corrected for discount rate
TRANSCRIPT
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Estimating the Value of
an MD Degree
Marc J. Kahn, MDMBA (to be)
Professor of MedicineSr. Associate Dean
Tulane University School of Medicine
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Topics Value of Money
Risk and Return
Net Present Value
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Questions Would you rather have $1,000,000 now or
$250,000 each year for the next 4 years?
What is $250,000 a year for 4 years worth today?
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Time Value of Money
Most basic concept of finance
Money is worth more today than in the future.
Opportunity costs
Investment alternatives
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Definitions Interest—money paid for use of your money
Future value—amount to which an investment grows after earning interest
Present value—amount of money you start with
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Interest Simple—interest earned on initial investment
Example: You invest $100 at 6% annual interest.
=$100 (1.06) = $106 after one year
Compound—interest earned on interest
Example: You invest $100 at 6% interest compounded monthly.
=$100 (1 + .06/12)12 = $106.17
If compounded daily = $100(1 + .06/365)365 = $106.18
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Compound Interest Payments APR = Annual Percentage Rate (most
common)
EAR = Effective Annual Rate
Example: You have a credit card with an APR of 18%. What is the “real” interest rate annually?
APR = monthly rate x 12
Monthly rate = 18/12 = 1.5%
EAR = (1 + 1.5%)12 – 1 = 19.56%
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Why Compounding
Matters Grains of wheat on a chessboard
One grain in square one, double each successive square
Total wheat is more than that in the entire world!!
= 1.92 x 10109
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Future/Present Value
FV = PV (1 + r)t
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Original Questions
Would you rather have $1,000,000 now or $250,000 each year for 4 years?Obviously, money is worth more now!
What is $250,000 a year for 4 years worth today?
Assuming 5% interest rate per year =$886,488
Looking at this another way, you would need $282,012 per year for 4 years to have the same amount of money as $1,000,000 now!
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Risk Higher rates of return for HIGHER RISK
Rewarded for RISK
Treasuries are considered risk free
Extra payment is “risk premium”
Historically treasuries have paid 3%, S & P has averaged 5.7% so historic market return is 8.7%
Remember importance of standard deviation and variance!
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Questions How much is an MD degree worth over a
physicians lifetime?
At what cost of medical school attendance is an MD no longer financially advantageous?
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Net Present Value Financial tool
Takes into account costs/revenues at various points of time
Corrects for opportunity costs
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Equation
NPV = C0 + SCt/(1 + r)t
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Opportunity Cost (r)
Can be thought of as an interest rate
Considers what could have been done with money if used differently
Also called the “discount rate”
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Calculating Discount Rate
Capital Asset Pricing Model (CAPM)
Expected return = Risk Free Return + b(risk premium)
Risk free return = T-bill rate = 3% Risk Premium = 5.7% (historical average) b = 0.7 – 1.2 for health care stocks
(measurement of market risk)
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Model Summary
Value of MD = total change in salary– cost of attendance – lost wages
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Present Value
PV = FV/(1 + r)t
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Assumptions Discount rate = 6, 8 or 10%
Expected salary after college without medical school = $60,000 per year with 3% annual growth
Residency training is 4 years in duration
Salary of a resident is equivalent to that of a college graduate
Incremental salary increase after completing residency is +$130,000
35% tax rate
Physician salary is expected to increase 3% per year for 30 years of practice
Setting NPV = $0 and solving for annual cost of attendance results in the breakeven cost of medical education
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ResultsAnnual Cost of
Attendance
Net Present Value
Annual Cost of
Attendance
NPV @ 6% NPV @ 8% NPV @ 10%
$10,000$673,727 $497,985 $375,590
20,000$634,290 $459,621 $338,235
30,000$594,852 $421,257 $300,881
40,000$555,415 $382,893 $263,526
50,000$515,977 $344,529 $226,172
60,000$476,539 $306,165 $188,817
70,000$437,102 $267,801 $151,463
80,000$397,664 $229,437 $114,109
90,000$358,227 $191,073 $76,754
100,000$318,789 $152,709 $39,400
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Break Even Point
$139,805
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Conclusions Obtaining an MD has high NPV, even at the
highest costs of attendance
Only at a cost of attendance of over $130,000 is the NPV less than zero
In the current economic climate, the discount rate is less than 8.7%; this would make an MD degree MORE valuable
Based on economic considerations, the supply of future physicians ought to be secure
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Pearls You want your money NOW
Investing early can compound earnings
Rate of return is related to risk
Variance defines range of risk
Diversification minimizes variance and risk
Getting an MD is a good financial deal
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QUESTIONS?