Question

Khurram Ali is negotiating his employment contract. His opportunity cost is 15%. He has been offered two possible 4-year contracts. Payments are in Pakistani rupees and are guaranteed, and they would be made at the end of each year. Terms of each contract are as follows:

Contract Year 1 Year 2 Year 3 Year 4
Contract 1 4 Million 4 Million 4 Million 4 Million
Contract 2 10 Million 1 Million 1 Million 1 Million

As his financial adviser, which contract would you recommend that he accept?

Answer 1

The net present value of the contract 1 is:

$NPV1 = 4/1.15 + 4/1.15^2 + 4/1.15^3 + 4/1.15^4 = 11.42,$

$NPV1 = 10/1.15 + 1/1.15^2 + 1/1.15^3 + 1/1.15^4 = 10.68,$

So, the first contract is better.