Thursday, May 23, 2013

Soccernomics: Principal-Agent Models and Options, MLS Style

Image credit: AFP/Getty Images

Forbes has a piece on-line that describes David Beckham's 'windfall' now that Manchester City FC and the New York Yankees have teamed up to purchase the franchise rights for an MLS team in New York City for $100 million:
As part of his deal with MLS when he played for the Los Angeles Galaxy, Beckham was given the right to buy an MLS expansion team for $25 million. The league has confirmed that Beckham has been having discussions with MLS recently about doing just that. Grabbing an MLS team for $25 million would be a huge windfall for the 38-year old Beckham.
This type of option contract is familiar in the corporate world where companies are eager to link executive pay to company performance to avoid moral hazard problems familiar in principal-agent situations. For example the CEO taking decisions that benefit themselves personally but harm the long-term profit of the company.  The problem with these in the corporate world is that they have created a myopia among some CEOs who are eager to drive the stock price up in the short-term and cash out disregarding the future profits of the company.  A classic example is the CEO who cuts costs and increases profitability by eliminating the R&D division.  Good for now, but what happens when the new products dry up?

But I digress.  My point is that MLS was not just sweetening the pot when it offered Beckham the option of buying into the league for $25 million, it was giving Beckham a big incentive to care about the long term health of the league which depended more than a little in how he behaved post contract.  It would be interesting to know who first proposed the option: the MLS or Beckham but it seems a reasonable way to align incentives and help ensure the visibility and reputation of the league.

All of this suggests why the MLS has survived and is starting to show some real life: there are some savvy folks running the league...

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