NHL CBA – The economics of long-term contracts

When I first heard about the owners initial CBA proposal to the NHLPA, my first reactions were surprise, disappointment and ‘not cool’.  This may have been the owners initial negotiating point from which they would move back towards numbers similar to the CBAs negotiated in other leagues, but without additional context it reflects poorly on the NHL.  Such an extreme proposal requires explanation to justify their position.

I had not planned to address the new CBA with Puckonomics, but now that the negotiations look to be challenging right from the start I think there are at least a couple of topics that directly match what Puckonomics is all about. There are several economic and financial attributes which directly relate to why the owners are asking for certain terms in the latest bargaining session.

One of the most important pieces of the CBA puzzle is what percentage of revenue sharing should the players receive? I will save that analysis for my next posting.  First, I would like to discuss the owners initial proposal to limit free agent contract lengths to 5 years.

Let’s start with basics contract value and term.  The theory behind any multi-year contract is that the player will deliver about equal value via their performance to the future cash flows received from their contract.   The challenge is that as the contract length goes longer and longer the predictability of the player performance and thus the value they deliver becomes less certain. There is significant risk inherent in these long term contracts to the teams.  Because NHL contracts are guaranteed all the risk is borne by the teams and not the player.  Taking injuries out of the equation (which can be partially addressed via insurance) this creates an asymmetric model where players do not have a financial incentive to perform. Of course there are many other incentives a professional hockey player has to perform, but this lack of alignment is a real concern.

A counter-argument is that if the owners want to give out these long term contracts at their own will, as they have in recent weeks, that is their choice if they want to take on that risk.  However, what we have seen is an arms-race type of situation based on the current CBA as teams compete for elite talent, and the only way to secure their services is to offer long term contracts. Reasonable length contracts are no longer an option.

At Puckonomics we want to see the NHL be an efficient market, where player compensation is as close to the value they create as possible. We don’t side with either the players or the owners. So when a situation like contract length arises we just want to provide an economic perspective on how to deal with specific situation.

That being said, long-term guaranteed contracts remove efficiency from the NHL market.  Other leagues like the NFL do not have many guaranteed contracts.  If the NHLPA does not want to accept non-guaranteed contracts or some hybrid thereof, from an economic view, limiting the length of contracts to a more reasonable, predictable time period to reflect the true value of a player may be in order.  We do not know if it should be 5 years or 7 years or whatever (a further analysis on performance by elite players over several years would be required), but limiting the length of contracts to some single digit number does not sound unreasonable from an ‘economics’ perspective.

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