The deal is worth $42.5 million over six years, and the final year is only partially guaranteed. Incentives could push the total amount to $50 million.
Cavaliers general manager Danny Ferry announced the signing Thursday afternoon. The 6-11 center/forward from Brazil has played five years in the NBA, all with the Cavaliers.
"Andy made it clear from the beginning of the process that his first choice was Cleveland," Varejao's agent, Dan Fegan, said. "He feels strongly that there's unfinished business left in Cleveland -- to win a championship."
The Cavs also have agreed to terms with Toronto free agent Anthony Parker. The final figures of the deal are not set, but he will receive a portion of the $5.8 mid-level exception for either two or three years.
The Cavs hope to sign Channing Frye with the remainder of their mid-level exception.
The quick agreement between the Cavs and Varejao is a stark contrast from the long, protracted negotiations the two sides went through in 2007. The Cavs were reluctant to pay Varejao anything more than the mid-level exception. Varejao ultimately got an offer sheet from the Charlotte Bobcats on a two year deal for the mid-level exception and the Cavs matched.
This time around it was much clearer to Ferry that Varejao was a critical piece to the Cavs' chances at a championship.
Varejao has been a huge source of energy and defense for the Cavs in the paint. With both Shaquille O'Neal and Zydrunas Ilgauskas in the last year of their contracts, he has proven to be the Cavs' big man of the future.
Varejao posted career-highs with 42 starts, 8.6 points per game and a field-goal percentage of .536 last season, when the Cavs won a league-high 66 regular-season games but were eliminated in the Eastern Conference finals by Orlando.
Chad Ford covers the NBA for ESPN Insider. Information from ESPN The Magazine's Chris Broussard and The Associated Press was used in this report.