Show your work Your client has presented you with the following dilemma: She has

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Your client has presented you with the following dilemma: She has a choice ot two options tor her severance package. She could take a lump sum payment today of $12,500 or she could choose to receive 3 payments if $4,938.18, the first one being received 1 year from today. That is, she would receive $4,938.18 at the end of year one, $4,938.18 at the end of year two, and $4,938.18 at the end of year three. If her opportunity cost of capital is 9% p.a., which option should she choose? She should choose the first option with a lump sum payment today, but not the other one; She should choose the second option with three payments, but not the other one; The two options are of equal value; Impossible to calculate with the information provided

Explanation / Answer

Option 1 Present Value of receiving the payment today = 12500 Option 2 Present Value = PVAF(Rate, life) PV = 4938.18/(1.09)(1.09)2(1+.09)3 PV = 4938.18*2.5312 Present Value = $ 12499.98 She should choose the Option 1 The correct answer is a) She should choose the first option with a lump sum payment today but not the later one

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