Martinez Hardy recently rejected a $20,048,000, five-year contract with the Vanc

Question

Martinez Hardy recently rejected a $20,048,000, five-year contract with the Vancouver Seals hockey team. The contract offer called for an immediate signing bonus of $7,373,000 and annual payments of $2,535,000. To sweeten the deal, the president of player personnel for the Seals has now offered a $21,953,000, five-year contract. This contract calls for annual increases and a balloon payment at the end of 5 years.

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Suppose you are Hardy’s agent and you wish to evaluate the two contracts using a required rate of return of 16 percent. In present value terms, how much better is the second contract? (Round present value factor calculations to 4 decimal places, e.g. 1.2151 and final answers to 0 decimal places, e.g. 125. Enter negative amounts using either a negative sign preceding the number e.g. -45 or parentheses e.g. (45).)

Present value of old contract = ?

Year 1 $2,456,000 Year 2 2,647,000 Year 3 2,678,000 Year 4 2,794,000 Year 5 2,945,000 Year 5 balloon payment 8,433,000 Total $21,953,000

Explanation / Answer

Solution :

As present value of new contract is lesser than present value of old contract, therefore second contract is not better than first contract.

Computation of Present Value of Old Contract Period Amount PV factor Present Value 0 $7,373,000.00 1 $7,373,000 1 $2,535,000.00 0.8621 $2,185,424 2 $2,535,000.00 0.7432 $1,884,012 3 $2,535,000.00 0.6407 $1,624,175 4 $2,535,000.00 0.5523 $1,400,081 5 $2,535,000.00 0.4761 $1,206,914 Total $15,673,604

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