Problem: Surya's Higher Education Decision Surya graduated from college six years ago with an engineering degree. Although
Question:
Problem:
Surya's Higher Education Decision
Surya graduated from college six years ago with an engineering degree. Although he is satisfied with his current job, his goal is to become a fund manager in a reputed Assets Management Company (AMC). He feels that an MBA degree would allow him to achieve his goal. After examining different options, he has narrowed his choices to three options apart from the fourth option of continuing in his current job. All the four options and their associated pay-offs are provided below.
Option 1 - Continuing with his current job - Surya currently works at a stock brokerage firm, KIC India Limited located at Chennai. His annual salary at the firm is Rs. 300,000 per year, and his salary is expected to increase at 2% per year until retirement. He is currently 26 years old and expects to work for 36 more years. His current job includes a fully paid medical insurance, and his current average tax rate is 10%.
Option 2 - Two Years Full Time MBA - Surya can alternatively enrol himself in a two-year full time MBA course offered by the prestigious Management Institute of India - Delhi (MIID). In this option he has to discontinue his current job and spend two years at the college campus. The annual tuition fee is Rs. 600,000, payable at the beginning of each year. Books and other supplies are estimated to cost 20,000 per year payable at the beginning of each year. Surya expects that after graduating from MIID, he will receive a job offer for about Rs. 800,000 per year, with a Rs. 50,000 joining 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 25%.
Option 3 - One Year Executive MBA - The third alternative that Surya has includes enrolment in a one-year executive MBA course at Management Institute of India - Mumbai (MIIM). In this option he has to discontinue his current job and spend one year at the college campus. The annual tuition fee is Rs. 11,00,000, payable at the beginning of the programme. Books and other supplies are estimated to cost 30,000 per year payable at the beginning of the year. Surya expects that after graduating from MIIM, he will receive a job offer for Rs. 600,000 per year, with a Rs. 35,000 joining bonus. The salary at this job will increase at 3% per year. Because of the higher salary, his average income tax rate will increase to 22%.
Option 4 - Three Years Part-Time MBA - The final option for Surya is to enrol in a three-year part time MBA course offered by Management Institute of India - Chennai (MIIC). In this option he can continue with his current job and simultaneously do his MBA by attending classes in the weekends. The annual tuition fee is Rs. 300,000, payable at the beginning of each year. Books and other supplies are estimated to cost 15,000 per year payable at the beginning of the year. Surya expects that after graduating from MIIC, he will receive a promotion from his current employer. Due to the promotion his salary will increase to Rs. 550,000 per year. The salary at this job will increase at 2.5% per year. Because of the higher salary, his average income tax rate will increase to 20%.
All the three institutes offer an optional medical insurance plan that costs Rs. 3,000 per year, payable at the beginning of each year. Surya also estimates that boarding and food expenses will cost Rs. 50,000 more per year at Mumbai and Delhi than his current expenses. These charges are payable at the beginning of each year.
For all the three MBA choices, Surya's is willing to utilize the savings that he has to pay for the expenses.
Surya has a few doubts in his mind and requires your help. You are required to help Surya answer the below mentioned questions.
1. Assuming all salaries are paid at the end of each year, what is the best option for Surya - from a strictly financial standpoint?
2. What initial salary should Surya need to receive to make him indifferent between attending two-year MBA at MIID and staying in his current position?
3. Suppose, instead of utilizing his savings, Surya must take a loan from the bank for the tuition fees. The current borrowing rate is 12% p.a. How would this affect his cash flows assuming that Surya pays back the entire loan amount in the form of EMI (Equated Monthly Instalments) for a period of 4 years?