Case 012Forecasting and scenariosCore

A commerce college can add seats and raise fees, or launch an executive programme. Forecast three years of revenue for each and choose.

Harris WilliamsRichmond · 2018

The situation

Medhapeeth College of Commerce has 3,000 students paying Rs 1.2 lakh a year, Rs 36 crore of revenue. The trustees have two plans.

Plan A adds 500 seats in a new block costing Rs 25 crore, expected to be 90% filled, and raises fees 8% for everyone. Extra teaching and upkeep for the new students costs about Rs 2 crore a year. Plan B launches a weekend executive programme of 200 seats at Rs 3 lakh each, using existing rooms, filling 60% in year 1 and rising 15 points a year, with faculty costing Rs 3 crore a year. Assume today's fees otherwise stay flat.

Your task

Forecast three years of revenue under each plan, compare them on the cash they add, and recommend.

Quick check

Over three years, which plan adds more cash to the college?

Worked solution

Try it on paper, then open one step at a time.

30-second answerThe answer to give first

Plan A shows more revenue, Rs 44.7 crore a year against Plan B's Rs 39.6 to 41.4 crore, but over three years it adds about minus Rs 4.9 crore of cash against Plan B's plus Rs 4.5 crore. Split Plan A, and the fee rise is its only good part: Rs 2.88 crore a year with no capex. The new seats take 6.5 years to repay. Recommend Plan B, test the fee rise separately, and defer the building.

Step 1What does each plan do to revenue?

Forecast drivers, not totals. Plan A: 3,000 existing plus 450 new students at Rs 1.296 lakh is Rs 44.71 crore from year 1, Rs 8.71 crore above today. Of that, Rs 2.88 crore is the fee rise on existing students and Rs 5.83 crore is the new seats. Plan B: 200 seats at Rs 3 lakh are worth Rs 6 crore when full; at 60%, 75% and 90% filled they bring Rs 3.6, 4.5 and 5.4 crore, so total revenue is Rs 39.6, 40.5 and 41.4 crore.

Total revenue, Rs crore: Plan A looks bigger every year36404439.640.541.4Plan A 44.7Plan Btoday 36A: Rs 25 cr capex before year 1, then +Rs 2 cr a year running costB: no capex, Rs 3 cr a year of facultytodayYear 1Year 2Year 3Headline revenue favours A; the next figure shows the cash each plan actually adds
Plan A lifts Medhapeeth's revenue from Rs 36 crore to Rs 44.7 crore from year 1, while Plan B rises more slowly to Rs 41.4 crore by year 3, so on headline revenue Plan A looks better in every year.
Step 2Why compare the plans on cash instead?

A family that adds a room to rent out earns more rent, but only after paying the builder; whether it was worth it depends on how long the rent takes to cover the cost. Plan A adds Rs 6.71 crore of cash a year after running cost but needs Rs 25 crore first, so after three years it is still Rs 4.9 crore short; Plan B adds Rs 4.5 crore and needs nothing up front. The relevant figure is incremental cash flowThe cash a decision adds compared with not making it: extra receipts less extra costs and investment., not the size of the revenue line.

Rs croreYear 1Year 2Year 3Three years
Plan A: total revenue44.744.744.7
Plan A: added cash, after Rs 25 crore capex-18.36.76.7-4.9
Plan B: total revenue39.640.541.4
Plan B: added cash, after faculty0.61.52.44.5
Plan A earns more revenue every year, yet adds minus Rs 4.9 crore of cash over three years because of its Rs 25 crore block, while Plan B adds Rs 4.5 crore with no capex.
Step 3Is Plan A really one decision?

No, and this is the insight the interviewer is waiting for. The fee rise needs no building: it adds Rs 2.88 crore a year on its own, while the 500 seats add Rs 3.83 crore a year net of running cost against Rs 25 crore of capex, a payback of 6.5 years. Bundling them lets the cheap win carry the expensive bet. The fee rise has its own risk: it loses money only if more than 7.4% of students leave because of it, a threshold the admissions data can test.

Cash each plan adds over three years, Rs crore-4.9Plan A as proposed+8.6 of which: the 8% fee rise-13.5 of which: 500 new seats+4.5Plan B, executive programme0The seats take 6.5 years to repay their capex; the fee rise and Plan B pay from year 1
Over three years Plan A adds minus Rs 4.9 crore of cash, made of plus Rs 8.64 crore from the fee rise and minus Rs 13.5 crore from the new seats, while Plan B adds Rs 4.5 crore with no capex.

So the recommendation is Plan B now, the fee rise tested on one year's intake, and the building deferred until demand for seats is proven by waiting lists, not projections. State what would change it: if Plan B fills only 40% in year 1, its first year loses Rs 0.6 crore, and if the college has a 20-year horizon and full waiting lists, the seats' 6.5-year payback becomes acceptable. A plan is judged on the cash it adds and the risk it takes, and revenue is only the first line of that.

Where candidates lose it

Candidates compare headline revenue, see Rs 44.7 crore against Rs 41.4 crore, and pick Plan A. The capex, the running cost of extra students and the time value of a Rs 25 crore cheque all disappear in that comparison.

The second miss is treating Plan A as one decision. The fee rise and the building are separable, and pulling them apart is usually the best answer in the room.

What the interviewer asks next

  • How would you test whether an 8% fee rise will cost students before committing to it?
  • Plan B fills only 40% in year 1. Does it still beat Plan A?
  • What other levers could a college use to raise revenue without building?

Asked at Harris Williams, Investment Banking, Richmond, 2018 (Wall Street Oasis): How would a college increase revenue?

Company names and figures are illustrative.