Question

Stefan Ingves, governor of the Swedish National Bank (Riksbanken), reportedly was paid 6 million SEK in advance to write his book How we boosted inflation. The book took three years to write. In the time he spent writing, Stefan could have been paid to work as a professor and give speeches as an economic commentator in TV shows. Given his knowledge and experience, assume that he could have earned 8 million SEK per year (paid at the end of the year) working and commenting instead of writing the book. Assume his cost of capital is 12% per year.

a. What is the NPV of agreeing to write the book (ignoring any royalty payments)?

The NPV is million SEK. (Round to three decimals)

b. Assume that, once the book is finished, it is expected to generate royalties of $5 million in the first year (paid at the end of the year) and these royalties are expected to decrease at a rate of 30% per year in perpetuity. What is the NPV of the book with the royalty payments?

The NPV of the book with the royalty payments is  million SEK. (Round to three decimals, DO NOT ROUND THE RESULT FROM (a))

c. How many IRRs are there in part (a)?

The number of IRRs is .

Does the IRR rule give the right answer in this case?

Fill in "yes" or "no" .

d. How many IRRs are there in part (b)?

The number of IRRs is .

Does the IRR rule give the right answer in this case?

Fill in "yes" or "no" .

Answer 1

a. NPV = 6 - 8/ 0.12 ( 1- 1/(1.12) ^3) = $-13.215 million

b. PV at the end of 3rd year = 5 /(0.12-(-0.3)) = 11.905 million

Value today = 11.905 /(1.12) ^3 = 8.474 million

The NPV of the book with the royalty payments is = -13.215+ 8.474 = -4.741 million

c. The number of IRRs is =1 [ Since NPV is negative, IRR is only 1]

Does the IRR rule give the right answer in this case = No

d.

The number of IRRs is = 2 [ There is a positive NPV and negative NPV there are 2 IRRs]

Does the IRR rule give the right answer in this case =Yes