Why the Red Sox (Probably) Won’t Make it Rain

If you read my link around yesterday, you probably saw Matt Kory’s piece for Over the Monster on the effect the luxury tax is having on the Red Sox offseason.  In case you missed it, here’s an excerpt:

“With several holes still to fill on the roster, Rosenthal claims the Sox have already committed about $170 million to this season’s payroll. That leaves only [insert abacus joke here] $8 million to spend before running up against the threshold. Should the team cross that $178 million barrier, they would be subject to a 40% tax on each additional dollar spent…The tax kicks in because the team has exceeded the threshold the previous two seasons. If Boston remains under the $178 million spending limit this season, they’ll effectively reset the clock, allowing them to go over the threshold next season without penalty. But, if they spend over the tax threshold this season, they’ll not only be taxed as stated above, but they’ll also be subject to a 50% penalty on dollars spent over the threshold next season.”

Matt does a great job explaining the situation in layman’s terms as to why the Red Sox haven’t splurged on high priced free agents like C.J. Wilson and Jose Reyes this winter.  Simply put, even though the Red Sox have both the revenue streams and the on-field need to sign an expensive free agent or two, they have much to lose in doing so.  Practically every dollar spent on players currently not on the roster will be taxed, and therefore they should be viewed in terms of their salary plus the cost of the luxury tax.

Despite what some point people would like you to believe, the luxury tax is not a joke and the penalties are severe.  According to the latest Collective Bargaining Agreement, the luxury tax threshold will remain at the 2011 levels of $178M for 2012 and 2013 before increasing to $189M for the 2014-2016 seasons.  With salary inflation rapidly outpacing the tax thresholds for the next five seasons, teams near the luxury tax ceiling have incentive to remain under the line; especially with the maximum tax rate increasing from 40-50%.  So where exactly are all of the Red Sox payroll dollars going?

The chart below includes all of the players the Red Sox currently have under contract for the 2012 season.  I’ve included both their raw salaries and their projected luxury tax figures.  For those of you who aren’t educated in the ways of the luxury tax, their “Projected Tax Figures” are based on the average annual value (AAV) of their contract, not their current salary.  Their current salary is represented in the “Raw Salary” column.

* This figure represents John Lackey‘s AAV if the Red Sox agree to pick up his option for 2015 at the league minimum salary per the injury clause in his contract.  If the option is not exercised, his luxury tax figure jumps to $16.5M.

As you can see, the club has already committed $130.6M against the luxury tax for the upcoming season, leaving $47.4M to spend on the remaining 25 players on the 40 man roster.  While the vast majority of the remaining players will receive salaries at or near the league minimum of $480,000, players like David Ortiz, Jacoby Ellsbury, and Daniel Bard should all command significant raises from their respective 2011 salaries.  This will put a pinch on the club’s ability to add payroll.

So what should we expect the Red Sox payroll to look like once they sign all of the players on their 40 man roster?  For the sake of this example, I’m going to assume the Red Sox start the season with the same 40-man roster they have today, and project out their salaries accordingly.  All players not included on the 25 man roster will be given one year $480,000 contracts that will be paid out at a prorated rate based on their major league service time.

Taking all salaries together, this brings the projected payroll to $171.88M, leaving the Red Sox only $6.12M under the luxury tax.  As you can probably see, this roster is far from complete.  They still need to add a right-handed corner outfielder, a starting pitcher, a closer, and probably another middle reliever before Spring Traning starts in February.  The front office could look to trade one or two of their higher priced commodities (Kevin Youkilis and Marco Scutaro come to mind), but I can’t imagine they’d provide much payroll relief.  The Red Sox would likely need to eat at least a portion of said player’s salary in order to get anything useful or substantial in return.  Then, on top of that, they’d have to pay the salary of the player they acquired; thus creating minimal wiggle room.  Honestly, free agency is the easiest way to fill those holes, but with the average cost of a win nearing $5M; it’s become incredibly expensive.  As a result, the Red Sox will almost certainly need to surpass the luxury tax in order to field a complete team in 2012.

For example, if the club were to sign Hiroki Kuroda and  Cody Ross, while trading for Andrew Bailey and Koji Uehara prior to the start of Spring Training, we’re probably looking at a net payroll increase of about $22M to around $194M, plus a $6M luxury tax fee.  While this isn’t particularly advantageous, each of the new acquisitions would likely see their current contracts expire at season’s end with only Bailey remaining under team control for 2013.  (I’m assuming Kuroda and Ross would only sign one year deals.)  Taking a tax penality in this particular case, would put the team in a position to win in 2012; give the youngsters a chance to develop (thus improving their trade value in the process); and create greater payroll flexibility to field a competitive team while staying below the threshold in 2013.  Furthermore, the Red Sox would stand to add to their considerable revenue base by making a serious playoff run.  If the Red Sox stand pat and miss the postseason for the third consecutive season, fans would likely become restless and frustrated; thus less likely to spend money on tickets, apparel, concessions, etc.  All of that said, it’s still not an ideal option because not only does it make it nearly impossible for the Red Sox to add anyone at the July 31st trade deadline, but also puts the Red Sox at risk of being levied with a 50% tax in 2013 should they breach the threshold.

As an alternative example, if the team were to decide to go for broke by adding guys like Carlos Beltran, Ryan Madson, and either Edwin Jackson or Roy Oswalt; we’re probably talking about adding an additional $30M in payroll, plus a $9.2M tax bill in 2012.  Since most of these signings would be long-term deals, they would also create additional financial liabilities for 2013 and 2014 that could hamstring the club going forward.  In essence, it would create more problems than it would solve.  So while it sounds like a nice idea to fill our holes with high priced, proven veterans; it’s probably not the best way to go at this time.

Instead, it looks like the front office will take more of a balanced approach to rebuilding the team.  I wouldn’t be surprised to see them sign at least one mid-tier free agent (preferably to a short term deal), while scouring both the undervalued and the recently non-tendered markets for low-cost/low-risk players capable of filling key roles.  Among the players Cherington and company could take a flyer on are:  Rick Ankiel, Ryan Spilborghs, Paul Maholm, Joel Pineiro, Joe Saunders, and Hong-Chih Kuo.

There are still a lot of viable options remaining on the market.  They’re not all sexy, but they’re certainly worth test driving.