The Case for Signing Tony Cingrani to a Long-Term Extension....Like, Right Now

"There are contract extensions and contract extensions. This is the latter."

Earlier this offseason, Walt Jocketty stepped up and got a long-term extension done with Homer Bailey. Prior to that point, media reports stated that the Reds and Homer were "far apart" in negotiations. Like most Reds fans, conditioned by years of ownership frugality, I had fully expected Homer to walk after the year, but when I saw the arbitration hearing deadline looming on February 20th, it suddenly hit me that this is exactly how Jocketty operates. He waits until there is some type of pressure, some level of urgency for both sides to get a deal done and then he strikes.

More than most GMs, Jocketty seems to operate in shadow. It can make for interesting times for the fan base. It may be his preferred working style. It may allow him to get things done free from scrutiny. But, it can also be a weakness. He doesn't control the message that fans receive. He passes on the chance to control public opinion. That's fine when you're winning, but if things turn south then you run the risk of losing the fan base.

But, this isn't a post about Jocketty's operating style. It's about why the Homer extension and others like it make a tremendous amount of sense for the Reds right now.


TWO TYPES OF INVESTMENTS

There are two types of investment gambles: (1) finding an individual asset in which to invest that you feel is valued inaccurately by the market, or (2) finding flaws in the market itself and betting against the entire system.

An example of the first would be finding a single family dwelling that is priced $50,000 below where it should be. A residence that, because of a solid foundation, an unappreciated chandelier, and a great location is worth more than others realize. So, you buy that asset for less than it's worth and reap the value.

An example of the second would be recognizing that the entire subprime mortgage industry is completely corrupt, setting the entire housing market up for imminent collapse, and betting against the entire system.

The first type of gamble can earn you a tidy profit, the second type of gamble can make you stinking rich...if you invest heavily enough in it.

Courtesy: Gene Puskar, AP

Homer's contract extension (even if the Reds don't recognize it) actually works well under both investment scenarios.



I support the extension given to Homer Bailey. I support it because of reasons specific to Homer, including his performance line trending upward and his impressive durability. Homer seems like a good individual investment. However, in addition to these Homer-specific reasons, it's an even better idea for systemic reasons.


EXPLODING MLB REVENUE AND LAGGING PLAYER SALARIES

Revenue is exploding in Major League Baseball and has been for a number of years. However, unlike salary cap leagues that base their salary structure expressly on a percentage of league-wide revenue, MLB relies on market forces to determine the percentage of revenue that will trickle down to the players. One of the big knocks on salary caps is that they are a "wealth transfer" mechanism, shifting money from players to owners. Instead of letting market forces dictate how much of the revenue naturally goes to the players, the percentage that goes to the players is artificially established through collective bargaining. Not surprisingly, market forces typically allocate more revenue to the players than the percentages that are collectively bargained by the owners. However, when the salary structure is determined by a percentage of revenue, it is calculated on an annual basis. As a result, salary cap systems more quickly allocate revenue gains to player salaries than market forces, even if those slower market forces eventually allocate a significantly greater share of the new revenue to player salaries.

Currently, the revenue in Major League Baseball is increasing at such a massive rate that the percentage trickling down to player salaries is lagging behind. It just can't trickle down fast enough to keep pace with the new revenue, resulting in the percentage of league-wide revenue that is allocated to the players falling far below where it used to be. As of now, the MLB percentage has even fallen below the percentage of revenue that salary cap sports (NHL players receive 50% of Hockey Related Revenue; NBA players receive 49-51% of Basketball Related Revenue) mandate be allocated to player salaries.

What this creates is an opportunity for teams bold enough to grab it. As it stands, players are being paid based on an outdated reality. Player salaries haven't caught up to the revenue boom, so players are being paid less than they should be.

In short, the owners are living in the luxurious "new revenue" world, but are still paying costs under the "old revenue" reality.

Baseball contracts are largely pulled upward by the contracts of superstar players. As their contracts are extended or they receive a free agent contract, those contracts set the market for everyone below. The new market creates upward pressure on the salaries of all players below. Unfortunately, those deals don't come up all that often, so it may take awhile for those deals to reset salary expectations. That is clearly starting to happen with the recent deals for Clayton Kershaw and Miguel Cabrera, but it seems clear that there are still bargains to be had because the percentage of total revenue that goes to MLB salaries is lower than standard business practices would dictate.

Here are some rough numbers to illustrate the point:



Major League Baseball Salaries as a Percentage of MLB Revenues, Salaries per Cot's Contracts

2000: 50.02%
2001: 53.08%
2002: 56.24%
2003: 54.55%
2004: 46.03%
2005: 43.84%
2006: 41.55%
2007: 40.64%
2008: 41.33%
2009: 40.40%
2010: 40.12%
2011: 41.10%
2012: 40.14%
2013: 39.79%



Major League Baseball Salaries as a Percentage of MLB Revenues, Salaries per Lahman Database

2000: 49.00%
2001: 52.99%
2002: 56.34%
2003: 54.70%
2004: 46.05%
2005: 43.85%
2006: 41.53%
2007: 40.69%
2008: 41.40%
2009: 40.48%
2010: 38.91%
2011: 39.82%
2012: 39.10%
2013: --------



Again, what's important is the trend line, not the specific percentages. Under each salary calculation, the percentage of revenue that goes to player salaries has fallen ~10% since the 2000 season. Forbes just reported, citing to The Associated Press, that Major League Baseball spent $3,767,445,277 on total player salaries in 2013, representing 47% of total league wide revenues. So, Forbes is obviously calculating salaries differently (and, probably more accurately), but, despite the different methodology, 47% is still significantly lower than in previous years.

As it stands, the percentage may not catch up until revenue growth slows, but it seems very likely that owners will eventually, and naturally, spend what they used to spend on players. So, if the market for players isn't reflecting the "true" percentage of revenue that typically goes to players, then there are bargains to be had system-wide.

If owners are spending a lower percentage of their total revenue on labor costs, then they can afford, and will ultimate be forced, to spend more. They have shown in the past that they can effectively operate their business while paying more for labor costs. If the market for labor is lagging behind the revenue, then longer term contracts that take advantage of this disparity make sense. If you can lock in talent at the current "lower percentage of revenue labor market rate", then you can lock in a below market rate for years to come. Act before the market correction and you are ensuring significant cost savings, which would seem to mitigate much of the risk of a signing someone like Homer Bailey in the first place.

If the Reds were smart, then they'd lock up desirable assets to long-term deals now, BEFORE the market correction arrives. One asset I'd look to lock up right now is Tony Cingrani.


WHY CINGRANI IS WORTH A LONG-TERM EXTENSION

Courtesy: Tom Uhlman, AP

Personally, I don't share the common fear that hitters will suddenly adjust to the fastball. It's obviously a plus-pitch with good velocity and late hop. And, to the extent that they do adjust, it seems very likely that Tony's improved secondary offerings, which should only get better, will counteract that. And, I'm a big fan of Tony's pitching mechanics, which should reduce his risk of arm injury. So, I buy the performance level, believe he has a lower injury risk, and give him a boost in value for being a southpaw. He's a good investment from an individual point of view.


And, it's a good bet from a systemic point of view, as there are two scenarios where this type of contract would pay off:

1. Either revenues level off, but the % of revenue that goes to labor costs increases back to more "normal" levels, or
2. Revenues continue to grow, making it irrelevant whether the % of revenue increases back to more normal levels. 

Basically, this type of extension would pay off if (1) the future slice of the pie that goes to players increases or (2) the whole pie continues to grow. Either way, any contract signed under today's market reality is a potential bargain because both scenarios reflect continuing market escalation. And, quite frankly, I'm not sure I see any scenario OTHER THAN continuing market escalation playing out over the next 5 to 7 years.


MATT MOORE AS A COMPARABLE

I'm higher on Cingrani than most, so that needs to be factored in, but I think there's very likely a deal here that makes sense. If you consider the deal the Rays handed to Matt Moore as a baseline, then I think it would make a lot of sense. So, let's revisit it:

Matt Moore lhp

5 years/$14M (2012-16), plus 2017-19 options; signed extension with Tampa Bay 12/9/11
$0.5M signing bonus

12:$1M, 13:$1M, 14:$1M, 15:$3M, 16:$5M, 17:$7M club option ($2.5M buyout), 18:$9M club option ($1M buyout), 19:$10M club option ($0.75M buyout)

2017 club option increases by $0.5M with 600 IP in 2014-16
2018 club option increases by $0.25M each with 1) 85 starts or 570 IP in 2015-17, 2) 90 starts or 600 IP and 3) 95 starts or 630 IP
2019 club option increases by $0.5M each with 1) 98 starts or 600 IP in 2016-18 and 2) 66 starts or 400 IP 2017-18

The Rays signed Matt Moore to this extension after he had thrown something like 10 MLB innings. Now, the key to this deal making sense is the existence of team options. Contracts are substantially about risk allocation, the team option years shift that allocation more favorably in the direction of the team. The Rays were undoubtedly comfortable handing this type of deal out because (1) Moore had a longer minor league track record of success and (2) was more highly regarded than Cingrani.

The Moore extension was signed prior to the 2012 season, but it was also given to a pitcher with (arguably) less risk and more certainty. So, maybe a similar deal (maybe a couple million needs to be tacked on to each year's salary) could be struck now, as Cingrani's higher level of risk would help offset inflation and the revenue explosion. And, seriously, how much risk is there in that Matt Moore deal? He's set to earn $9M and $10M in 2018 and 2019? Is there ANY scenario, other than injury, in which a lefthanded pitcher with a mid-90s fastball ISN'T worth that?

Given what Clayton Kershaw just signed for and, hell, what Jason Vargas just signed for, I see very few ways in which this type of deal DOESN'T pan out. If Jason Vargas is worth $8.5M NOW, then what are the odds that Cingrani ISN'T worth ~$12M in 2019?


FINAL THOUGHTS

Personally, I think an extension for Tony Cingrani is something that should be seriously considered. Given the explosion of revenue and the lag in it trickling down to player salaries, it seems like there are more ways for this type of deal to pay off than not. Realistically, how much risk is there in a ~$12M salary in 2018 and 2019?

If I could extend Tony through his first 6 years AND get a team option year or two, then I'd jump at the chance to do it. Now is the time to spend. Take advantage of the league-wide financial conditions and the fact that Tony's reputation has yet to catch up to his performance level. Waiting, even a year, could change both of those realities. Kershaw type contracts and a top flight year by Tony would make this opportunity far less likely to happen.

The Reds were smart enough to lock up Homer Bailey under the current, below-market salary structure, but in order to get really wealthy they need to double down in their bet against the system. There is a low risk, high reward opportunity right now to exploit a systemic inefficiency. Right now, it's as much about being right about this systemic inefficiency as it is being right about the player who will receive an extension. In fact, the former will mitigate the risk of being wrong about the latter.

Sign Tony BEFORE the market correction arrives!!!

Joey Votto Contract Extension Revisited

I came across an interesting blurb on the Providence Journal website describing a statement made by Theo Epstein on a sports radio interview. The statement is rather applicable to a Reds offseason that was notable solely for its contract extensions.


Previously, I expressed my disapproval of the Joey Votto's contract extension. I just failed to see any appreciable value in it for the Reds. It makes a lot of sense for Joey Votto, but the Reds failure to buy out even a single free agent year makes it a poor one for the organization. And, interestingly enough, Theo Epstein would seem to agree:

"Our philosophy, which is actually a policy in writing, is if we're going to sign arbitration-eligible players long term, we have to get one free agent year and we have to get an option for the club. Because we're giving the player certainty. We need to be able get some of those prime years back in exchange. That makes it a fair bargain. We got that with (Kevin) Youkilis. We got that with (Dustin) Pedroia. We got that with (Jon) Lester. Those players decided to give us that flexibility in exchange for security. If players don't want to do that, that's fine with us. We'll just treat them accordingly, year to year."

Epstein's opinion is more in line with my feelings on the extension. It's interesting to note that they believe so strongly in the policy that they actually put it in writing. Not sure what type of writing that would be, but I'd love to read it. Now, there are many ways to run an organization and it must be pointed out that the Reds and Red Sox aren't identically situated. Maybe the revenue disparity between Boston and Cincinnati means that the Reds need to use different policies in regard to contract extensions. Maybe there is a rational financial basis for the Reds more heavily weighing the value of payroll savings than do the high revenue Red Sox. Personally, I tend to doubt it. I still don't see the potential cost savings as outweighing the injury/performance risk that the organization incurred.


Any discussion of the best run MLB franchises necessarily includes the Red Sox along with the Twins, Braves, Phillies, and Rays. So, when one of those franchises does something, it's worth taking note. Walt Jocketty has undoubtedly done some real nice things during his tenure as the Cincinnati GM, but I still struggle to see the value to the organization of the Votto extension. The Jay Bruce extension was a very strong move for the organization, but it might have been better for them to go year-to-year with Votto.

Opt-Out Clauses in MLB Contracts

Baseball contracts are completely guaranteed. As soon as a player signs on the dotted line, he is guaranteed to get the complete monetary value of that contract. Just about the only way he won't get the complete value of that contract is if he retires before the contract expires.

While they are legal contracts, in common sense terms they are devices designed to apportion the risk between the player and the team. The longer the contract, the greater the risk undertaken by the baseball organization. The shorter the contract, the greater the risk undertaken by the player. As free agent salaries skyrocket, the risk of a long-term contract is even greater. If a player gets hurt (i.e. Carl Pavano) or simply loses effectiveness (i.e. Barry Zito, Eric Milton), then it can be highly detrimental to the team. However, as stupefying as it may seem, organizations have found a new way to assume an even greater percentage of the risk.

A few years ago, the Toronto Blue Jays signed A.J. Burnett to a hefty free agent contract. The Jays were so anxious to sign Burnett that they gave him a 5 year and $55M contract. Not only did they give him a significant number of years and a huge amount of money, but they also gave Burnett an opt-out clause. Under the terms of the contract, Burnett could elect to opt out of the contract after the 2008 season. Of course, this is just what he decided to do, which is why he'll be wearing pinstripes in 2009.

That was the first time I had heard of an opt-out clause, but the Yankees just used one to get C.C. Sabathia to sign on the dotted line. The Yankees gave C.C. $161M over 7 years. However, C.C. can opt out of the contract after only 3 seasons. So, from an assumption of the risk standpoint, C.C. is assuming only 3 years worth of risk, from 2009-2011, while the Yankees are assuming 7 years worth of risk from 2009-2015.

It seems like an odd trend, but maybe it's the wave of the future. Maybe the scales are tipping even farther in favor of the players in contract negotiations. It's the inverse of the situation in the NFL, where contracts are not guaranteed and teams can opt out of the deal well before the contract runs its course. The difference between the two leagues can be explained by the differences in the strength of the respective player unions. So, unlike the NFL, in MLB it's the players who are beginning to wield this power. For a team like the Yankees, it really doesn't matter much. They can afford to absorb risk like no other team, as their massive revenue stream gives them a much larger margin for error in player personnel decisions. However, it could be highly detrimental to teams without the financial resources of the Yankees.

The Blue Jays are just such an example. They took on a great deal of risk to sign A.J. Burnett. They gave him the money and years to lure him away from the Yankees and Red Sox. However, they also gave Burnett an opt out clause, which ultimately ended up costing them, as they lost him to a team within the division. However, it could have been worse.

For example, if Burnett had blown out his elbow on the last pitch of the 2008 season and required Tommy John surgery, then there is no way he would have chosen to opt out. He would have declined his opt out provision and kept the Blue Jays on the hook for $12M a year. He would have missed all of 2009 and was very likely to be at less than 100% in 2010. Under his contract, A.J. could opt-out to get a better deal if he performed well and stayed healthy in 2008, but could keep the Jays on the hook if he got injured or was ineffective.

If more and more teams agree to these types of clauses, then teams are going to be forced to assume a greater portion of the risk just to attract the best free agents. That would be problematic for smaller market teams and make free agency an even less viable option for these teams. Hopefully, the big market teams won't be willing to offer these clauses, because it would have an inevitable trickle down effect and make it even more difficult for smaller market teams to compete in the marketplace.

Brandon Phillips Signed!

Well, good news, Reds fans. The Reds did what they needed to do and locked up Brandon Phillips to a multi-year contract.

Earlier this offseason, the Reds and Phillips exchanged arbitration figures. Given Phillips' performance in 2007 and the discrepancy between the figures, it was fairly clear that the Reds were going to lose. The Reds offered $2.7M, while Phillips countered with $4.2M. While I do think his 2007 season is being overrated a bit, it's hard to deny that a 30/30 season from a middle infielder would speak very loudly in an arbitration hearing.

Given all that, one has to wonder if the lowball figure the Reds tossed out was designed to signal Phillips that they wanted to get a longterm deal done. It seems like a pretty clear indication that they weren't going to seriously contest the arbitration, but rather were willing to pay Phillips what he deserves. Whatever the reason for the low arbitration offer, the Reds made it a moot point by locking Phillips up to a 4 year contract with a team option for a 5th year.

TERMS OF THE DEAL

Under the terms of the deal, Phillips gets a $750K signing bonus with salaries of $2.75M in 2008, $4.75M in 2009, $6.75M in 2010, $11M in 2011, and a team option for $12M in 2012. Overall, it seems like a good deal for the Reds. When you include the $750K signing bonus, his 2008 salary is just about the midpoint between the arbitration figures. In addition, if Phillips can maintain something approximating his 2007 level of performance, then it would seem likely that his annual salary in each year of the contract will be below market.

If Phillips was a free agent this offseason, then he'd likely be in line for a 2008 salary in the neighborhood of $9-10M, so getting him under contract for $11M in 2011 and $12M in 2012 could be a very good deal. On average, salaries increase ~10% per year in MLB, so the Reds are getting his first two free agency years at a well below market rate.

CONTRACTS AND ASSUMPTION OF THE RISK

Contracts in Major League Baseball are all about risk. Since the contracts are guaranteed, a player is assured of receiving his money regardless of future performance or health. Accordingly, the longer the length of the contract, the higher the risk being assumed by the team. If a player gets injured in the future or suffers a decline in production, then the team is overpaying for the production they receive. The shorter the length of the contract, the higher the risk being assumed by the player. If a player accepts a short-term contract, then his risk is higher because he isn't guaranteed any money if he gets injured.

This seems to be a good deal for the Reds, as they limited the risk they assumed by not guaranteeing the 5th year and are likely to be paying below market rates in each year. While the deal itself is a good one for the Reds, it does add another data point to what is a potentially disturbing trend. One has to wonder about the wisdom of signing a player who is under control for three more seasons to a longterm contract right after he has a career best season. The Reds did something similar with Bronson Arroyo and now they've done it again with Brandon Phillips.

Overall, it's a good day for Reds fans, but let's hope the Reds put an end to negotiating long term contracts on the basis of career seasons.

Bronson Arroyo's Contract Coming Home to Roost?

When the Reds extended Aaron Harang's contract to keep him in Cincinnati, I was ecstatic about the decision. When the Reds followed up by extending Bronson Arroyo's contract, I had a number of concerns. A year later, I still doubt the wisdom of extending Bronson Arroyo's contract.

ACQUISITION AND EXTENSION

Prior to his acquisition, the Red Sox signed Arroyo to a below market contract. Arroyo agreed to the below market deal in an effort to improve his chances of staying with the Red Sox, who promptly took advantage of his resulting bump in trade value created by the below market contract by sending Arroyo to the Reds for Wily Mo Pena.

So, when he was acquired by the Reds, Arroyo was under a below market three year contract. He was set to be paid $2.75M in 2006 in his age 29 season, $3.8M in 2007 in his age 30 season, and $3.95M in 2008 in his age 31 season.

In 2006, Arroyo posted a career best season, posting a 3.29 ERA, 1.19 WHIP, and a 184/64 K/BB ratio in 240.2 innings. That level of production for only $2.75M is a tremendous bargain. However, it seemed like a misstep at the time for Krivsky to extend his contract at that point and the decision doesn't look much better now.

After the 2006 season, Krivksy gave Arroyo a contract extension, which increased the 2008 salary and extend him through 2010 with a team option for 2011. Arroyo received a signing bonus to be paid in 2008 of $2.5M, which essentially increases his 2008 salary from $3.95M to $6.45M. He is set to paid $9.5M in 2009, $11M in 2010, and a team option of $11M in 2011.

Given that Arroyo was coming off a career season, Krivsky picked a poor time to negotiate a new contract, which is highlighted by Arroyo's return to earth in 2007. In 2007, Arroyo posted a 4.23 ERA, 1.40 WHIP, and a 156/43 K/BB ratio in 210.2 innings pitched. Even so, he was still a good bargain at $3.8M, but his performance was a bit disappointing.

However, the question is whether the Reds would have been better off if Krivksy hadn't extended Arroyo's contract.

ELIAS RANKING AND POTENTIAL FOR COMPENSATORY PICKS

After the 2007 season, Arroyo was ranked by the Elias Sports Bureau as the #13th NL starting pitcher, which makes him a type-A free agent. Type-A free agents net two compensatory draft picks when they leave via free agency. Of course, his performance in the 2007 and 2008 seasons will dictate his ultimate 2008 Elias ranking, but there's a good chance that he'll maintain a type-A rating and at the very least he'd net one compensatory draft pick as a type-B.

So, if Arroyo had not been extended, then he would have been under contract for 2008 at $3.95M and had the potential to bring in two compensatory draft picks after the season. In addition, for the first time in a long while, the Reds have homegrown pitching on the horizon in the form of Homer Bailey, Johnny Cueto, and Matt Maloney. So, if things break right, then there could be viable options to replace Arroyo after 2008.

ALTERNATIVE 2009 REALITY

If the Reds hadn't extended Arroyo, then they would get his 2008 production at a lower cost and be in position to receive two compensatory picks after the season. If they were to let Adam Dunn walk after the season, then they'd be inline for two more compensatory picks.

If they followed this course, they'd have four compensatory picks to bolster the farm system, millions of dollars from the departure of Dunn, Griffey, and Arroyo to improve the MLB roster, and a 2009 lineup resembling the following:

Rotation
1) A.Harang r
2) H.Bailey r
3) J.Cueto r
4) ???????
5) M.Maloney l

Lineup
c) ??????
1b) J.Votto l
2b) B.Phillips r
3b) E.Encarnacion r
ss) A.Gonzalez r
lf) J.Hamilton l
cf) ??????
rf) J.Bruce l

If the Reds had chosen to follow that plan, then they'd have a strong, young, cost effective lineup for 2009, a great deal of payroll flexibility, and the ability to restock the farm system with four compensatory picks. That's a team that's built for the present, but with a definite eye towards the future. Instead, they have Arroyo locked up at the going market rate when there are likely better starting pitching options developing in the minors.

It seems like the Reds overreacted to a perennial shortfall in starting pitching by unnecessarily extending Arroyo. In short, the Arroyo contract extension seems ill-advised and the result of a poor balancing of present and future needs. Unless Arroyo bounces back to his 2006 level performance this year, it seems like they would have been better off letting him walk after the season for compensatory picks.

Arroyo and Possible Injury

After last night's shellacking at the hands of the Houston Astros, it's looking more and more like Bronson Arroyo is injured.

On May 16th, Arroyo pitched against the Padres and worked 8 strong innings, but was left in to throw 129 pitches. He pitched well, but his 129 pitch was called a ball and resulted in a game losing bases loaded walk.

The bullpen was overworked and unreliable, so Narron enabled Arroyo to work deep into the game. Unfortunately, the Reds did not build a reliable bullpen this past off season, which has resulted in countless lost games and potentially an injury to Arroyo.

Since that game, Arroyo has pitched 3 times, each time getting shelled. He has thrown 11 innings, given up 24 hits, 7 walks, struck out only 4, and allowed 20 runs. During that span, his ERA has risen from 2.64 all the way up to 4.73.

After last night's game against the Astros, Arroyo said that he felt as good as ever and catcher David Ross said that it was the best stuff he'd seen Arroyo have this season. However, the results certainly suggest that Arroyo is pitching hurt, which would be even more unfortunate after the contract extension he received from the Reds over the off season.

This past off season, the Reds gave contract extensions to Aaron Harang and Bronson Arroyo. It seemed like odd time to extend Arroyo, who was coming off a career best season and was still locked into a below market contract that he signed with the Red Sox. Arroyo signed a multiyear contract with the Red Sox that was below market rate in the hopes of staying in Boston, but the contract actually made him a more attractive trade target for the Reds.

The contract paid him $2.75M in 2006, $3.8M in 2007, and $3.95M in 2008. Given that Arroyo had two years left on a very reasonable contract, it seemed a strange time to extend him further. However, that's precisely what the did when they gave him a contract extension through 2010 with a 2011 team option. The Reds gave him an extension which will pay him $9.5M in 2009, $11M in 2010, and a team option for $11M in 2011.

Given that baseball contracts are guaranteed, contracts are largely about assigning the risk between the two parties. When a team hands out a multiyear contract, it is assuming the majority of the risk. If the player gets injured or sees his production decline, he still gets paid at the negotiated rate. Of course, the team has assumed the risk that they will not get the production for which they are paying.

Given that Arroyo was under contract at a very reasonable rate, it seems like the Reds assumed an unnecessary portion of the risk by offering Arroyo an extension. If Arroyo is actually injured, then the Reds decision to assume such a large portion of the risk may come back to haunt them.