Hamilton: For Knicks, Linsanity May Be Too Expensive

Though Jeremy Lin may be Houston-bound, in New York City, the Linsanity continues.

Earlier this month, news broke that Daryl Morey, the general manager of the Houston Rockets had reached agreement with Jeremy Lin on a four-year offer sheet that would pay Lin approximately $30 million.

That offer called for Lin to earn approximately $5 million in each of the first two years and approximately $10 million in each of the final two.

All along, the Knicks were expected to match any offer for Lin, but over the course of the past 72 hours, things have changed drastically.

First, on Friday, the Rockets and Lin agreed to alter their initial agreement. Instead of giving Lin a four-year deal worth $30 million in which the fourth year was a team option, the Rockets and Lin re-worked the agreement. The new deal was only for three years. The kicker, though, was that Lin’s third-year salary would increase by about 50 percent.

For the Knicks, instead of being on the hook for $10 million to Lin in the third year of the deal, the new offer made his third year salary about $15 million. By doing that, the Rockets may have made it prohibitively expensive for the Knicks to match their offer.

Beginning in the 2013-2014 season, the era of the NBA’s “Super Duper” Luxury tax—which I’ve written about previously—will begin.

What is most important to note about the luxury tax threshold is that it is a derivative of the league’s basketball-related income (BRI). As the league’s business grows and its profit increase, so will its salary cap, average player salary, and—yes—its luxury tax threshold.

Over the past 10 years, the NBA’s BRI has increased by an average of about 3 percent, per-year. The truth of the matter, though, is that it’s impossible certainly predict what the salary cap and luxury tax thresholds will be in the future because it’s impossible to predict how much money the league will generate over the next few years.

But, if we functioned under the reasonable assumption that the league’s revenues will increase by 4 percent each year, this season’s $70 million luxury tax threshold would about $76 million for the 2014-2015 season.

The Rockets knew that for that season, the Knicks already had huge commitments to Carmelo Anthony ($24 million), Amar’e Stoudemire ($23 million), and Tyson Chandler ($15 million).  And after re-signing Steve Novak, signing Jason Kidd, and trading for Marcus Camby, the Knicks tacked on about $10 million to their books for the 2014-2015 season. Meanwhile, they will hold a fourth-year option on Iman Shumpert’s rookie contract at $2.7 million.

And since the Knicks own their first-round pick in the 2013 draft, they could have another $2 million on the books heading into that 2014-2015 season.

All of that to say that the obligations to Anthony, Stoudemire, Chandler, Novak, Kidd, Camby, Shumpert, and whoever they select in the 2013 NBA Draft will amount to approximately $77 million in 2014-2015.

In all likelihood, even without Lin’s $15 million salary for that season, the Knicks will probably be a tax team. However, they are guaranteed to be a tax team if they re-sign J.R. Smith next summer and add one or two more players to their existing core.

So, even before the Knicks agreed to re-acquire Raymond Felton on Saturday night, retaining Jeremy Lin and his $15 million salary in year three was a very expensive proposition.

If, for argument’s sake, the Knicks payroll was equal to the luxury tax threshold, adding an extra $15 million for Jeremy Lin’s salary would cost the Knicks a total of $43 million. They’d have to pay Lin’s salary, and the luxury tax payment for a team $15 million over the tax threshold—in 2014-2015—will be about $28 million.

Now, after adding Felton, retaining Lin becomes even more expensive.

If the Knicks match Lin’s offer and end up being $19 million above the luxury tax threshold because of it, they would owe $41.75 million in luxury tax penalties, and when you include Lin’s $15 million salary, his total cost could be about $57 million.

When I pointed this out on Friday, most of my Twitter followers yawned at the numbers and reminded me that James Dolan prints money and probably doesn’t care. And as true as that may be, that’s an awful lot to risk on a point guard who has such a small body of work.

But now, after re-acquiring Felton, and after Anthony called Lin’s contract offer from the Rockets “ridiculous,” evidence seems to be amassing that the Knicks will elect to allow Lin to go to Houston.

For the Knicks, whether or not they match Lin has very little to do with their salary cap situation, and everything to do with their luxury tax situation.

During the Isiah Thomas regime, the Knicks routinely paid the luxury tax. However, one important thing to consider is that Madison Square Garden—the holding company that owns the Knicks—is now an independent and publicly traded corporation. After going public in 2010 with an initial public offering of about $20 per share, on July 13, MSG’s stock closed at almost $37 per share.

Linsanity has a lot to do with MSG’s good stock performance, and I’m no economist, so perhaps I’m way off. But, if the Knicks found themselves paying hefty luxury tax penalties, is it ridiculous to think that could have an adverse effect the company’s earnings and its profit margins?

Would that have an adverse effect on its stock price?

I’m sincerely asking because I don’t know. But it is definitely something worth knowing, and it’s definitely something worth pondering as we await the official word as to whether or not the Knicks will retain Lin.

That’s what makes this entire ordeal so compelling. The Knicks are being painted into a corner and will be forced to roll the dice—one way or another—on a player whose true value and talent is so difficult to gauge.

Linsanity may have been a flash-in-the-pan sham. But Jeremy Lin may be a future All-Star and Hall-of-Famer. Odds are, he’s something between.

But either way, we don’t know for sure. Only time will tell.

And only time will reveal just how much James Dolan and Madison Square Garden are willing to risk in finding out.

Moke Hamilton is a Senior NBA Columnist for SheridanHoops.com and will be providing the latest news and commentary during the NBA’s free-agency period. Follow him on Twitter to stay up-to date.

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  1. stphn says

    It’s also incorrect to attribute the entire luxury tax to Lin. The knicks are overpaying a lot of other players too. The luxury tax penalty should be distributed proportionally over all the salaries. You can’t place the whole luxury tax penalty on the last person they sign.

    • chas says

      WHY NOT MATCH AND just TRADE LIN??
      …at least this gets us back something rather then letting him walk for nothing, right??
      My preference is for the Knicks to match the offer and to hell with the Lux tax $ that Dolan will need to shell out. Dolan will surely recover his lost penalty $ in merchandise, ticket sales, PR and marketing. Lin will create millions and millions of Knicks fans in China and the rest of the far east. I agree with many of the hoops pundits that this issue has just become personal for Dolan(why couldn’t he have gotten pissed at Isiah years ago?….but I digress). Dolan is clearly pissed off at Lin. So for Dolan to get his revenge and get us something in return, why not MATCH and sell him back to the Rockets.

      I cannot understand why this has not been discussed or speculated by anyone in print or on TV.
      WHY not match the Houston offer and then put him on the open market. Wouldn’t Lin bring back some value even with that large contract?? Surely Houston seems enamoured with him. I have read almost every Lin related article on the web regarding this saga. I have yet to see this course of action mentioned. Am I missing something??

  2. RKT says

    MSG’s earnings per share would take a considerable hit by a $45M additional revenue expense and tax.
    Industry analyst are forecasting earnings of $1.7 for 2015. If we assume they will not issue any more shares to investors, then they will have a net income of $128M in 2015; reduce this by the $57M in expense that he would cost, it would bring the net income to $72M. This would decrease the estimated EPS to $0.94 or a lost of $0.76 per investor or -44% decrease. Expect the market will make this adjustment to MSG’s stock, and ultimately it would affect the Market Cap of the company. In such a scenario, the stock would plunge to about $22 and the company’s valuation would drop from $2.71B to $1.73B.

    Such an effect on the holding company would require the board to approval. I doubt whether the Knicks have the clout to even pursue this horrible decision even if they wanted to.

    Lin will be a Rocket. Good luck on his journey, it was fun while it lasted,

  3. AnthonyD says

    Moke you’re right, you’re not an economist. This also doesn’t factor in the earnings power of Lin, especially in years 1 and 2 when he will be making much less and the concept of present value meaning the small cash outlays up-front are favorable to the balloon payment down the line (likewise earlier earnings power locked up through momentum of Linsanity is more favorable than “potential” earning down the line). Individual team earnings are not disclosed in public statements but suffice to say there is a good chance the NPV of a Linsanity is positive.

    Of course with a “leader” at the helm like James Dolan one wonders who out there really owns $MSG?

Trackbacks

  1. [...] If Lin suits up for the Rockets and kicks off the Linsanity Remix, Knicks fans will be howling about yet another blown opportunity. But if they keep him and he’s in a logjam with Raymond Felton and Jason Kidd and can’t distinguish himself in that crowd, the fall from grace will as brutal as his rise was brilliant (not to mention the potential $43 million super tax bill they’ll be on the hook for). [...]

  2. [...] If Lin suits up for the Rockets and kicks off the Linsanity Remix, Knicks fans will be howling about yet another blown opportunity. But if they keep him and he’s in a logjam with Raymond Felton and Jason Kidd and can’t distinguish himself in that crowd, the fall from grace will as brutal as his rise was brilliant (not to mention the potential $43 million super tax bill they’ll be on the hook for). [...]

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