Ten years ago Diana Torres wrote what has become the leading Tort textbook. She has been

receiving royalties based on revenues reported by the publisher. These revenues started

at $1 million in the first year, and grew steadily by 5% per year. Her royalty rate is 15% of

revenue. Recently, she hired an auditor who discovered that the publisher had been underreporting

revenues.

The book had actually earned 10% more in revenues than had been reported

on her royalty statements.

a. Assuming the publisher pays an interest rate of 4% on missed payments, how much money

does the publisher owe Diana?

b. The publisher is short of cash, so instead of paying Diana what is owed, the publisher is

offering to increase her royalty rate on future book sales. Assume the book will generate revenues

for an additional 20 years and that the current revenue growth will continue. If Diana

would otherwise put the money into a bank account paying interest of 3%, what royalty

rate would make her indifferent between accepting an increase in the future royalty rate and

receiving the cash owed today.