July 28, 2000
The Daily Prospectus
The Imbalance Sheet
(Keith Law's The Imbalance Sheet, a look at the business of baseball, will run every Thursday beginning August 3.)
Don't Believe Everything That Agents Tell You to Read
Jeff Moorad, agent to such baseball stars as Raul Mondesi and Manny Ramirez, has a reputation as one of the industry's shrewdest operators. Indeed, his ability to engineer fantastic deals for his clients (such as Mondesi's contract extension from Toronto, or Wil Cordero's inane contract from the Pirates) bears that out. But sometimes, the shrewd go a little too far in their negotiations, particularly when they take the equivocations of the negotiating table out into the realm of the public.
Case in point: Moorad's pronouncement this week that the Indians were offering Manny Ramirez a raw deal by asking to defer $25 million out of the five-year, $75MM deal, paying it out to Ramirez over the years 2001-2025.
Moorad's claim? "The way we calculate Manny's contract, it would be worth $10 million to $11 million a year because of the deferred money." It would be kind to say that he's doing anything other than lying. Moorad chose his words to take advantage of the fact that most Americans aren't familiar with financial concepts like the time value of money. Thus, by comparing one number that isn't discounted for time with another that is, he makes the difference between the two offers seem much larger than it actually is.
The time value of money is one of the most important concepts in modern finance, perhaps second only to the concept of risk. The time value of money refers to the fact that $100 today is worth more than $100 five years from now, because you could do something with $100 today to turn it into more than $100 five years from now. You could buy a bond and earn interest-- around 7% a year right now in the US. You could invest it in stocks and earn 10-12%. Hell, you could stick it in a savings account and earn 1% - not much, but better than nothing.
So giving someone the choice of $100 now and $100 five years from now isn't an apples to oranges comparison. That problem gave rise to the method of discounting known as a present value calculation, which allows us to give one number to answer the question, "What is the value today of $100 five years from now?"
To calculate this, you need to know one other number--the discount rate, which is usually just the interest rate available on a short-term government bond. For this example, let's say 7%.
To discount a payment in year n, you use the formula PV = FV/(1+i)^n, where
PV = present value of the payment FV = future value of the payment (here, $100) i = annual interest rate (here, 7%) n = number of years from now in which one would receive the payment (here, 5)
So $100 five years from now discounted at 7% is equal to 100/(1.07)^5 = $71.30, a substantially different number than what the original comparison presented.
Back to Moorad's Moanings
So coming back to Jeff Moorad's claims, you can see how easy it was for him to manipulate the numbers to make it look like Cleveland is trying to stick it to his client by deferring some of the money in the proposed contract. Moorad gave the reporter for the Plain Dealer a number that had been discounted without giving him a number discounting the value of the contract without deferred money. That way, the difference looks much bigger than it really is.
To give BP readers a sense of how much money Cleveland is asking Ramirez to forego in his new deal, I calculated NPVs (Net Present Values) on three contract structures: five years, $15MM per year (contract A); five years, $11MM per year, plus $1MM per year from 2006-2025, which appears to be Cleveland's proposal (contract B); plus a "worst-case" structure where Ramirez would receive all non-deferred $50MM in 2005 plus the deferred payment in a $25MM lump-sum in 2025 (contract C).
Contract NPV No NPV $75.00MM A $61.50MM B $52.66MM C $40.26MM
Moorad is clearly making the comparison between the no-NPV number and contract B, since Contract B turns out to be about $10.5MM per year. But the appropriate comparison to make is Contract A to Contract B: reducing the value from $12.3MM per year to $10.5MM per year. That's about half the difference Moorad tried to portray, and makes Ramirez' position look much worse in the eyes of the fans.
The recent trend toward taking contract negotiations into the media--Barry Larkin and Jason Kendall have also soiled their good-boy images with tough stances in recent contract talks--is doing enough damage to baseball's reputation without mendacious agents trying to mislead the public. If Moorad doesn't want to put real numbers in front of the fans, he should keep all the numbers in the smoke-filled rooms where they reside.
Keith Law can be reached at email@example.com.