Question

Question

Allison Boone had been practicing medicine for seven years. Her specialty

was neurology. She had received her bachelor’s degree in chemistry from Kent State University and her M.D. from Washington University in St. Louis. She did her residency at Columbia Presbyterian Hospital in New York. Allison practiced neurology in a clinic with three other doctors in Hurst, Texas.

Her husband, Samual L. Boone, held an administrative position for Harris Methodist HMO in Arlington, Texas. Allison and Samuel had been married for five years and were parents of young twin sons, Todd and Trey. They lived in Arlington in a beautiful four-room house overlooking Lake Arling-ton.

Allison normally left for work at 7:30 a.m. and closed her office at 5:30 p.m. to return home. On Tuesday, July 6th, 1999 at 5:15 p.m., she received an emergency call from Arlington General Hospital and immediately went to the hospital to help a patient who had suffered serious brain damage. By the time she had administered aid and helped prepare the patient for surgery it was 11:00 p.m.

On her way home as she passed the Ballpart in Arlington (home of the Texas Rangers baseball team), she was confronted head on by a drunken driver going over 80 miles an hour. A crash was inevitable and Allison and the other driver were killed instantly. The drunken driver was making a late delivery for Wayland Frozen Foods, Inc.

Legal Considerations

The families of both drivers were devastated by the news of the accident. After the funeral and explaining the situation to the children, Samuel Boone knew he must seek legal redress for his family’s enormous loss. Following interviews with a number of lawyers, he decided to hire Sloan Whitaker.

Sloan was with a Dallas law firm (Hanson, Sloan, and Thomason) that specialized in plaintiff’s lawsuits. He had been in practice for over 20 years since graduating from Southern Methodist University (SMU) law school in 1978.

When Sloan began his investigation on behalf of Samuel Boone and his family, he was surprised to find out the driver of the delivery vehicle had a prior record of alcohol abuse and that Wayland Frozen Foods, Inc. had knowledge of the problem when they hired him. It appears the driver was a relative of the owner and at the time of employment he revealed what he termed “a past alcoholic problem that was now under control”. In any event, he was acting as an employee for Wayland Frozen Foods in using their truck to make a business related delivery at the time of the accident. The fact that he was speeding and intoxicated at the time of the impact only increased the legal exposure for Wayland Frozen Foods.

After much negotiating with the law firm that represented Wayland Frozen Foods (and its insurance company), Sloan Whitaker received three proposals for an out-of-court settlement to be paid to Allison Boone’s family. The intent of the proposals was to replace the future earning’s power of Allison Boone, less any of the earnings she would have personally needed for her normal living requirements. Also, the value that she provided for her family as a wife and mother, quite aside from her earning power, had to be considered. Finally, there was the issue of punitive damages that Wayland Frozen Foods was exposed to as a result of letting an unqualified driver operate its truck. If the case went to court, there was no telling how much a jury might assign to this last factor.

The three proposals are listed below. An actuarial table indicated that Allison, age 37 at the time of the accident, had an anticipated life expectancy of 40 more years.

Proposal 1       Pay the family of Allison Boone $300,000 a year for the next 20 years, and $500,000 a year for the remaining 20 years.

Proposal 2      Pay the family a lump sum payment of $5 million today.

Proposal 3       Pay the family of Allison Boone a relatively small amount of $50,000 a year for the next 40 years, but also guarantee them a final payment of $75 million at the end of 40 years.

I NEED HELP DOING CALCULATIONS FOR PROPOSAL 2.

Answer 1

1) PV WHEN DISCOUNT RATE IS 6%

Proposal 1

1.PV of 300000 with discounting factor 6% for 20 Years

PV annuity factor for 6% for 20year =11.46992

there fore PV = 300000*11.46992=3440976.37

2.PV of 500000 with discounting factor 6% for next 20 years

PV annuity factor for 40 years - Pv annuity factor for 20 Years

i.e 15.138-11.46992=3.66808

there fore PV=1834040

TOTAL PV of PROPOSAL 1=5275016

PROPOSAL-2

PV =5000000

Proposal -3

PV of 50000 a year for 40 years =  752314.84

PV of final payment of 75000000 =7291664.08

TOTAL present value = 8043979

there fore PROPOSAL 3 HAS THE HIGHEST PRESENT VALUE

2) PV WHEN DISCOUNT RATE IS 11%

Proposal 1

1)PV of 300000 a year for 20 years =2388998.44

2)a)PV of 500000 a year for next 20 years(after 20 years)=3981664.06

b)Present Value of 5734960.61 today =493,861.35

3) PV of proposal 1 = 2882860

PROPOSAL-2

PV =5000000

Proposal3

PV of 50000 a year for 40 years = 447552.54

PV of final payment of 75000000 =1153830.76

Total Present Value of the proposal = 1601383

PROPOSAL 2 HAS THE HIGHEST PRESENT VALUE

Hence, with increase in discount rate from 6% to 11%, the Present value of future payment of $75 million is reduced