Zulu Corporation hires a new chief executive officer and promises to pay her a signing bonus of $2 million per year for 10 years, starting five years after she joins the company. The liability for this bonus when the CEO is hired:

The present value of the deferred annuity payments that the company will pay to its CEO

Explanation:

This can be calculated using an appropriate discount rate. Suppose the discount rate is 10% and the present value of payment reciept in the year 6, 7, 8, 9 and 10 will be calculated using the following formula:

Present Value = Cash flow * 1/(1+r)^n

PV of Yr 6 payment = $2 million * 1/(1+10%)^6 = $2 million * 0.564= $1.13M

PV of Yr 7 payment = $2 million * 1/(1+10%)^7 = $2 million * 0.513= $1.03M

PV of Yr 8 payment = $2 million * 1/(1+10%)^8 = $2 million * 0.467= $0.933M

PV of Yr 9 payment = $2 million * 1/(1+10%)^9 = $2 million * 0.424= $0.848M

PV of Yr 10 payment= $2 million* 1/(1+10%)^10 = $2 million * 0.386= $0.771M

So the total liability = $1.13M + $1.03M + $0.933M + $0.848M + $0.771M = $4.652. So this is the liability on a discount rate 10% choosen.

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