Question

You are a professional football running back who is eligible to be a free agent. You are offered a two-year contract to play for your current team for $3,000,000. If you accept that contract, the firm retains your rights and you will not be able to play for another team at the conclusion of the contract. Otherwise, you can play for your current team for two years at a price of $2,000,000 but you have the ability to play for any team at the expiration of this agreement. What is the value of the option to play for any team you like after two years? Assume a discount rate of 5%. a. $1,578,231 b. $1,718,821 c. $1,859,410 d. $1,952,381

Answer 1

$1,859,410

Step-by-step explanation:

Open rights contract:

$2,000,000 * PVIFA(2,5%)

= 2,000,000 * 1.8594104

= 3,718,821

Value of option: 5,578,231 - 3,718,821

= $1,859,410

Therefore the value of the option to play for any team you like after two years is $1,859,410