In 2007, the Seattle Mariners signed their all-star outfielder Ichiro Suzuki to a five-year contract extension that will pay him $90 million over its lifespan. Several news outlets reported this as a “five year contract worth $90 million”. But being an astute finance student familiar with the concept of present value, you know that the actual worth of the contact is quite a bit less. The contract is structured with a $5M signing bonus, paid immediately; and $17M in annual salary from 2008-2012. However, each year $5M of that $17M is deferred and will grow at 5.5% interest for as long as it is deferred. Furthermore, the deferred money does not have to be paid in full until 2032. For all questions below, assume that the signing bonus is paid immediately and the annual salaries are paid once yearly, starting exactly one year from the signing date.
(a) First assume that all of the deferred money and accumulated interest is paid out along with the final salary payment at the end of 2012. Use 5.5% as the discount rate. What is the present value (as of the signing date) of Ichiro’s contract under these circumstances? (Don’t forget the signing bonus.)
(b) How much (measured in present value) in total have the Mariners saved by deferring the $5M every year instead of paying the $17M in full every year?
(c) Now assume a 15% discount rate, but keep the interest rate for deferred money at 5.5%. How much (measured in present value) in total have the Mariners saved by deferring the payments?
(d) Finally suppose that instead of paying out a lump sum of deferred money and accumulated interest at the end of 2012, the Mariners decide to pay Ichiro a fixed payment every year from 2013 until 2032. Still using a 15% discount rate and 5.5% interest rate on the deferred payments, calculate how much in sum the Mariners are saving over a contract that would pay Ichiro a straight $17M yearly payment.

  • CreatedJuly 29, 2013
  • Files Included
Post your question