Question

A rookie quarterback is in the process of negotiating his first contract. The team's general
manager has offered him three possible contracts. Each contract lasts for four years.
All of the money is guaranteed and is paid at the end of each year. The payment
terms of the contracts are as follows:
					(dollars in millions)
Year	Contract 1		Contract 2		Contract 3
1	$1.50		1.0		3.5
2	$1.50		1.5		0.5
3	$1.50		2		0.5
4	$1.50		2.5		0.5
The quarterback discounts all the cash flows at 12%. Which of the three
contracts offers the most value? (Hint: Calculate the present value of future cash flows)

Answer 1

Calculation of present value

- Contract 1

Year	Cashflow ($ in millions)	PVF@12%	Cashflow*PVF
1	1.50	0.89286	1.34
2	1.50	0.79719	1.20
3	1.50	0.71178	1.07
4	1.50	0.63552	0.95

Present Value = Cashflow*PVF

= 1.34+1.20+1.07+.95

= 4.56 million

- Contract 2

Year	Cashflow ($ in millions)	PVF@12%	Cashflow*PVF
1	1.00	0.89286	0.89
2	1.50	0.79719	1.20
3	2.00	0.71178	1.42
4	2.50	0.63552	1.59

Present Value = Cashflow*PVF

= .89+1.2+1.42+1.59

= 5.10 million

- Contract 3

Year	Cashflow ($ in millions)	PVF@12%	Cashflow*PVF
1	3.50	0.89286	3.13
2	0.50	0.79719	0.40
3	0.50	0.71178	0.36
4	0.50	0.63552	0.32

Present Value = Cashflow*PVF

= 3.13+.4+.36+.32

= 4.20 million

Decision: Contract 2 offers the most value to the comapany hence preferrable.