Question

Jack and jill are planning to divorce in 2019. Jack has offered to pay jill $12,000 each year untill their 11-year old daughter reaches age 21. Alternatively, Kack will transfer to jill common stock tha he owns with a fair market value of $10,000. what factors should jill and jack consider in deciding between these two options?

Answer 1

Option 1: Fixed payment of $12,000 for 10 years

The discount rate to be considered for this option it may either 10% or 12% varies from business to business and people to people depending upon the risk free return,risk premium etc.In otherwise,discount rate is the oppurtunity cost of investment.Through discount rate,discount all the future cash of $12,000 and arrive a present value for comparison purpose.

Consider the below example:

Discounting rate	10%
Year	Cash flow
01-01-2019	12,000
01-01-2020	12,000
01-01-2021	12,000
01-01-2022	12,000
01-01-2023	12,000
01-01-2024	12,000
01-01-2025	12,000
01-01-2026	12,000
01-01-2027	12,000
01-01-2028	12,000
	1,20,000
Present Value	₹ 73,734.81

The above cash flows has been discounted @ 10% to arrive present value.

Option 2: Share with Fair Value of $10,000

1.The fair value of share to estimated after 10 years(For comparison purpose with Fixed payment).For this purpose,the growth of the industry and future revenue earnings of the company and appropriate discount rate to be considered and In most of the cases,current fair value considers all the above factors.

To summarise ,the following are the important factors to be considered:

1.Discount rate,

2.Growth of industry,

3.Net Cash flows,

4.Market forecast,

5.Taxation (taxability and its rate).