Players Escrow, Revenue Sharing, and the Kovalchuk Contract

Since the Ilya Kovalchuk contract was announced, rejected by the NHL, and defended in a grievance by the NHLPA, the hockey world has been awash with discussions on all sides of the spectrum about the legality of the case and the financial impact to both the league and the players.  Among these surfacing issues is the concept of what front-loaded contracts do to the NHLPA's escrow payments and how players getting paid above their cap hits hurt every member of the NHLPA.

Tyler Dellow of mc79hockey.com wrote a breakdown last December of the impact to each player caused by the differences between salaries and cap hits of nine of their association brothers in the event of an escrow payback like what has happened each of the previous two seasons.  This season, players' escrow gave back about 12% of league salaries, a slight decrease from the 12.9% handed back the season prior.  A few people have taken this concept as a reason the NHLPA should never have filed a grievance in the first place, instead stating that they should have let Kovalchuk twist in the wind for what he's tried to do.  I think this would be tactically irresponsible and strategically damaging for the NHLPA.  More after the jump.

 


First, let me preface with the idea that Tyler is absolutely right and that the concept of very few players making more than their share of league revenues as a way to lower their cap hits to benefit the large-market teams is damaging to the concept of overall league parity and to the Players' Association as a whole.  Just like the salary cap had to be implemented to protect league owners from themselves, I believe something has to be done to protect players from themselves.  Dirk Hoag at On the Forecheck wrote a good article explaining ways to keep these contracts in check while still allowing some wiggle room for creative accounting when signing players.  While I won't touch on whether overall league parity is a good or a bad thing, I would like to discuss what NHLPA infighting over big-term contracts means.

The argument that nine players cost Shawn Horcoff about $2,800 apiece from his $6,500,000 salary based on the previous season's escrow payments may be true and it may be something against which the NHLPA should act, but doing so by leaving Kovalchuk out to dry while refusing to file a grievance would be leaving a large wooden stake in their stomachs while they're busy quabbling about splinters.  This whole argument hinges on an acceptance that the players should have to be paying escrow back in the first place.  There are a lot of factors that went into the 12.9% escrow repayment after the 2008-09 season, the biggest being the hit to the overall North American economy which drove league profits down.  I don't think there was anything the league or the players could have done to have avoided an escrow payback in the summer of 2008.  Hindsight is nice, but there's just no way I can say that the NHL should have seen an economic downturn coming when nearly nobody else saw it either.

Unfortunately, what this taught the league is that the players are an insurance policy for them to protect against falling profits.  Escrow differences in the previous years of the new CBA never exceeded 2.5% of player salaries to be paid back and, in two seasons, players received more money back than they had put in escrow because league profits were higher than expected.  When the downturn happened, the league was stuck.  The fallout from lowering the salary cap significantly to keep the players from having to pay such high escrow payments would have been worse for the league than keeping revenue projections roughly the same and moving forward, hoping that the next season would be better and would bring a bigger bite of profits to benefit everybody.  As a result, salaries increased while revenues stayed about the same, leading to a similar escrow payback.  Unfortunately, another effect was that the salary cap increase left the least profitable teams even farther behind, unable to afford more high-end talent and forced to spend even larger chunks of their revenues on players.

According to this data from Forbes, the 2007-08 Red Wings in the year they won the cup spent only 49% of their revenues on players salaries.  Since the players' share is guaranteed to be no less than 54% and is ideally 57%, the extra money they didn't spend came from elsewhere.  As a comparison, let's look at the Florida Panthers.  They spent 63% of their team's revenues on players' salaries in the same year.  Instead of a system wherein the players keep most of their salaries and the Red Wings pay the Panthers directly for their differences, the Red Wings pay their players more (which they can afford), the players turn around and pay into an escrow pot, then the escrow pot  pays the Panthers, assuming they meet the season capacity and franchise growth requirements to qualify. When there's enough money in the revenue sharing pot, this money covers the difference between a team's payroll and the percentage threshold the players are supposed to receive.  If there's money left over after that, the remainder is split evenly among all teams.  Being one of the top ten grossing teams in the league, the Red Wings do pay more into the revenue sharing pot than others, but not enough to bring their salaries in line to 57% of revenues in a down year for the league.  No, the difference in those situations still come directly out of the players' pockets to the tune of over $200 million for each of the last two seasons.

Now let's assume that the Panthers bring in 5% more revenue this season than they did in 2009.  That would mean they would have a revenue of $77.7M.  The players share of that is 57% or $44.29M.  This year's salary floor is $43.4M, leaving the Panthers less than $1 million to spend over the required salary floor to realistically be spending 57% of their revenues on player salaries.  Keep in mind, $43.4 million is money that they have to spend or be subject to league sanctions, fines, or loss of draft picks.  So, when the Panthers go over their 57%, there are a couple things that can happen. 1) the entire league makes enough money so that the players don't pay any escrow back.  The Panthers get revenue sharing dollars from the rest of the league and, after factoring out other operating expenses, they possibly turn a profit.  Of course, since the league has had a banner year, the salary cap goes up again and the Panthers are stuck with an even higher floor.  2) The league doesn't have a banner year, loses money, or profits remain just about the same; the players end up paying the Panthers for salary differences.  Next, the salary cap either remains the same or goes up again on a 5% inflator, leaving Florida even farther behind.  The concept that Florida should simply pay more salaries to ice a better team and increase their fan attendance is valid, but they only get those first-run dollars in revenue sharing if they're spending below the salary midpoint, which is still $8M below the cap.  Instead of getting first dibs on revenue sharing, they get essentially "second dibs" which is money that may or may not be there.  While I won't disagree that it's possible for a team spending below the salary midpoint can be competitive, I will say that it makes it much harder for them.  If they gamble on spending a lot for a better team and lose, then they've lost out on profits and revenue sharing.

The options on how to fix this are limited.  I think that increased revenue sharing among the teams combined with a lowering (NOT eliminating) of the salary floor would be the best option to help ensure that teams can make money and players won't have to pay back 12% of their salaries into escrow year after year.  The most glaring drawback to this plan is that it can outright hurt competitive balance and create a situation similar to Major League Baseball's wherein the smallest market teams are little more than glorified farm clubs for the teams that can afford talent.  Unfortunately, the NHL currently isn't too far from that right now and at least MLB's smallest markets are still turning profits.  Lowering the salary cap could be another solution, but that will be very hard to pass by the players and I think would cross a line between going for competitive balance and flat-out punishing big teams for being good.  The NHLPA might be sold a rollback of the cap based on the escrow argument, but for the most part, I'd rather be offered $100 and told that I may have to pay $12 back next year than just be offered $88 in the first place.  The next CBA fight is looming large over the horizon and the players need to be as unified as possible coming into what is expected to be a difficult series of talks if they're going to avoid taking a step back from the current deal.  Let the recommendations laid out by Dirk Hoag about contract limits keep the players from hurting each other with escrow when it's applicable (either when they pay it or receive extra back), but don't let the players lose ground on the bigger issue of trying to avoid having to continually pay escrow in the first place by infighting and squabbling over relatively small amounts.  Forcing the NHL to accept the Kovalchuk contract will help the Players' Association because it can be seen as a concession by the NHLPA during the next CBA talks, even though it would benefit them nearly as much as it would the league.

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