavily on procuring talent on the farm, most of their resources are spent on big free-agent acquisitions and contract extensions. Further, they already have established a winning track record and the revenue stream that comes with it—packed stadiums, big TV contracts, merchandising, and brand recognition.

The struggling small-market team’s only way to approach that point is through developing homegrown talent, as it can’t compete on the free-agent market for players like Albert Pujols, Prince Fielder, or Jose Reyes. Regulating spending in the draft may impact everyone, but one could certainly argue that it will hurt the teams that need to rely on draft and development successes the most.

Consider the aggregate of a team’s draft spending and major-league payroll as a simplified representation of how much they spend yearly on player talent. The chart below shows which organizations rely most (and least) heavily on draft spending compared to payroll (avg. year from 2007-11):

An uncertain future
Despite speculation, the long-term effects of these CBA changes won’t be fully understood until we are able to see them in action, starting with this year’s version of the amateur draft in June. While many teams will undoubtedly have to alter their spending habits, it’s unclear to what degree they will have to adjust.

An unintended consequence of these new policies, also widely discussed elsewhere, is the number of players MLB could potentially lose to college, or worse, other sports altogether, like football and basketball. Previously, prospects with leverage (oftentimes high-school draftees with college scholarships or two-sport athletes) could hold out for over-slot bonuses. While these players will still be allowed to hold out at their heart’s content, organizations may not be able to sign them to over-slot deals as they have done so frequently in the past.

Future two-sport athletes like Joe Mauer may ultimately be more likely to forgo signing with a major-league team if that team can’t reach the player’s bonus demands. Mauer, you may recall, passed up a scholarship at Florida State to play quarterback when the Minnesota Twins drafted him with the first pick in the 2001 and promptly handed him a $5.15 million signing bonus.

Hopefully, for both the general health of MLB and the competitive balance between small- and large-market organizations, these changes won’t be as damning as many are anticipating. All of the baseball world will be watching—many with a critical eye—come June 4^th.

Dustin Palmateer is an author of Baseball Prospectus. Follow @sacbuntdustin
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