The Opportunity Cost of Private Schooling

July 9, 2018 by ramblingsofanextrememan 3 Comments

It’s a common belief that private school children are given better tuition, better resources and a better peer group that helps them to succeed in life and have better careers than their public school counterparts.

This belief is used by parents to justify spending often ridiculous amounts of money per year, for a private school education.

The problem I have with this is that a fancypants peer group and a more attentive teacher are intangible assets, intangible assets that are paid for with very real tangible dollars. It’s a qualitative thing that demands a very large quantitative price.

In business, when there’s a decision to make upon which investment should be chosen from a few options a concept called Net Present Value (NPV) is used to assess each option. This consists of estimating the future cashflows from each option and discounting them exponentially over time using an appropriate discount rate that considers the cost of money, inflation and the risk of the investment. This is a solid way to make investment  decisions.

In the case of a cash outflow NPV is called Net Present Cost and the cost is inflated over time to account for the opportunity cost of not being able to allocate that cash elsewhere.

 

Let’s analyse the Net Present Cost of sending a child to a Private School from Prep to year 12. To discount the future cash-flows we’ll consider the opportunity cost of spending that cash rather than investing the money in a diversified group of stocks in the stock market, such as could be bought easily via an index fund or listed investment company.

Assumptions:

• The child goes to private school from Prep to year 12 – a total of 13 years.
• Private school fees from Prep to Year 6 are $20,000 per year
• Fees from Year 7 to Year 12 are $22,000 per year (these fees are typical of what I could find with a little bit of googling of Australian Private School fees, it could be more, it could be less. I encourage you to make your own spreadsheet if you are considering this)
• Expected average yearly return from diversified group of stocks – 8%

At the end of Year 12 the parents have paid $272,000 for their child’s education. However the money they have forfeited by tying up so much capital that could otherwise be invested is $444,577.

We all tend to be puppets dancing the same dances to our preconceived ideas; as such I’m sure some of you are saying, well hang on Extreme Man, the value of a Private School education is much more than that. The better education, more attention from teachers and sophisticated peer group lead to better outcomes later in life, a better career, high income etc. To that I would say, this is not Ramblings of a mild mannered social science and statistics based man, this is Ramblings of an Extreme mathematics and hard science based man. All of those things are either qualitative or only able to be measured statistically – correlation is not equal to causation.

The assertion that there’s a quantifiable difference of a Private School education resulting in greater pay later in life is a pretty speculative argument to make, there’s a lot of variables.

I’d like to assert that even if there is a difference in pay between private and public educated students later in life, due to the power of compounding over time there is no way at all (seriously, not a chance in hell) that the difference would make sense from a Net Present Value perspective. To highlight this, let’s build on the table a little more. Let’s assume that the student spends 5 years at university and then a few years in the workforce which brings them to the ripe old age of 25.

If instead of the parents spending a large amount of money on private schooling they instead invested that money until year 12 and then made no further contributions; using the assumptions above the portfolio of stocks would have grown to over $822,000 by the time the child is 25.

Taking this one step further, if the objective is to give a child a head start in life so they can get a better job and hence earn more money, then you should really consider sending them to public school and investing the difference in the stock market on their behalf. The hypothetical private school child, no matter their career or salary will never be able to bridge this gap in wealth of the public school child. In addition to overall net worth, a diversified group of Australian stocks (such as is easily purchased in a listed investment company) will pay greater than 5% gross dividend per year, rain hail or recession. Modelling this for the table above gives:

I track all of my living expenses and I live off approximately $25,000 per year.

In the scenario above, if the child had similar spending habits to me they would be financially independent and able to retire in their second year of university. At the age of 25 they would have far more money than they ever need, hence rendering any need for a high salary career completely redundant. On top of this, dividends tend to grow at approximately twice the rate of inflation.

Even if, the private school educated child is earning more money at the age of 25 it doesn’t matter, the public school hypothetical student could be retired. Their time could be free to volunteer, travel, start a business, pursue their passion, etc without the need to earn a salary.

In the words of the model Private School student, Summer Heights High’s Ja’mie, “Sorry, no offense, but it’s true.”