Case Study

Franklins Unique Skills in Baseball

Franklin Espinosa started playing baseball when he was 5 years old, and continued throughout his life, and now 21 years old in 2018. Having finished college with a highly successful junior season, he had been drafted by a professional team to play in the major leagues. Right now his plan was to play with a minor league club for the next month or two while his contract negotiations are being finalized with the team that drafted him.

Franklin has played baseball in an organized league since he was six years old, and was a standout/star player in high school and college. He had been recruited by a number of colleges, and decided on the one that had the best record of sending players to the major leagues. He was in his junior year of college when he decided to declare himself eligible for the draft and thats what he did. Just before the draft, Franklin took his fathers advice and hired an agent to help him navigate the process of the draft and the follow up negotiations with the professional team that would most likely draft him. He finally chose an agent who was an acquaintance of his friend and fellow baseball player, Justin, who had been drafted several years ago.

Franklins agent, Martin Moneybags, thinks he knows what the offer will be from the major league club. And, he believes he has a better counterproposal. Franklin has also been talking to a friend who has been playing in the major leagues for about five years, and came through the system very similarly to the way Franklin is managing his career. This friend, Justin (referred to previously), has also suggested some contract ideas and a starting point for negotiations. Franklins contract with Martin (his agent) will run for the same term as the contract with the team, and will be renegotiated toward the end of the 5 year term of the original contract.

Franklin, his friend Justin, and his agent Martin finally developed three offers/proposals that they thought are the most likely scenarios, and they are as follow:

Offer #1

1. The offer from the team, which Martin is pretty sure of, consists of the following:

• A $160,000 signing bonus to be received in cash on the day of signing the contract.
• A five-year contract for $275,000 per year, paid at the beginning of the year, with some additional incentive money if he performs above certain criteria.
• The incentive money consists of a lump sum amount of $45,000 to be received at the end of each year for the five-year contract term, if he meets the incentive requirements.
• A re-signing bonus of $240,000 to be paid at the end of his contract term, if both he and the team decide to enter into a new contract.

Offer #2

2. The second offer to consider is Franklin and Martins counterproposal, which is structured as follows:

• A $190,000 signing bonus to be received in cash on the day of signing the contract.
• A five-year contract for $255,000 per year, paid at the beginning of the year, with some additional incentive money if he performs above certain criteria.
• The incentive money consists of a lump sum amount of $70,000 to be received at the end of each year for the five-year contract term, if he meets the incentive requirements.
• A re-signing bonus of $185,000 to be paid at the end of his contract term if both he and the team decide to enter into a new contract.

Offer #3

3. The third offer/proposal that Franklin is considering is the one that he and his friend Justin worked on together. They both feel that this is in Franklins best interest.

• A $215,000 signing bonus to be received in cash on the day of signing the contract.
• A five-year contract for $275,000 per year, paid at the beginning of each year, with some additional incentive money if he performs above certain criteria.
• The incentive money would consist of a lump sum amount of $80,000 to be received at the end of each year for the five-year contract term, if he meets the incentive requirements.
• No re-signing bonus at the end of the contract term. Franklins friend thinks that the best approach is to negotiate from the perspective of becoming a free agent if hes doing really well, it puts additional pressure on the team to come up with even more money in a re-signing bonus situation.

Franklin and his friend, Justin, know that they will need some help in analyzing these offers. Neither of them had any business courses in college, and certainly dont know about the time value of money. However, they both know you (you went to college with them and went on to get your masters degree) and they also know that you are good at analyzing relevant cash flows and financial situations.

Franklin and Justin have enlisted your support and would like the following questions answered, given the assumptions of an interest rate (or discount rate) of 7% for all three proposals, and have asked that you round the computations to the nearest dollar:

1. From a financial and time value of money perspective, you will analyze each offer. Youve told them that you will have to calculate all of the future cash flows discounted back to the present to be able to compare the three offers fairly and effectively. Find the present value (PV) of each offer.

2. Which offer is best based strictly on the financial calculations (#1 Team Offer; #2 Franklin and Martins counterproposal; or, #3 Franklin and Justins proposal)? And why?

3. What additional considerations should Franklin think about in terms of:

• the amounts and timing of the cash flows?
• the incentive component of the offer?
• the re-signing bonus (or absence of one, as in the offer #3)?

4. Which offer do you think Franklins agent, Martin, will recommend? And why?

(Note: Martin will probably get about 10% of the total contract value, not including the incentives, but including both signing and re-signing bonuses.)

5. Is Justins advice worthy of being considered by Franklin, and why or why not?

Other Options

Are there any other choices or options that Franklin could take, other than those being considered here? What are your ideas?

Prediction

Which offer do you recommend for Franklin, given all of the considerations?