1) Rain Makers Corporation is negotiating a five-year contract with its new CEO, Earl Honeywood. The corporation has proposed two contract options for the CEO, outlined as follows:
OPTION 1: A five-year contract, starting January 1, Year 1, for $7,000,000. Earl Honeywood would be paid $1,400,000 each year at the end of the year (December 31) for five consecutive years.
OPTION 2: A five-year contract, starting January 1, Year 1, for $7,800,000. Earl Honeywood would be paid at the end of each year (December 31). He would receive $1,100,000 in Years 1 through 3, and then $2,250,000 in Years 4 and 5.
You have been hired as Earl’s investment manager, and believe that Earl should consider the time value of money at 12% before making his decision. Calculate the present value of the two contract options to aid Earl in his decision.
A) Present Value of OPTION 1:
B) Present Value of OPTION 2: