Problem 1 The major driving force behind obtaining a university college educatio

Question

Problem 1 The major driving force behind obtaining a university college education is the likelihood of enhanced future earnings relative to non-university college graduates. Jamal Seymour estimates that a college education has a $25,000 equivalent cost at graduation. He believes the benefits of his education will occur throughout 20 years of employment. He thinks that during the first 10 years out of college, his income will be higher than that of a non-college graduate by $3000 per year. During the subsequent 10 years, he projects an annual income that is $12,000 above the level of the non-college graduate. If his estimates are correct, what rate of return will he receive as a result of his investment in a university college education? 3 Hints: This is a comparison between a university college graduate and non-university college graduate

Explanation / Answer

1.

Investment = $25000

Annual incremental income benefits for the first 10 years = $3000

Annual incremental income benefits for the second 10 years = $12000

Let, R = rate of return

Then,

Investment = 3000*(1-1/(1+R)^10)R + (12000*(1-1/(1+R)^10)/R)*(1/(1+R)^10)

At R = 17%

Present value of the cash inflows =$25605.78

At R = 18%

Present value of the cash inflows =$23786.18

As per the method of interpolation,

R = 17% + ((25605.78-25000)/( 25605.78-23786.18))*(18%-17%)

R = 17.33%

It is a 17.33% return.

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