Life of the Deal

One of the most interesting aspects of the baseball offseason is tracking which players change teams. Another aspect our eyes focus on involves how much money these players sign for. My colleagues and I have posted dollar valuations of players for the last month or two, and on many of the comment threads, a valid point continues to surface: shouldn’t we be evaluating the contracts based on how the players will perform throughout as opposed to multiplying the fair market value by the number of years?

Normally, the answer to a question like this would be a resounding yes. However, in baseball, for whatever reason, the majority of contracts signed seem to do the latter. Ideally, a team would pay the player based on his value moving forward over the duration of the contract, factoring in inflation as well. Sometimes contracts may reflect this mindset. Sometimes they will reflect the fair market value mindset. And other times, neither of these can effectively describe the logic behind the contract (cough, Ibanez, cough).

To put both of these primary valuations to work, I decided to take the recent contracts signed by both A.J. Burnett and CC Sabathia. Both were signed by the Yankees, which will enable us to see if Cashman used a singular logic, or if it changed from deal to deal.

Burnett signed a 5-yr/$82.5 mil deal which will keep him employed through the 2013 season. Based on his runs saved relative to the replacement level, as well as a slight bonus for logging a good amount of innings himself, Burnett’s projection is +3.3 WAR for 2009. His fair market value for a one year deal calls for $16.5 mil. Now, players will generally give a discount of around 10% in exchange for contract length and security. With this discount factored in, a 5-yr deal for Burnett would be worth $74.3 mil.

He received over $8 mil more. So how did Cashman arrive at this number? While I cannot, with 100% confidence, speak for the Yankees GM, what I can do is show that a 5-yr deal at Burnett’s fair market value, without the discount for length and security, would be worth exactly $82.5 mil. Whether Cashman realized it or not, he signed Burnett to his fair market value in 2009, for five seasons.

What would happen if Burnett signed to a deal that properly balanced the inflationary rate of dollars per win with his projected performance? Assuming a 10% inflationary rate, and that Burnett would decline by 0.40 wins per season, he would be worth +12.5 wins over the life of the deal. With the dollars per win rate increasing, his deal would begin with $16.5 mil in 2009, and steadily decrease to $12.5 mil in 2013. All told, the deal would be approximately $74 mil, which is nearly identical to the 5-yr fair market value contract with the discount for security factored in.

What about Sabathia? CC signed a 7-yr/161 mil deal, with an opt-out clause after three years. His projection calls for +5.5 WAR next season, putting his fair market value at $27.5 mil. A 7-yr deal with a discount factored in would be valued at around $174 mil. Without the discount, $192.5 mil. His actual contract was worth significantly less than both of these, meaning that Cashman did something different with Sabathia than with Burnett. Was Sabathia signed to a deal appropriately paying him for his projected decline over the life of the deal?

If CC loses a half-win of effectiveness each year, by year seven he will be a +2.5 win pitcher. With the rate of dollars per win rising by 10% each year, this would give CC +28 WAR and $180.8 mil. That deal is almost $20 mil more than he signed for. With that in mind, perhaps Cashman sees Sabathia declining more quickly. If CC loses 0.6 wins each year, he will go from +5.5 WAR to +1.9 WAR, making him a league average pitcher by 2015.

This contract would be worth $164.7 mil, right around the deal he actually signed. Though this is still about $3 mil more than his contract, it is safe to say that Cashman and the Yankees are anticipating a steeper decline for Sabathia than for Burnett. After all, A.J. was signed to five years worth of his current fair market value and CC is being valued at a +5.5 WAR pitcher right now who will lose over 0.6 wins of effectiveness each year. This just goes to show that even though we think baseball teams tend to use a standard approach to valuing contracts, it really does depend on the who and the where.