Bill Clinton reportedly was paid $10 million to write his book My Life. The book took three years to write. In the time he spent writing, Clinton could have been paid to make speeches. Given his popularity, assume that he could earn $7 million per year (paid at the end of the year) speaking instead of writing. Assume his cost of capital is 9% per year.
(a) What is the NPV of agreeing to write the book (ignoring any royalty payments)? Assume that Clinton was paid $10 million upfront. Based on the NPV rule, should he write the book?
(b) Assume that, once the book was finished, it was expected to generate royalties of $5 million in the first year (paid at the end of the year) and these royalties were expected to decrease at a rate of 25% per year in perpetuity. What is the NPV of the book with royalty payments? Now that he receives royalties, should Clinton write the book based on the NPV rule?
Answer
(a)
What is the NPV of agreeing to write the book
| Year | Cash Flow | Pv Factor @ 9% |
Prasent Value |
|
| Advance payment for book | 0 | 10,000,000 | 1 | 10000000 |
| Annual speaking fees foregone | 1 | -7,000,000 | 0.91743119 | -6422018 |
| Annual speaking fees foregone | 2 | -7,000,000 | 0.84167999 | -5891760 |
| Annual speaking fees foregone | 3 | -7,000,000 | 0.77218348 | -5405284 |
| -7719063 | ||||
| NPV of book deal | NPV | -7719063 |
(B)
Assume that, once the book was finished, it was expected to generate royalties of $5 million in the first year (paid at the end of the year) and these royalties were expected to decrease at a rate of 25% per year in perpetuity. What is the NPV of the book with royalty payments
| Year | Cash Flow | Royalty with grwoth rate of-0.25% |
Net Cash Flow | Pv Factor @ 9% |
Prasent Value |
| 0 | 10,000,000 | 10,000,000 | 1 | 10000000 | |
| 1 | -7,000,000 | 500,000 | -6,500,000 | 0.91743119 | -5963303 |
| 2 | -7,000,000 | 375,000 | -6,625,000 | 0.84167999 | -5576130 |
| 3 | -7,000,000 | 281,250 | -6,718,750 | 0.77218348 | -5188108 |
| -6727540 | |||||
| NPV | -6727540 |
