Last updated: 9/30/2019
Last updated: 9/30/2019
Last updated: 9/30/2019
The Hidden Salary Cap Benefit: Signing Bonuses
September 8, 2021
Although signing bonuses are rare in the NBA, they could be providing a real benefit to teams and players
In the article I published last week, I advocated that NBA teams could create greater financial flexibility by front-loading more player contracts. This week’s piece is in a similar family to that argument but relates to another way that NBA teams can create greater salary cap flexibility, which is through the use of signing bonuses.
Signing bonuses are very rare in the NBA. In fact, the last one that I recall seeing was Jimmy Butler’s contract with the Bulls all the way back in 2015. (If any readers know of other signing bonuses that I may have missed, please let me know). One reason is because they can actually lower the base compensation, and thus the overall compensation received since raises are calculated using base compensation, if a player is signing a max contract. However, I would also argue that, due to the time value of money principle, max players should still push for signing bonuses, and it could benefit teams as well, as shown by some of the details below. However, there are plenty of non-max contract scenarios where I think signing bonuses could be a no-brainer for both sides.
For example, imagine a team signs a player to a four-year, $100 million contract. With normal 8% raises, the contract may look as follows:
For the sake of simplicity, let’s say that this player did not get any advances on his salary, and thus his salary is received in semi-monthly paychecks. His cash received each year would equal 1/24 of his salary for that season, and his salary cap hit would equal his salary for each season.
Now, if part of the agreement between the team and the player was that he would receive a 15% signing bonus in order to get to $100 million (15% of total compensation is the maximum signing bonus allowed under the CBA in this scenario), he would receive $15 million upon signing and his base salary would be as follows:
The cap hit on the signing bonus is spread in proportion to the percentage guaranteed each season, so it would be spread evenly in this scenario given that he each season is fully-guaranteed, as follows:
Although the player gets the same amount of money either way, he would definitely rather have the signing bonus, because it gives him more money up front, and thus he gets to take advantage of the time value of money concept. However, the team would rather him not have a signing bonus for the same reasons. This could be one reason why signing bonuses are so rare.
However, I believe there is an alternative that would benefit both the team and the player.
In the case of the four-year, $100 million contract with no signing bonuses, the present value of the future cash flows (assuming an 8% annual return) equals approximately $84.85 million. If a player signed a four-year, $97.45 million contract that included a 15% signing bonus, that would equal the exact same $84.85 million present value as the four-year, $100 million contract.
Most importantly, the player’s cap hit would be lower in each season of the contract than it was under the $100 million contract:
The team benefits, and the player comes out even.
Now there could be scenarios where paying that extra $10.8 million in cash in the first year could have significant financial ramifications for the organization, and they might not be able to get it done, especially for just a marginal benefit on the basketball side. I have been told that although overall spending limits can occur, the business side of the organization usually does not interfere with the basketball side when it comes to contract structure, but depending on the size of the signing bonus this could potentially be a problem.
However, there are also situations where a team is not expensive now but may be expensive later, so lowering the amount of cash paid to the player in later years could have its benefits also.
If the organization is able to spend some money up front, it could have some real salary cap benefits.