SABR: Digging deep into the salary pool

When I was asked to join the SABR case competition team, my first thought
was: how am I going to sell a “baseball class” to my boss? By the time our
team left Phoenix, I knew that the case competition had been one of my most
valuable MBA experiences.

At the root of it, baseball teams are just large, private businesses (who
happen to have fans who live and die by their success). Teams are owned by
a small group of super wealthy owners with a few, very expensive employees.
In 2012, the average franchise was worth $600M and seeing strong revenue
growth.
At that same time, the average player was paid between $2M to $6M,
depending on the team, with overall payrolls ranging from $55M to $197M, showing even stronger growth. At the end of the day, baseball owners want to do the same thing that other business owners do: grow revenues faster than their costs. Oh, and owners want to win, too.

To do this, baseball owners and general managers must make both short and
long-term front office decisions that strategically position their team to
succeed given their team’s revenue constraints. Organizations like the
Oakland A’s have to build (develop players in their farm system) while
teams like the New York Yankees can afford to buy.

To test our mettle in working out these front office decisions, Vince
Gennaro, President of SABR, developed a case called “The Mike Trout Dilemma.”  Mike Trout had a breakout 2012 season with some comparing him to the likes of Mickey Mantle. Unless the Angels take action, Trout will be paid under his rookie/arbitration contract through the 2017 season. After that, he will
become a free agent. For the case competition, we were tasked with developing a contract strategy to maximize Trout’s value to the Angels.

To answer this challenge, we developed a performance model for Trout based
on other similar breakout rookies. Our model factored in the chance of risk
and under performance based on the historical risk for other breakout
rookies. We then married Trout’s projected performance with an estimate of
the free agent cost of replacing Trout to develop an envelop of potential
salary offers that were advantageous to the Angels while allowing Trout to
unlock and time shift some of his earnings.

We concluded that the Angels should offer Trout a nine year, $195M contract
($21.7M per year on average). This contact would allow the Angels to keep
Trout through the 2023 season while also providing financial security to
Trout. You can check out our entire presentation here.

While we did not win the competition, the general approach we developed is
applicable to the types of problems that any business faces. The role of
asset valuation is the same whether you are evaluating infielders or
intellectual property. The case competition provided a unique opportunity
to develop techniques and compete against MBA students from other programs.

Written by: Ryne McCall

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