The Future of the Qualifying Offer

Update: As pointed out to me on Twitter, the CBA explicitly prohibits (page 90, section c) teams and agents from agreeing to avoid the qualifying offer in the way I suggest below. So, this entire post is now academic. But still kind of interesting, perhaps. The points about the imbalanced incentives are still true, and I wouldn’t be at all surprised to see the MLBPA negotiate significant changes into the next agreement.

This winter marked the first off-season under the new terms set out by the Collective Bargaining Agreement, which included a complete overhaul of the free agent compensation system. Back in November, teams had to decide whether their free agents were worth a one year, $13.3 million contract offer in order to receive a draft pick if the player chose to sign elsewhere. Only nine players received the qualifying offer, and in David Ortiz’s case, it was mostly academic, as he was working on a two year deal with the Red Sox and never even made it to free agency.

Interestingly, of the eight players who did receive a qualifying offer and elected for free agency, half of them remain unsigned. Adam LaRoche has a standing two year offer to return to the Nationals, but has had problems drumming up enough interest elsewhere to force Washington to give him the third year that he’s looking for. And then there’s Michael Bourn, Kyle Lohse, and Rafael Soriano, who each remain without a team and seemingly without any serious suitors. While we don’t actually know what conversations have taken place between teams and agents, speculation exists that the loss of a draft pick has been a significant deterrent to clubs pursuing these players.

That speculation gains some steam when we look at the prices for players who did not receive a qualifying offer, but were eligible to receive such an offer. Among those who didn’t receive an offer for 1/13:

Edwin Jackson: 4 years, $52 million
Angel Pagan: 4 years, $40 million
Mike Napoli: 3 years, $39 million
Torii Hunter: 2 years, $26 million

Three of the four signed deals for the exact same $13 million AAV that was established by the qualifying offer, but got that price on a multi-year deal rather than on a one year commitment. Pagan is the only one who fell short of an $13 million AAV, but given that he got four years at $10 million apiece, he’s obviously doing better than if he would have accepted 1/13. Toss in Cody Ross getting 3/26, and there are five free agents who weren’t offered, but then found a much better deal on the market.

There are basically two conclusions we can draw; either five different teams badly misread the market for their players, or the market for players not requiring compensation is different than the market for players who come with the loss of a draft pick attached. On the one hand, it’s easy to look at Jackson getting 4/52 and think the Nationals just screwed up, but on the other hand, we only have evidence that Jackson got 4/52 in an environment where he didn’t come with compensation attached. We simply don’t know what he would have gotten had he received a qualifying offer from Washington.

Under the old system, decent middle relievers who achieved “Type A” status via the Elias ratings were the ones that got caught in the net of unintentional consequences. The new system was designed in part to eliminate that problem, and replacing the tiered free agent classes with a higher qualifying offer was a good choice. However, it appears that the additional changes made to the draft and the rules surrounding how compensation is handled has created a new problem area, and one that may end up undermining the system entirely.

The main issue, as I see it, is the imbalance of incentives on the two sides of the compensation ledger. In tweaking the system, the new agreement simultaneously raised the penalty for signing a player — only the first 10 picks are now protected, and the slotted values means that a team cannot make up for the loss of a high pick by paying more for players drafted with later selections — while reducing the reward of letting a player walk by halving the number of selections a team received and eliminating the chances of getting a pick in the middle of the first round. In essence, the new system places a significant tax on free agents who receive the qualifying offer, but only passes on a fraction of that tax to the team being compensated.

It is now far more harmful to sign a free agent requiring compensation than it is beneficial to lose one. This is exactly the opposite of how the old system worked, where the allure of multiple draft picks often incentivized teams to let their free agents leave, as the reward for losing a Type A player was larger than the penalty for signing one. MLB was right to fix that imbalance, but they very well may have gone too far in the other direction. By having imbalanced incentives, the new system has created a middle ground where both the team and the player can theoretically achieve maximum value by avoiding the qualifying offer system entirely.

For instance, let’s say you’re a player headed to arbitration with five years of service time, and you’re set to become a free agent next winter. Just for fun, we’ll call you “Kendrys Morales“. In the next few weeks, you’re going to have to decide how much to ask for in arbitration, and come to some sort of an agreement with the Mariners on a salary for 2013. You’re in line for something like $5 to $6 million in salary, and then you hope to prove that you’re 100% healthy, have a monster season, and then cash in with a big paycheck next winter. However, you know that if you do have that monster season, there’s a decent chance the Mariners will make you a qualifying offer, and you might very well end up as next year’s Adam LaRoche or Kyle Lohse. In an ideal world, you’d be able to convince the Mariners to agree to not make the qualifying offer, so that your best case scenario would be hitting free agency unencumbered next winter.

From the team perspective, the value of adding a pick in the 25-35 range is real, but it’s not so large that they couldn’t be persuaded to give up their right to make a qualifying offer. Let’s just make up a number and say that the Mariners valued a compensation pick as a net asset of $5 million, and they thought that there’s a 50/50 chance that Morales will have a good enough season to earn the qualifying offer. Under those assumptions, the Mariners would be better off taking $3 million from Morales now rather than gambling on getting a future draft pick. A bird in the hand and all that.

If Morales went to the Mariners and said he’d take a $3 million discount in salary for 2013 — say, down to $2.5 million — in exchange for their agreeing to not make him a qualifying offer after the year ends, I’d imagine that the Mariners would at least consider the option. And it seems pretty likely that Morales would be better off as a non-compensation free agent next winter than he would be with an extra $3 million in his bank account for 2013, since the tax is imbalanced and works more as a deterrent to signing mid-level qualifying offer free agents.

I wouldn’t be at all surprised to see this become something of a trend for teams and agents negotiating short term contracts for arbitration eligible players. We’ve already seen these types of clauses attached under the old system, where teams agreed to not offer a player arbitration in order to sign a free agent, and that system promoted player movement, where this system actively dissuades it. You know that agents have taken note of the qualifying offer players, and they can’t be overly interested in putting their clients in that situation. Negotiating pre-arranged deals that waive the qualifying offer put their players in the best position to reap maximum rewards in free agency, and because of the imbalanced incentives, they can give up less to their current teams than they can command from their new teams in the future, with the deal still being a net positive value for everyone involved.

There are probably some teams that have enough cash to not be too interested in that kind of swap, and are more likely to use the qualifying offer system to ramp up their draft budgets. However, for a team with budgetary restrictions, turning potential future value into present day cash might be a very enticing scenario, especially since adding one pick at the end of the first round isn’t the kind of haul that they used to be able to get under the old system.

The qualifying offer system is a significant improvement over the old way of doing things, but I do wonder how long it will take for teams and agents to start exploiting the imbalance and generally just avoiding the new system altogether. The combination of all the changes seem to have moved the incentives from ditch to ditch, and now guys like Lohse and Soriano are the ones getting dinged. I can’t see this current system being maintained for too many more years without some changes. Either everyone is going to start negotiating their way out of the qualifying offer, or the player’s association will realize it is working as a de facto tax increase on player salaries and want to negotiate it away. Either way, I’d imagine the next CBA will bring another adjustment to the system, and perhaps another overhaul if everyone decides that the current system is more trouble than its worth.