Growing questions about the business model for higher education in the US

For several years, higher education institutions in the US, and to some extent those in other major destination markets, have faced financial pressures that are, without a doubt, difficult to solve. These include:

• Increasing competition amid an expanded range of educational choices available to students – including those offered by for-profit universities and institutions (both bricks-and-mortar organisations and increasingly, online institutions such as the University of Phoenix);
• Growing concerns among students and families as to the cost of education, as well as a greater interest in concrete indications of the return on educational investment (e.g., graduates’ employment rates in desired professional fields);
• Increasing operating costs including higher technology costs and necessary salary increments for faculty and staff, at the same time as governments are reducing institutional funding and endowments are shrinking.

These strains alone would place financial constraints on all but the hardiest of institutions, but they are exacerbated in the current climate by some important demographic trends:

• First, the number of traditional high school graduates and new college students is expected to increase only slightly, by about 1% in the next decade.
• The larger demand for tertiary education will be not from this traditional base at all, but from older working adults needing to retool for better job prospects; this cohort generally seeks a different type of education on a part-time basis and is more vocationally focused.

Taken together, these factors have contributed to growing concerns about the long-term fortunes of traditional higher education institutions in the US. Indeed, a November 2013 report from the TIAA-CREF Institute, a US-based research centre, notes, “The sustainability of the United States higher education business model is the subject of much discussion today ... Many believe that the model is in need of fundamental change and are seriously concerned about the ongoing viability of the industry. Indeed, Moody’s has placed a negative outlook on the entire higher education industry.”

But none of these challenges are new, and no one in higher education is likely to be terribly surprised at the latest round of negative assessments offered by financial institutions about their sector. The question is, what to do about them? How to adapt to the obstacles?

Today we are taking a closer look at what higher education institutions outside of the most prestigious set – known as the “middle-tier” – are doing, and what they might be doing, to meet these challenges.

Hard choices

Few financial analysts are predicting great things in the short-term future for the US higher education sector. Standard & Poor’s Rating Services, for example, issued a negative outlook for non-profit higher education in 2015, offering this summary:

“It is our belief that colleges or universities that are unable to distinguish themselves in the market through their reputation or offerings will have to compete for students purely on price, which will weaken demand and possibly cut into their enrolment over time.”

The Standard & Poor assessment is the result of data and expert analysis, but it is backed up by countless anecdotal reports of “middle-tier” universities (i.e., outside of the top tier of prestigious universities) scrambling to cover growing operating costs. A 2013 article by Forbes staff writer Matt Schifrin takes a closer look at one strategy that some institutions have attempted: tuition increases combined with more extensive discounts. Mr Schifrin considers this practice a "paradox," and "a symptom of a deeply troubled system where the cachet of elite institutions like Harvard and Yale has led thousands of non-elite schools to employ a strategy where higher prices and deeper discounts are more effective than cutting prices and tightening discounts.” Whatever the case, the tuition discount strategy does not necessarily lead to a firmer financial footing. Institutions that have adopted the strategy were among the 107 out of 925 US colleges given a grade of D in Forbes' recent Financial Grades analysis, a process that examines the “balance sheets and operational strength of private not-for-profit colleges.” Mr Schifrin goes on to contrast the discount strategy with a different approach pursued by Drake University in Iowa. Drake had faced its own financial pressures but chose a different route to get itself back on track. It cut programmes that were costing too much and enrolling too few students, and redirected revenues and efforts to high-demand programmes, to return to sustainable operations with modest profits.

Middle tier more poised to adapt

Drake is an example of a “middle-tier” institution, of which there are about 2,000 in the US. These institutions are much more touched by the funding and revenue squeezes present in higher education today than top-tier American universities, with their large endowments and reputations to match, or the flagship institutions of most states, which are buoyed by their large alumni base and extra revenue from college sports. Middle-tier institutions include a large number of private liberal-arts-oriented schools as well as “directional” public institutions (those with a compass point in their name, such as Eastern Tennessee or Western Michigan) that receive less money from wealthy donors and attract fewer students by way of reputation alone than do elite universities. They are also poised to leverage what Paul LeBlanc, President of Southern New Hampshire University (SNHU), calls “three macro-level shifts” affecting the higher education sector, “shifts that open up new possibilities and can be harnessed as levers of change and renewal.” These are:

1. Disaggregation (in which “experts emerge who perform individual functions better than those who try to do them all”);
2. Technology (which can be used to better position the institution and its deliverables, create cost efficiencies, save students money, and deliver better learning experiences and outcomes);
3. Outcomes-Based Learning (where competencies as much as hours of course time count toward completion of a degree or certificate).

Mr LeBlanc’s macro-level shifts call to mind a fascinating – and still relevant – report ICEF Monitor covered a couple of years ago on the higher education sector in Australia: Ernst & Young’s University of the Future. The report predicted that Australia’s higher education landscape would be transformed within a decade or two, and it posited three interesting business models as emerging from the disruption:

1. Streamlined Status Quo – Established universities that “continue to operate as broad-based teaching and research institutions, but that will progressively transform the way they deliver their services and administer their organisations – with major implications for the way they engage with students, government, industry stakeholders, secondary schools, and the community.”
2. Niche Dominators – Established universities and new entrants that “fundamentally reshape and refine the range of services and markets they operate in, targeting particular ‘customer’ segments with tailored education, research and related services – with a concurrent shift in the business model, organisation and operations.”
3. Transformers – Private providers and new entrants that “carve out new positions in the ‘traditional’ sector and also create new market spaces that merge parts of the higher education sector with other sectors, such as media, technology, innovation, venture capital and the like."

Mr LeBlanc’s three “macro-shifts” and Ernst & Young’s emerging business model categories offer a needed counterpoint to the gloom of the financial institutions looking out on the higher education sector today – and possibly fuel for further strategic thinking.

New strategies needed

As they look at their brand and core competencies to see how they measure up in 2015, prudent school administrators will obviously be considering where revenues can be raised and expenses lowered. In some cases, revenues might come from expanding their potential market. For example, Vassar College, traditionally a residential liberal arts university in upstate New York (already moved by economic concerns to go from single-sex to coeducational in the late 20th century), has begun campaigns to enrol armed forces veterans. And many schools are now more aggressive in marketing their programmes overseas to individual students, agents, and to potential partner universities for dual-degree and other joint programmes. Another method to boost enrolments is offering students ways to make their education less expensive. For example, offering year-round programmes or three-year degrees or locking in prices throughout the period needed to graduate. Both are more transparent than “high sticker price, steep discounts” schemes. To lower expenses, some administrators are moving to use facilities more efficiently by expanding the days and weeks used per year as well as the number of hours used per day. Others, like Drake (mentioned earlier in this article) are streamlining offerings by removing less popular courses and programmes. The majority of middle-tier institutions must consider how they can use technology to actually lower their costs. A recent Economist article had this to say about this kind of technology use:

“Students at universities just below Ivy League level are more sensitive to the rising cost of degrees, because the return on investment is smaller. Those colleges might profit from expanding the ratio of online learning to classroom teaching, lowering their costs while still offering the prize of a college education conducted partly on campus.”

US institutions are not alone

The calls for restructuring and belt-tightening are by no means isolated to the United States. The Australian government is proposing a slew of reforms which would, among other goals, spread out public funding to include private institutions and cause all schools to set their own tuition fees. Much like in the US, the fear is that top-level schools can charge as they wish while lesser-known institutions will be forced to cut prices to better attract students. Japan, meanwhile, faces even more severe demographic issues than the US. Even as the country’s population falls, more universities are opening (especially previous two-year institutions for females, forced to go coeducational in the last 10–15 years, that now seek to become four-year universities). With decreasing numbers of potential students available to fill the extra seats, educators fear a loss of standards and most predict a serious culling of weaker schools in the next 10–15 years. Tuition costs have risen considerably in Britain over the last decade, and European countries in more severe economic straits, such as Greece, have made considerable cuts to higher education in their austerity plans. European research institutions are also concerned about lowered funding from the European Union as it would impact universities across the continent.

What next?

We look back to the 2013 TIAA-CREF report for today’s final word. The report’s authors anticipate, among other things, a greater emphasis on international recruitment (and international links generally) on the part of US institutions within a broader pattern of change for American colleges and universities: “To ensure financial sustainability, many colleges and universities are responding by experimenting with changes to their business models. Most of these initiatives are occurring at the margins, but some may prove significant. For instance, some schools are changing their discounting policies; others are experimenting with four-year price guarantees, the length of time required to earn a degree, more vigorous recruitment of foreign students, partnerships with overseas institutions, and increased operational efficiencies – from streamlining back office functions to offering online learning to reach students ... Few new business models have emerged for higher education thus far, but with so much experimentation underway, change is certain.”