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The Risk and Reward of Long Term Deals

posted by Shawn, on May 16th, 2008 at 08:55 am, in category Uncategorized

Evan LongoriaAt a couple of different points in the last fifteen years or so, signing pre-arb players to long term contracts through their first FA-eligible seasons became a vogue move around Major League Baseball. It’s now moved beyond that, to the point where it is widely considered a best practice in the industry.

The logic is simple: by signing players early, teams will generally extend their control over that player’s service, while also saving a good deal of cash if the player pans out as expected. The Indians were famous for doing this en masse in the 1990’s, and did so again with their current batch of players. Just in the last year and a half, the Rays have signed Carl Crawford, Rocco Baldelli, James Shields, Carlos Pena, Evan Longoria, and most recently Scott Kazmir to long term deals.

Most recently, teams have begun locking in players with less and less experience. Since the end of last season, Troy Tulowitzki, Chris Young, Ryan Braun, and Longoria all signed deals that buy out free agent years, despite the fact that none of them were anywhere near being arbitration-eligible.

While these are risky deals for both sides, they strongly favor the teams in terms of pure financial value. As industry revenues accelerate, the clubs are trading a small amount of risk (if the player completely craps out) in exchange for cost certainty and potentially large savings down the road. The players, in exchange, are guaranteed their first millions, which is certainly hard to turn down.

But there’s another dynamic that is in play here: as more and more players sign these deals, the supply of premium players on the free agent market will continue to drop. That, combined with the growing war chests many teams have already put together, will create excess demand for whatever talent ends up on the open market.

In fact, this has likely already happened in the past few years. Teams have a certain amount of money they can spend on payroll; as revenues rise and each win becomes more valuable, those budgets increase. With a limited supply of free agents, there will inevitably be high demand for some mediocre players (i.e. Carlos Silva).

The real question is this: at what point does the potential reward of becoming a free agent outweigh the risks of turning down $30+ million when you have nothing in the bank? If supply continues to dwindle, free agency may simply become too rational a choice to pass up.

More than anyone, agents should be aware of the net losses these players are taking on; at what point do they start stepping in and advising their clients against signing long term deals early in their careers? If, in 1996, Alex Rodriguez had signed a deal with the Mariners that included team options through 2003, baseball history could have been drastically altered in many ways.

Quick side note: are any of these players represented by Scott Boras? I will do a more thorough check this weekend, but I’m curious as to whether Boras clients are any more or less likely to sign this type of deal.

Feedback? Write a comment, or e-mail the author at shawn(AT)squawkingbaseball.com


11 Existing Comments

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  1. on May 16th at 11:47 am
    mike said:

    I don’t beleive any of these young players you mention that have recently signed long-term deals are represented by Boras. Good article. I would like to add this: if because “smart” organizations are locking up their younger players for the long term and free-agency suffers as a result, then it will always be teams like the Mariners who overspend on medicrity like Carlos Silva because of their lack of vision. I doubt you would see a team like the Devil Rays, who have been proactive in this recent fad, to negate a smart move with an obvious ill-advised one- like a signing a Carlos Silva-type player.

  2. on May 16th at 11:51 am
    WC said:

    Pena is, Baldelli was. I don’t know who Young’s agent is, but I dont think it’s Boras. Brian Peters and Paul Cohen are behind most of these.

  3. on May 16th at 12:30 pm
    Nick said:

    Another ancillary cost is that these teams tying the players up have very static rosters. Some change in roster construction seems to be a good thing for winning. Now the only way to change a static roster is to trade…which Billy Beane seems to have learned already.

  4. on May 16th at 12:53 pm
    squawkingbaseball said:

    Nick - remember that these deals have a positive effect on a player’s trade value. Both Swisher and Haren had signed long term deals for below-market rates, making them that much more attractive to potential trade partners.

  5. on May 16th at 03:08 pm
    David said:

    The real question is not at what point the potential reward of free agency makes it more valuable than the “lock-in” deal, but at what values the two ultimately balance out at. As the supply of free agents declines due to the “lock-in” deals, the amount they will be able to get will rise; and as that happens, the amount that players can command in the “lock-in” deals will rise, which will in turn bring the free agency contract amounts back down. The question is, “what is the ratio that they will ultimately end at relative to now?”

  6. on May 16th at 03:49 pm
    David said:

    I should have asked - what do you think that ratio is?

  7. on May 16th at 03:58 pm
    Adrian said:

    On a side note, does Carlos Silva cry, ever so softly, when mentioned in such a context?

    The dark side of the overpayment of mediocre players, in and of itself a poor decision borne of desperation, is that you will see more and more Barry Zito type flameouts when the upper end of the mediocre talents fail to produce after cashing in. Even with the evolution of more progressive financial thinking regarding players and ROI, there are always going to be GMs and owners who succumb to the temptation to overpay for second-tier talent. What I see happening is a salary chasm between overpaid free agents and young talent signed to more modest deals, resulting in likely resentment towards the end of those contracts.

  8. on May 16th at 05:19 pm
    Lou said:

    Interesting thoughts, but one quick correction… you say
    “Just in the last year and a half, the Rays have signed Carl Crawford, Rocco Baldelli, James Shields, Carlos Pena, Evan Longoria, and most recently Scott Kazmir ”

    Crawford signed his deal in 2005, Baldelli in 2006.

  9. on May 16th at 06:08 pm
    John Peterson said:

    Interesting. I also anticipate a growing disparity between teams like the Rays and Diamondbacks, which have a corp of players in their peak who have been locked up through the first few years of free agency, and teams like the Mets and Mariners who will be fighting over the 30-somethings in the free agent pool because they are too stubborn or stupid to develop and sign their own talent.

  10. on May 17th at 08:59 am
    Stu said:

    Rocco Baldelli himself is the counterpoint to this example. Had he not signed that contract w/ the Rays, he’d have only made about $1 million over the last 3 seasons. Instead, he made $9 million. $9 million is far closer to being set for life than $1 million is.

    For the players signing full guarantees, I ask you-would you gamble $45 million for the chance for $80 million? If you get hurt, like Baldelli did, you get next to nothing. It’s a good deal for both sides, due to the way baseball’s contracts are structured.

    Baseball careers are far longer than football careers, but as we all know, nobody’s guaranteed to have a great career.

  11. on May 17th at 09:23 am
    Briks said:

    Really, these deals should always appear to be in the teams favor. Since each individual player is young enough that they don’t have a lot of money in the bank yet, they are likely going to be extremely risk averse when it comes to deciding whether or not to sign these contracts. Even if the probable amount of salary received over the course of a career is much higher by not signing these early deals, since it is life-changing money for these players, and since the marginal value of each million decreases greatly as the numbers get higher, the players are almost always going to be willing to sign early for less (and understandably so). Its like the show “Deal or No Deal.” You’ll see someone whose expected prize money will be $600,000, yet they will take the guaranteed $300,000. Are they stupid? No, they are just very risk averse since they are dealing with life changing money, and can’t afford the risk of getting $0 (or some other lower non-$0 number that would be offered if the highest suitcase was removed next.) And since the “winner” of these contracts is essentially a zero-sum game between the player and team (or i guess teams), if the player is taking a lower probable expected total salary than he could probably get simply becuase of his risk aversity, it stands that the team(s) should be “winning” on these deals over time.