Ben Bates graduated from college six years ago with a finance
undergraduate degree. Although he is satisfied with his current job, his goal
is to become an investment banker. He feels that an MBA degree would
allow him to achieve his goal. After examining schools, he has narrowed his
choice to either Wilton University or Mount Perry College. Although
internships are encouraged by both schools, to get class credit for the
internship, no salary can be paid. Other than internships, neither school will
allow its students to work while enrolled in its MBA program.
Ben currently works at the money management firm of Dewey and Louis. His
annual salary at the firm is $60,000 per year, and his salary expected to
increase at 3 % per year until retirement. He is currently 28 years old and
expects to work for 40 more years. His current job includes a fully paid
health insurance plan, and his current average tax rate is 26 %. Ben has
savings account with enough money to cover the entire cost of his MBA
program.
The Ritter College of Business at Wilton University is one of the top MBA
programs in the country. The MBA degree requires two years of full time
enrollment at the university. The annual tuition is $65,000, payable at the
beginning of each school year. Books and other supplies are estimated to
cost $3000 per year. Ben expects that after graduation from Wilton, he will
receive a job offer for about $110,000 per year, with a $20,000 signing
bonus. The salary at this job will increase at 4 % per year. Because of the
higher salary, his average income tax rate will increase to 31 %.
The Bradley School of Business at Mount Perry College began its MBA
program 16 years ago. The Bradley School is smaller and less well known
than the Ritter College. Bradley offers an accelerated, one – year program,
with a tuition cost of $80,000 to be paid upon matriculation. Books and
other supplies for the program are expected to cost $4,500. Ben thinks that
he will receive an offer of $92,000 per year upon the graduation, with an
$18,000 signing bonus. The salary at this job will increase at 3.5 % per
year. His average tax rate at this level of income will be 29 %.
Both schools offer a health insurance plan that will cost $3,000 per year,
payable at the beginning of the year. Ben also estimates that room and
board expenses will cost $2,000 more per year at both schools than his
current expenses, payable at the beginning of each year. The appropriate
discount rate is 6.5 percent.
1. How does Ben’s age affect his decision to get an MBA?
My opinion, Age is one of the important factor that affects someone decision
to continue study. In this case, Ben is now 28 years old. He graduated from
college six years ago when he’s age is 22 years old. Assuming that Ben
already working for about 5 years since graduated from college, so that he
would have enough money from salary saving in 5 years to do his MBA at 28
years age. If he starts the MBA program on 28 years old, he will spend two
years for study and perhaps finish his MBA at 30 years old. At 30 years old,
he will start working again for 40 more years after getting the MBA. With
those reasons, age affects his decision for getting an MBA.
2. What other, perhaps no quantifiable factors affect Ben’s decision to get an
MBA?
My opinion is there are several non quantifiable factors affect Ben’s decision
to get an MBA. First, I think when assuming that Ben already working for
about 5 years since graduated from college. he has job experiences as the
MBA program usually put the requirement to the candidates at least having
two years experiences in his respective field. Second, I think the current
family situation. If he married with or without children, this will affect Ben’s
decision because spouse or children supporting is also important. The third is
his willingness to continue the study. If he eager to continue the study, he
will continue the study. But if he has no willingness to study, he could do
anything else, for example having jobs that would pay more or open the
business.
3.Assuming all salaries are paid at the end of each year, what is the best
option for Ben – from a strictly financial standpoint?
I think there are three options have to be calculated:
1. Keeping his current work for 40 years
There are several factors to be considered to calculate the present values
(PV) of the first options are: His annual salary at the firm is $60,000 per
year, and his salary expected to increase at 3 % per year until retirement,
his current average tax rate is 26 % and discount rate is 6.5 percent.
In this case, to get the present value (PV), we can use the formula of
growing annuity.
Salary = $60,000, tax rate = 26%, because of tax rate, c = $44,400
R (discount rate) = 6.5%
G (growth rate) = 3%
T (the number of period working) = 40
So the PV is = $ 937,474.28
Present Value (PV) of Growing Annuity.
PVGA = C (1 – ( (1+g)/(1+r))t / r – g )
PVGA= $44 400 (1 – ((1+3%)/(1+6.5%))40 / 6.5% - 3%)
PVGA = $44 400 (1 – ((1.03)/(1.065))40 / 0.035)
PVGA = $ 44 400 (1 – 0.261 / 0.035)
PVGA = $44 400 (0.739 / 0.035)
PVGA = $44 400 (21.114)
PVGA = $ 937,474.28
2. Getting the MBA at Wilton University
In this case, must compute 4 parts:
A. PV of salary for 38 years (40 – 2 years)
B. PV of signing bonus
C. PV of costs for 2 years (tuition, books and supplies, health insurance and
rent fee)
D. PV of 2 years salary when he would work at the money management
firm.
A. PV of salary for 38 years
The factors to consider are: He will receive a job offer for about $110,000
per year, with a $20,000 signing bonus. The salary at this job will increase
at 4 % per year. Because of the higher salary, his average income tax rate
will increase to 31 %.
Salary = $110,000, tax rate = 31%, so, C = $75,900
R (discount rate) = 6, 5%
G (growth rate) = 4%
T (the number of period working) = 38 (40 years – 2 years)
So the PV is = $ 1,806,116.4
Present Value (PV) of Growing Annuity.
PVGA = C (1 – ( (1+g)/(1+r))t / r – g )
PVGA = $75 900 (1 – ( (1+4%)/(1+6.5%))38 / 6.5% - 4%)
PVGA = $75 900 (1 – ((1.04)/(1.065))38 / 0.025)
PVGA = $75 900 (1 – (0.9765)38 / 0.025)
PVGA = $75 900 (1 – (0.40508) / 0.025)
PVGA= $75 900 (0.5949/0.025)
PVGA = $75 900 (23.796)
PVGA = $ 1,806,116.4
B. PV of signing bonus
The factors to consider are:
Signing bonus = $ 20,000
R (discount rate) = 6, 5%
T (the number of period working) = 38
So the PV is = $17,633.57
PV = FV / (1+r)t
PV = $20 000 / (1.065)38
PV = $20 000 / 1.1342
PV = $17,633.57
C. PV of cost for years ((tuition, books and supplies, health
insurance and rent fee)
The factors to consider are: tuition $65,000, Books and other supplies are
estimated to cost $3000 per year. Health insurance plan that will cost
$3,000 per year, room and board expenses will cost $2,000.
Cost = $65 000 + $3000 + $3000 + $2000 = $ 73 000
R (discount rate) = 6, 5%
T (the number of period studying) = 2
So the PV is = $ 132,860
Present Value (PV) of Annuity:
PVA = c ( 1 – (1/(1+r)t / r )
PVA = $73 000 ( 1 – (1/(1.065)2 / 6.5%)
PVA = $73 000 ( 1 – (1/1.1342 / 0.065)
PVA = $73 000 (1 – 0.8817 / 0.065)
PVA = $73 000 (0.1183 / 0.065)
PVA = $73 000 (1.82)
PVA = $ 132,860
D. PV of 2 years salary when he would work at the money
management firm.
The factors to consider are: His annual salary at the firm is $60,000 per
year, and his salary expected to increase at 3 % per year until retirement,
his current average tax rate is 26 % and discount rate is 6.5 percent.
Salary = $60,000, tax rate = 26%, because of tax rate, c = $44,400
R (discount rate) = 6.5%
G (growth rate) = 3%
T (the number of period working) = 2
So the PV is = $82,076.51
Present Value (PV) of Growing Annuity.
PVGA = C (1 – ( (1+g)/(1+r))t / r – g )
PVGA = $44 400 (1 – ((1+3%)/(1+6.5%))2 / 6.5% - 3%)
PVGA = $44 400 (1 – ((1.03)/(1.065))2 / 0.035)
PVGA = $44 400 (1 – 0.9353 / 0.035)
PVGA = $44 400 (0.0647/0.035)
PVGA = $44 400 (1.8486)
PVGA = $82,076.51
3. Getting the MBA at Mount Perry College
In this case, must compute 4 parts:
A. PV of salary for 39 years (40 – 1 years)
B. PV of signing bonus
C. PV of costs for 2 years (tuition, books and supplies, health insurance
and rent fee)
D. PV of 1 years salary when he would work at the money management
firm.
A. PV of salary for 39 years
The factors to consider are: he will receive an offer of $92,000 per year upon
the graduation,. The salary at this job will increase at 3.5 % per year. His
average tax rate at this level of income will be 29 %.
Salary = $ 92,000, tax rate = 29%, so, C = $ 65,320
R (discount rate) = 6, 5%
G (growth rate) = 3, 5%
T (the number of period working) = 39
So the PV is = $1,463,821.2
Present Value (PV) of Growing Annuity.
PVGA = C (1 – ( (1+g)/(1+r))t / r – g )
PVGA = $65 320 (1 – ((1+3.5%)/(1+6.5%))39 / 6.5% - 3.5%)
PVGA = $65 320 (1 – 0.3277/ 0.03)
PVGA = $65 320 (0.6723/0.03)
PVGA = $65 320 (22.41)
PVGA = $1,463,821.2
B. PV of signing bonus
The factors to consider are:
Signing bonus = $ 18,000
R (discount rate) = 6, 5%
T (the number of period working) = 39
So the PV is = $ 15,870.22
PV = FV / (1+r)t
PV = $18 000 / (1.065)39
PV = $18 000 / 1.1342
PV = $15,870.22
C. PV of cost for 1 years ((tuition, books and supplies, health
insurance and rent fee)
The factors to consider are: tuition $ 80,000, Books and other supplies for
the program are expected to cost $4,500. Health insurance plan that will
cost $3,000 per year, room and board expenses will cost $2,000.
Cost = $ 89,500
R (discount rate) = 6, 5%
T (the number of period studying) = 1
So the PV is = $84,033.34
Present Value (PV) of Annuity:
PVA = c ( 1 – (1/(1+r)t / r )
PVA = $89 500 ( 1 – (1/(1+6.5%)1 / 6.5% )
PVA = $89 500 (0.06103 / 0.065)
PVA = $89 500 (0.93892)
PVA =$84,033.34
D. PV of 1 year’s salary when he would work at the money
management firm.
The factors to consider are: His annual salary at the firm is $60,000 per
year, and his salary expected to increase at 3 % per year until retirement,
his current average tax rate is 26 % and discount rate is 6.5 percent.
Salary = $60,000, tax rate = 26%, because of tax rate, c = $44,400
R (discount rate) = 6.5%
G (growth rate) = 3%
T (the number of period working) = 1
So the PV is = $41,736
Present Value (PV) of Growing Annuity.
PVGA = C (1 – ( (1+g)/(1+r))t / r – g )
PVGA = $44 400 (1 – ((1+3%)/(1+6.5%))1 / 6.5% - 3%)
PVGA = $44 400 (1 – 0.9671 / 0.035)
PVGA = $44 400 (0.0329 / 0.035)
PVGA = $44 400 (0.94)
PVGA = $41,736
So the best option for Ben Bates is getting the MBA at Wilton
University. He will receive more money after finishing the study and get
salary and signing bonus with total present value $1 823 749.97. The
present value study expenses at Wilton University (tuition, books and
supplies, health insurance and rent fee) is $132 860 and the present value
study expenses at Mount Perry College (tuition, books and supplies, health
insurance and rent fee) is $84 033.34. SinceBen has savings account with
enough money to cover the entire cost of his MBA program, it is the best
option for him to get the MBA at Wilton University
4. Ben believes that the appropriate analysis is to calculate the future
value of each option. How would you evaluate this statement?
1.
Keeping his current work for 40 years
There are several factors to be considered to calculate the future values (FV)
of the first options are: His annual salary at the firm is $60,000 per year,
and his salary expected to increase at 3 % per year until retirement, his
current average tax rate is 26 %.
In this case, to get the present value (PV), we can use the formula of
growing annuity.
Salary = $60,000, tax rate = 26%, because of tax rate, c = $44,400
G (growth rate) = 3%
T (the number of period working) = 40
So the FV is = $11,639,750.53
FV = PV x (1+r)t
FV = $937 474.28 (1.065)40
FV = $937 474.28 (12.416)
FV = $11,639,750.53
2.
Getting the MBA at Wilton University
In this case, must compute 4 parts:
A.
B.
FV of salary for 38 years (40 – 2 years)
FV of signing bonus
C. FV of costs for 2 years (tuition, books and supplies, health insurance
and rent fee)
D. FV of 2 years salary when he would work at the money management
firm.
A.
FV of salary for 38 years
The factors to consider are: He will receive a job offer for about $110,000
per year, with a $20,000 signing bonus. The salary at this job will increase
at 4 % per year. Because of the higher salary, his average income tax rate
will increase to 31 %.
Salary = $110,000, tax rate = 31%, so, C = $75,900
G (growth rate) = 4%
T (the number of period working) = 38
So the FV is = $19,771,099.95
FV= PV x (1+r)n
FV = $1 806 116.4 (1.065)38
FV = $1 806 116.4 (10.94674)
FV = $19,771,099.95
B.
FV of signing bonus
The factors to consider are:
Signing bonus = $ 20,000
G (growth rate) = 0 %
T (the number of period working) = 38
So the FV is = $ 20,000.43
FV = PV (1+r)n
FV = $17 633.57 (1.065)2
FV = $20,000.43
C.
FV of cost for 2 years college
FV = PV (1+r)n
FV = $132 860 (1.065)2
FV = $ 150,693.13
D.
FV of 2 years salary when he would work at money management
firm
FV = PV (1+r)n
FV = $82 076.508 (1.065)2
FV = $93,093.23
3.
Getting the MBA at Mount Perry College
In this case, must compute 4 parts:
A.
FV of salary for 39 years (40 – 1 years)
B.
FV of signing bonus
C.
FV of costs for 2 years (tuition, books and supplies, health insurance and
rent fee)
D.
FV of 1 years salary when he would work at the money management firm.
A.
FV of salary for 39 years (40 – 1 years)
The factors to consider are: he will receive an offer of $92,000 per year upon
the graduation,. The salary at this job will increase at 3.5 % per year. His
average tax rate at this level of income will be 29 %.
Salary = $ 92,000, tax rate = 29%, so, C = $ 65,320
G (growth rate) = 3, 5%
R = 6.5%
T (the number of period working) = 39
So the FV is = $17,065,646.13
FV = PV (1+r)n
FV = $1 463 821.2 (1.065)39
FV = $17 065 646.13
B.
FV of signing bonus
The factors to consider are:
Signing bonus = $ 18,000
G (Growth rate) = 0%
T (the number of period working) = 39
So the FV is = $ 18,000.40
FV = PV (1+r)n
FV = $15 870.22 (1.065)2
FV = $ 18,000.40
C. FV of costs for 2 years (tuition, books and supplies, health insurance
and rent fee)
FV = PV (1+r)n
FV = $84 033.34 (1.065)
FV = $ 89,495.50
D. FV of 1 years salary when he would work at the money management
firm.
FV = PV (1+r)n
FV = $44 400 (1.065)1
FV = $47,286
By calculate the future value of each option: The present value of his
salary$937,474.28 is equal to future value $11,639,750.53 when keeping
his current work for 40 years. The present value of salary
$1,806,116.4 is equal to future value $ 19,771,099.95 plus $ 20,000
signing bonus when having a job for 38 years after getting the MBA at
Wilton University. The present value of salary$1,463,821.2 is equal to
future value $17,065,646.13 plus $18,000 signing bonus when having a
job for 39 years after getting the MBA at Mount Perry College. The best
choice is he having study at Wilton University.
5. What initial salary would Ben need to receive to make him indifferent
between attending Wilton University and staying in his current position?
Staying in his current position, PV 1 = $937,474.28
Getting the MBA at Wilton University, PV2 = $ 1,804,927.68
When PV1=PV2
21,06C1 = $75,900 * 23,78
21, 06 C1 = $ 1 806 116.4
C1 = $85,760.51
The amount $ 85,760.51 already deducted with 26% taxed, the salary
before tax deduction is $ 108,508.2. So, the initial salary would Ben need
to receive to make him indifferent between attending Wilton University and
Staying in his current position is $108,508.2
6. Suppose, instead of being able to pay cash for his MBA, Ben must borrow
the money. The current borrowing rate is 5.4%. How would this affect his
decision?
There are two options:
1. Getting the MBA from Wilton University
Ben Bates must borrow $146,000 to get the MBA at the Wilton University for
two years. The current borrowing rate is 5, 4%. Assuming he pay out the
principal plus interest every year for five years:
Loan
amount
:
$146,000
Interest
rate
:
5,
4%
Long
term
:
5
Loan payment : $ 34.096,06
Amortization table 1.0:
beginning
balance
total
payment
interest paid
principal paid
ending
balance
1
146.000,00
34.096,06
7.884,00
26.212,06
119.787,94
2
119.787,94
34.096,06
6.468,55
27.627,51
92.160,43
3
92.160,43
34.096,06
4.976,66
29.119,40
63.041,04
4
63.041,04
34.096,06
3.404,22
30.691,84
32.349,19
5
32.349,19
34.096,06
1.746,86
32.349,20
(0,01)
Totals
170.480,30
24.480,28
146.000,01
The total payment in five years is $170.580,30. Then, when we calculated
the present value with discount rate 6,5% and period five years:
C
=
$170.580,30
R
(discount
rate)
=
6,
5%
T
(the
number
of
period)
=
5
So the PV is = $ 708,875.80
2. Getting the MBA from Mount Perry College
Ben Bates must borrow $ 89,500 to get the MBA at the Mount Perry College
for one year. The current borrowing rate is 5, 4%. Assuming he pay out the
principal
plus
interest
every
year
for
five
years:
Loan
amount
:
$89,500
Interest
rate
:
5,
4%
Long
term
:
5
Loan
payment
:
$
20.901,35
Amortization table 1.1:
beginning
balance
total
payment
interest paid
principal paid
ending
balance
1
89.500,00
20.901,35
4.833,00
16.068,35
73.431,65
2
73.431,65
20.901,35
3.965,31
16.936,04
56.495,61
3
56.495,61
20.901,35
3.050,76
17.850,59
38.645,02
4
38.645,02
20.901,35
2.086,83
18.814,52
19.830,50
5
19.830,50
Totals
20.901,35
104.506,75
1.070,85
15.006,75
19.830,50
89.500,00
0,00
The total payment in five years is $104.506,75. Then, when we calculated
the present value with discount rate 6,5% and period five years:
C
=
$104.504,75
R
(discount
rate)
=
6,
5%
T
(the
number
of
period)
=
5
So the PV is = $ 434,293.44
From the table 1.0, the total payment is 170.480,30 is equal with present
value $ 708,875.80. From table 1.1, the total payment is 104.506,75 is
equal with present value $ 434,293.44. These will affect his decision to
continue study. From strictly financial standpoint, if Ben must borrow the
money with current rate 5,4%, he is still can continue the study at Wilton
University. Another alternative is that if he is not continue the study, Ben
need to receive an initial salary around $107.961,78 to make him indifferent
between attending Wilton University and staying in his current position.
Note:
Looking
forward
your
feedback,
please
E-mail
selviautama@gmail.com or message to +62 811 680 4542
us
to