An Explanation of the Houston Rockets’ Salary Cap Situation
A reader writes:
I was under the impression that if we passed on Cook and Tmac, the 26 million reduction in salaries would give us room for a max level offer. When I look at the Lackers [sic] 83 million payroll this year, makes me wonder how they made the numbers work………Can’t we exceed the cap if ownership is willing?
Let’s work through this step by step. We will assume the best-case-scenario at each stop to demonstrate that even if taking the most optimistic forecast, simply allowing the contracts of Tracy McGrady and Brian Cook to expire will not allow the Rockets to offer someone a max level contract this summer.
The Rockets’ total team salary for the 2009-2010 season is $73.59million.
For the 2010-2011 season, the Rockets have obligations of $37.44million in player salaries. This figure includes Yao Ming’s player option which, barring some altruistic urge, he will almost surely exercise.
Here’s where things start getting trickier:
The Rockets have a $2.3million team option on Chuck Hayes, a $946,000 team option on Joey Dorsey, and a $3million team option on Carl Landry. In addition, the team can extend a $2.98million qualifying offer to Kyle Lowry, and a $4.11million qualifying offer to Luis Scola.
The team will almost surely pick up the options on Hayes and Landry. For our purposes of proving a best-case-scenario, we will assume that the team waives Dorsey. It’s also plausible that the team chooses to negotiate a new contract with Landry, fearing his unrestricted status next summer. However, again, for our purposes of a best-case financial scenario, we will just assume that they pick up the $3million option.
Now, on to Lowry and Scola. Because they are each restricted free agents, the Rockets have the opportunity to match any offer sheet either signs with another team by extending what is called a qualifying offer. (Unrestricted free agents are free to sign with any team.) The qualifying offer “prevents the team from not offering a contract and waiting to swoop in when the player tries to sign elsewhere” (Coon).
The restricted free agent then has four options. From Larry Coon:
- He can accept his prior team’s qualifying offer, play for one season, and become a free agent again the following summer.
- He can accept his prior team’s maximum qualifying offer (if applicable, and if one has been submitted) and play under a long-term contract at the maximum salary.
- He can sign an offer sheet with another team, which his prior team is given the opportunity to match.
- He can negotiate a new contract with his prior team that is independent of the qualifying offer or maximum qualifying offer.
I predict that Lowry and Scola will each be offered more on the market than the amounts stipulated by their respective qualifying offers. I think Lowry could get between $4million to $5million/yr; Scola possibly $7million to $8million/yr. To arrive at an optimistic forecast, we will assume $4million/yr for Lowry. Scola’s production would probably make him a no-brainer for a salary greater than $8million, but due to his age, I think it is reasonable to expect that he will be earning $7million/yr on his next contract. Whatever their respective market rates may be, it will be in the best interests of each of these parties to not accept the Rockets’ qualifying offers.
Now it gets even more confusing, so pay close attention:
Just because Lowry and Scola will become free agents does not mean that they have no bearing on the cap. Unless renounced, restricted free agents have what are called free agent amounts (also known as cap holds).
A player’s free agent amount is the amount at which he counts against his team’s cap total until actually signed. The purpose of the free agent amount is to close a loophole that would theoretically allow a team to sign outside free agents using its cap room and then resign all of its own free agents using their Bird exceptions. (For the sake of simplicity, I won’t go into the Bird Exception.)
A player’s free agent amount is based on his previous salary and what kind of free agent he is (Any, Larry Bird, Early Bird, Non-Bird.)
Luis Scola has a free agent amount of 200% of his 2009-2010 salary, which comes out to roughly $6.75million.
Kyle Lowry has a free agent amount of 300% of his 2009-2010 salary, which comes out to roughly $6.10million.
Now, again, we don’t know how much each player will actually be offered on the market, but the purpose of this exercise is to arrive at the Rockets’ total salary obligations on the optimistic end.
Because we are assuming that Lowry will net $4mill/yr on the market, and because this figure is lower than his free agent amount, we will assume that the team will renegotiate a new contract with him at or near this figure, prior to exploring outside free agents. If the Rockets just allow Lowry to test the waters, they will take a cap hit of $6.10million in the estimations. If they want to keep Lowry, the team’s best bet would be to renegotiate a new contract on July 8th. Thus, we will assume $4million/yr for Kyle Lowry in our calculations.
In the case of Scola, because his market value will likely be higher than his free agent amount, we will assume his free agent amount for our calculations. Unless they could convince him to accept a lowball offer on July 8th, the team gains nothing from resigning Scola early.
Because we are calculating the best-case-scenario, we will even assume that the team trades its first round draft pick so as to reduce further team salary. (Given Daryl Morey’s penchant for plucking gems from the second round, and the fact that the guaranteed salaries for first round picks are considered burdensome, this very well could occur in reality. Due to the financial implications, high second round picks are typically valued more than late first rounders.)
Adding in Hayes, Landry, Lowry, and Scola, the Houston Rockets have a total salary projection of $53.5million for the 2010/2011 season. This figure is not even including draft picks or roster charges. [There is a roster charge when a team has fewer than 12 players under contract (Coon).]
The 2009-2010 NBA salary cap is $57.7million.
Larry Coon explains how the salary cap is set each year:
Each July the league projects Basketball Related Income (BRI) and benefits for the upcoming season. They take a defined percentage of projected BRI (see the chart below), subtract projected benefits ($112 million in 2005-06), and make adjustments if the previous season’s BRI was below projections. They then divide by the number of NBA teams (excluding expansion teams in their first two seasons) to arrive at the cap. The salary cap adjusts each year on the first day following the July Moratorium (see question number 92).
Click for an explanation of BRI.
We’re not sure what the 2010-2011 NBA salary cap will be set at, but on the basis of a now infamous memo sent out to NBA teams by the league office last July, it is expected to drop to anywhere between $50.4million and $53.6million next season.
The official league memorandum, obtained by ESPN.com, forecasts a dip in basketball-related income in the 2009-10 season of 2.5 percent to 5 percent, which threatens to take the 2010-11 cap down some $5 million to $8 million from last season’s $58.7 million salary cap.
Thus, through these calculations, even if assuming the most optimistic forecast of a $54million salary cap projection, and even if trading their first round pick, the Houston Rockets will not gain significant room under the cap by simply allowing Tracy McGrady and Brian Cook to expire. If taking this route, they would be better off simply remaining above the cap and utilizing their mid-level exception. (Teams cannot use the mid-level exception if under the cap.)
Now, I have only explained why the team will not have flexibility at status quo. What if they get creative?
The NBA’s maximum salary for a 7-9 year veteran like Chris Bosh is 30% of the salary cap. However, a free agent’s maximum salary in the first year of his new contract can never be less than 105% of his salary in the last year of his previous contract. Because of the expected salary cap projections, the latter stipulation will make Chris Bosh eligible to receive an offer of $16.6million next year.
Even if they renounced all three of Kyle Lowry, Chuck Hayes, and Luis Scola, and even if applying our most optimistic forecasts, the Rockets still would not be far enough under the cap to offer someone a max contract.
Now, the team could get really creative and seek to trade Shane Battier for an expiring contract. (Battier will have only 1 year remaining on his deal after this season, thus probably making it more feasible to deal him rather than to deal Ariza for an expiring contract. I know, we’d all prefer to trade Trevor – you’re preaching to the choir.)
Assuming they keep Landry, trading Battier’s $7.35million deal would bring the team’s total salary obligations down to roughly $33.10million. You could then bring back Hayes, but not Scola, and most likely not Lowry either.
Is losing Battier, Scola, and Lowry worth simply the chance of signing a max free agent? I personally don’t think so – that’s too much of a risk and no way to run an operation.
However, with all of this said, there are possibilities:
One scenario could involve re-signing Lowry and Hayes, and then arranging a sign and trade for Bosh, shipping Battier and a resigned Scola to Toronto.
Another avenue might be to trade Tracy McGrady before the February deadline for a combination including parts that could later be sent to Toronto in the summer.
The greater point here is that a max free agent can be acquired through creative means, but not through simply allowing McGrady and Cook to expire.
Now, we come to the second part of our query.
Can a team exceed the cap if ownership is willing? Yes. In fact, historically very few teams are ever under the cap during a season (Coon).
The NBA has what is termed a soft cap to allow teams to exceed the limit. The purpose is to encourage players to stay with their current teams.
When discussing fiscal responsibility, the real issue of pertinence, rather than the salary cap, is the luxury tax.
Teams will exceed the actual salary cap with little reservation, but very few are willing to exceed the luxury tax threshold. Before I explain the luxury tax, let’s revisit the much discussed Iguodala-McGrady scenario to make things clearer.
We earlier arrived at a 2010-2011 best-case-scenario team salary projection of $53.5million. Now let’s say that the Rockets trade Tracy McGrady to Philadelphia for Samuel Dalembert and Andre Iguodala. The team will then have a whopping projected salary of $78million for the 2010-2011 season.
One might now be thinking ”What’s the big deal?”
There is a very big deal and it’s called the luxury tax.
The luxury tax was instituted to control team spending and is paid by those teams whose payroll exceeds a predetermined level. Teams pay one dollar for each dollar their payroll exceeds the tax level.
Here’s Coon again explaining how the tax level is derived:
The tax level is determined prior to the season, and is computed by taking 61% of projected BRI, subtracting projected benefits ($112 million in 2005-06), and adjusting for whether the previous season’s BRI was above or below projections. They then divide by the number of teams (except expansion teams in their first two seasons) to arrive at the tax level.
For the 2009-2010 season, the tax limit was $69.9million.
We don’t know what exactly the tax level will be in 2010-2011, but based on “the memo”, it could range anywhere from between $61million and $65million.
Here’s ESPN again:
A significant drop for the luxury-tax threshold is also projected going into the summer of 2010. If basketball-related income drops by 2.5 percent in 2009-10, league officials are projecting a 2010-11 salary cap of $53.6 million and a luxury-tax line of $65 million.
If BRI, as it is referred to in the NBA, decreases by 5 percent, teams would be looking at a $50.4 million salary cap and a luxury-tax line of $61.2 million in 2010-11.
For our pedagogical purposes, we will once again pick the optimistic end at $65million.
This means that if trading for Andre Iguodala and Samuel Dalembert, and otherwise maintaining the status quo, being in excess of almost $13million of the luxury tax threshold, the Rockets would be obligated to pay the league an additional $13million. This would bring the Houston Rockets’ real salary obligations for 2010-2011 to roughly $91million.
In addition to the 1-for-1 tax, teams exceeding the limit also miss out on a redistribution of the total pot. Each team’s share last season was $2.9million. (It is due to this incentive that teams barely over the limit typically scramble before the deadline to maneuver below.)
There is very little chance that Leslie Alexander and Daryl Morey would consider this current team with just Andre Iguodala added to its core worth $91million. Iguodala doesn’t trigger enough of an improvement to justify such a cost.
Furthermore, you can outright dismiss this notion of Dalembert somehow being a trade asset next year (as an expiring contract.) If they somehow signed off on this scenario, the team wouldn’t be looking to take on even more guaranteed long-term salary on top of the already outrageous (hypothetically) extant amount.
Thus, we see that while teams can significantly exceed the cap limit, there is a very strong deterrent against doing so. When making personnel decisions, teams have to consider not just talent concerns and cap matches, but real dollar financial ramifications that affect their bottom line.
When presented with these financial implications, the reaction of most fans is typically one of apathy or outrage.
“You have to spend to win,” is usually the predictable response.
But the NBA, like anything else, is a business.
Besides, there is no proven relationship between profligate spending and overall team success.
Smart-spending not only impacts the bottom line but provides the flexibility needed for future trades and acquisitions. There’s no reason a team can’t run its books wisely and still come out on top.