Using the Time Value of Money Decision Tree to

Calculate an Athlete's Contract Offers

Understanding the Application of TVM in Professional Sports
Contracts

CORPORATE FINANCE – SEMESTER II

Presented to: Dr. Jyoti Nain

Presented by : Group No. 14

Abhinav Panchal
Ayushi Pandey
Rajat Yadav
Sunny Singh
Sunidhi Singh
 Introduction to Time Value of Money (TVM)

TVM is a financial concept that recognizes the value of money changes over time. It states that a specific
amount of money today is worth more than the same amount in the future due to its potential earning capacity.
Importance in Finance:
Investment Decisions: Helps investors evaluate the worth of investments by comparing the present value of
expected returns with the initial investment.
Loan Amortization: Used to calculate the payments required to repay loans, including mortgages and car
loans.
Retirement Planning: Assists in determining how much to save now to meet future financial goals.
Business Valuation: Critical for assessing the value of a business by evaluating the present value of expected
future earnings.

Real-World Applications:
 Evaluating Contracts: TVM is used to compare the value of different contract offers, such as sports
contracts, where the timing and amount of payments vary.
 Corporate Finance: Companies use TVM to make decisions on capital budgeting, project evaluations, and
financial planning.
 Future Value Discount Rate
Present Value (r)
(PV) (FV)
Present value formula:

The current The value of a The interest

value of a current sum rate used to
future sum of of money at a discount
money or specified date future cash
stream of in the future, flows to their
cash flows, calculated present
discounted at using a given values. Future value formula:
a specific interest rate.
interest rate.
 Case Study Overview
The case study focuses on a sports agent tasked with evaluating four different contract offers for her client, a
professional athlete. Each contract presents a unique payment structure, and the agent must determine which offer
provides the highest present value (PV) using the principles of the Time Value of Money (TVM).
Objective:
To apply the TVM Decision Tree to calculate the present value of each contract offer and identify the most
financially beneficial option for the athlete
Contract types:
Contract 1 Contract 2 Contract 3 Contract 4

Single Lump-Sim Payment Growing Annuity Delayed Annuity Immediate & Deferred Payments
 A one-time  Annual payments  Payments of $2  An immediate
payment of $10 starting at $1 million per year payment of $3
million paid today. million, increasing starting in year 3 million.
 No future by 5% each year and continuing for  Additional
payments. for 5 years. 4 years. payments of $1
 Reflects a scenario  This contract million per year for
where the athlete involves a waiting the next 5 years.
receives increasing period before the  Combines upfront
compensation over athlete starts compensation with
time. receiving a series of future
payments. payments.
 Contract Evaluation Criteria
Present Value (PV)
 The current worth of a future sum of money or stream of cash flows given a specified rate of return.
 Provides a basis for comparing the value of different contract offers by converting future payments into today's dollars.
Discount Rate
 The interest rate used to discount future cash flows to their present values.
 The choice of discount rate can significantly impact the present value calculation. Commonly used rates in professional sports
contract evaluations range from 5% to 10%, reflecting the opportunity cost of capital and the risk profile of the payments.
Deferred Compensation
 Payments made in the future for work performed today. In professional sports, this often includes signing bonuses, deferred
salary payments, and performance incentives.
 Offers tax advantages, financial stability post-retirement, and alignment of long-term interests between the athlete and the
team.
Annuities
 Growing Annuity : A series of payments that increase at a constant rate over time. Example - Annual payments starting at $1
million, increasing by 5% each year for 5 years.
 Delayed Annuity : Payments that start after a certain period. Example - $2 million per year starting in year 3 for 4 years.
 Immediate and Deferred Annuities : Combination of upfront and future payments. Example - Immediate payment of $3
million, plus $1 million per year for the next 5 year
 TVM Decision Tree
Guide for evaluating different contract offers by calculating their present value.
Steps:
1. Identify cash flows for each contract.
2. Select appropriate discount rate.
3. Calculate PV for each contract.
4. Compare PVs to determine the most valuable contract.

Application Example
Contract 1: Single lump-sum payment of $10 million today.
Contract 2: Growing annuity starting at $1 million and increasing by 5% annually for 5 years.
Contract 3: Delayed annuity of $2 million per year starting in year 3 and continuing for 4 years.
Contract 4: Mix of immediate $3 million and deferred payments of $1 million per year for the next 5
years.
Calculations for Contract Offers
 Impact on Discount Rates

 When comparing contract offers, the choice of discount rate can significantly influence the perceived
value of each offer.
 Higher discount rates might favor contracts with more immediate payments.
 Lower discount rates might make contracts with future or growing payments appear more attractive.
 Investment Analysis: Investors use different discount rates based on the risk profile of investments.
 Corporate Finance: Companies evaluate project viability using weighted average cost of capital
(WACC) as the discount rate.
 Personal Finance: Individuals apply discount rates to retirement planning and savings goals to account
for inflation and investment returns.
 Deferred Compensation in Sports

Deferred compensation plays a significant role in the financial planning of professional athletes. It offers
numerous benefits, including tax advantages and financial stability, but also comes with risks such as
dependency on the financial health of the paying entity and inflation. Understanding these factors is
crucial for athletes and their advisors when negotiating contracts.
Benefits :
 Tax Advantages
 Financial Stability
 Alignment of Interests
Risks :
 Financial Health of the paying entity
 Inflation risk
 Renegotiation or restructuring
 Summary of PV Calculations

Below is a summary table of the present values for each contract offer, calculated using the Time Value of
Money (TVM) principles and a discount rate of 5%.
CONTRACT PAYMENT STRUCTURE PRESENT VALUE
Contract 1 Single Lump Sum Payment $ 10,000,000
Contract 2 Growing Annuity (5% increase per year for 5 year) $ 4,327,927
Contract 3 Delayed Annuity ($2 million/year starting year3) $ 6,430,644
Contract 4 Immediate + Deferred Payment $ 7,329,500

 Contract 1 ($10,000,000) provides the highest present value due to the immediate lump-sum
payment.
 Contract 4 ($7,329,500) offers a substantial immediate payment with additional deferred payments,
providing a good balance between immediate and future earnings.
 Understanding the present value of each contract helps make informed financial decisions.
 Conclusions

 The application of Time Value of Money (TVM) principles is crucial in evaluating different contract
offers.
 By calculating the present value of each contract, athletes and their advisors can make informed
decisions that align with their financial goals and risk tolerance.
 Contract 1 offers the highest present value, making it the most financially advantageous in terms of
immediate gain. Contract 4 presents a balanced option with a combination of immediate and deferred
payments.
 It is essential to consider the athlete's financial goals, tax implications, risk management, and
investment opportunities when choosing the best contract offer.
 Immediate lump-sum payments can be invested to potentially grow the athlete’s wealth.
 Deferred payments provide a steady income stream that can be used to support ongoing expenses and
future investments.