Question

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 this 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 $65,000 per year, and his salary is expected to increase at 3 percent 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 percent. Ben has a 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 $70,000, payable at the beginning of each school year. Books and other supplies are estimated to cost $3,000 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 percent per year. Because of the higher salary, his average income tax rate will increase to 31 percent. 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 $85,000 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 graduation, with an $18,000 signing bonus. The salary at this job will increase at 3.5 percent per year. His average tax rate at this level of income will be 29 percent. 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 6.3 percent.

1. How does Ben’s age affect his decision to get an MBA?

2. What other, perhaps nonquantifiable factors affect Ben’s decision to get an MBA?

3. Assuming all salaries are paid at the end of each year, what is the best option for Ben—from a strictly financial standpoint?

4. Ben believes that the appropriate analysis is to calculate the future value of each option. How would you evaluate this statement?

5. What initial salary would Ben need to receive to make him indifferent between attending Wilton University and staying in his current position?

6. Suppose, instead of being able to pay cash for his MBA, Ben must borrow the money. The current borrowing rate is 5.4 percent. How would this affect his decision?

Answer 1

1. Upon doing MBA, Ben's salary will increase every year post MBA till retirement. Purely from financial point of view, he needs to check if this increase in salary offsets tuition fee + books cost + insurance cost + additional living expenses. If he is too old, this increase in salary might not offset these costs.

2. Other non-quantifiable factors could be incremental chances for promotion post MBA, building his network at university, personality development & wider career opportunities.

3. NPV from all the three options are calculated below. Assumed that the tax slab would remain same for each option i.e. 26%, 31% & 29% respectively for current job, wilton university & Mount perry college. Joining bonus is also assumed to be taxed at the same average tax rate as salary in the joining year. As it can be seen from the table, Ben receives highest payoff if he goes to Wilton university.

Age	Current Job	Wilton University	Mt Perry College
28	48,100	(78,000)	(94,500)
29	49,543	(78,000)	78,100
29	51,029	89,700	67,606
30	52,560	78,936	69,972
30	54,137	82,093	72,421
31	55,761	85,377	74,956
31	57,434	88,792	77,580
32	59,157	92,344	80,295
32	60,932	96,038	83,105
33	62,760	99,879	86,014
33	64,642	103,874	89,024
34	66,582	108,029	92,140
34	68,579	112,351	95,365
35	70,636	116,845	98,703
35	72,756	121,518	102,158
36	74,938	126,379	105,733
36	77,186	131,434	109,434
37	79,502	136,692	113,264
37	81,887	142,159	117,228
38	84,344	147,846	121,331
38	86,874	153,759	125,578
39	89,480	159,910	129,973
39	92,165	166,306	134,522
40	94,930	172,958	139,230
40	97,777	179,877	144,103
41	100,711	187,072	149,147
41	103,732	194,555	154,367
42	106,844	202,337	159,770
42	110,049	210,430	165,362
43	113,351	218,848	171,150
43	116,751	227,602	177,140
44	120,254	236,706	183,340
44	123,861	246,174	189,757
45	127,577	256,021	196,398
45	131,405	266,262	203,272
46	135,347	276,912	210,387
46	139,407	287,989	217,750
47	143,589	299,508	225,371
47	147,897	311,488	233,259
48	152,334	323,948	241,423
48	156,904	336,906	249,873
49	161,611	350,382	258,619
49	166,459	364,397	267,671
50	171,453	378,973	277,039
50	176,597	394,132	286,735
51	181,895	409,898	296,771
51	187,352	426,293	307,158
52	192,972	443,345	317,909
52	198,761	461,079	329,035
53	204,724	479,522	340,552
53	210,866	498,703	352,471
54	217,192	518,651	364,807
54	223,708	539,397	377,576
55	230,419	560,973	390,791
55	237,331	583,412	404,469
56	244,451	606,749	418,625
56	251,785	631,019	433,277
57	259,338	656,259	448,441
57	267,119	682,510	464,137
58	275,132	709,810	480,382
58	283,386	738,202	497,195
59	291,888	767,731	514,597
59	300,644	798,440	532,608
60	309,664	830,377	551,249
60	318,954	863,592	570,543
61	328,522	898,136	590,512
61	338,378	934,062	611,180
62	348,529	971,424	632,571
62	358,985	1,010,281	654,711
63	369,755	1,050,692	677,626
63	380,847	1,092,720	701,343
64	392,273	1,136,429	725,890
64	404,041	1,181,886	751,296
65	416,162	1,229,161	777,591
65	428,647	1,278,328	804,807
66	441,506	1,329,461	832,975
66	454,752	1,382,639	862,129
67	468,394	1,437,945	892,304
67	482,446	1,495,463	923,534
68	496,919	1,555,281	955,858
NPV	1,340,640	2,259,301	1,850,620

4. Ben is correct in saying that future value for each option is to be considered. He has to include all the differential cash flows & calculate the future value to reach the conclusion.

5.Solving for the present value in excel & assuming joining bonus ($20,000) still remains, the salary would be $63,110.83 where he would be indifferent between going to Wilton & continuing with his current job. At this salary, I assumed the tax rate to be same as the current tax rate.

6. If Ben must borrow the money at 5.4% instead of utilizing cash, decision would be more in favor of doing an MBA as cost of borrowing is less than discount rate at 6.3%.