Nowhere to Turn by Kevin Kiley
If colleges and universities thought they could ride out the current revenue challenges by becoming more like some other institution, Moody’s Investors Service has a bit of bad news for them: The grass isn’t greener on anybody else’s quad. Not even Harvard University’s.
In a report released Wednesday, the ratings agency outlines how every traditional revenue stream for colleges and universities is facing some sort of pressure, a finding Moody’s uses as grounds for giving the whole sector a negative outlook. The agency has been pessimistic about much of the sector since its annual outlook in 2009 after the economic downturn began, but Wednesday’s report contains a downward shift in how analysts view even market leaders, the elite institutions with high demand and brand recognition.
The pressure on all revenue streams is the result of macro-level economic, technological and public opinion shifts, the report states, noting that these changes are largely beyond the control of institutions. Moody’s analysts caution that revenue streams will never flow as robustly as they did before 2008. The change will require a fundamental shift in how colleges and universities operate, they say, one that will require more strategic thinking.
“The U.S. higher education sector had hit a critical juncture in the evolution of its business model,” wrote Eva Bogarty, the report’s author. “Most universities will have to lower their cost structures to achieve long-term financial sustainability and to fund future initiatives.”
The report’s authors and other higher education observers say the individual components of the report come as no surprise and are backed up by a slew of reports in the past year that have called into question the viability of all these revenue sources. But observers note that the breadth of the Moody’s report paints a picture likely to capture more attention than the piecemeal analyses.
“What’s new here is not the individual pieces,” said Rick Staisloff, a former college chief financial officer who now consults on higher education finance issues. “What’s new is that in a collective way, the model that we in higher education have been employing since the 1960s is really being called into question by external factors. And it’s that collectiveness that creates a new sense of urgency.”
The report notes that colleges will have to rely on more strategic leaders who address these challenges through better use of technology to cut costs, create efficiency in their operations, demonstrate value, reach new markets, and prioritize programs. Many of those efforts could be grounds for disputes with faculty members or other institutional constituents unless leaders can get the collective buy-in that has long been the staple of higher education governance.
“There is an awakening that is occurring – that has been occurring since the great recession – in higher education in that university leaders and boards, as well as faculty and staff, are becoming aware of these changes,” said Shandy S. Husmann, managing director for Huron Education. “The comprehensiveness of this report is outstanding, and people take Moody’s seriously, and it will help get away from the daily litany of sensationalist stories about higher education.”
While the Moody’s report is pessimistic about the state of the sector, there are some reasons for optimism. Several governors, including Jerry Brown of California, have proposed increased appropriations for higher education for the next year. Other reports from the past year have noted potential alternative sources of revenue, not touched on in the report, such as partnerships with the private sector, which has fared well in recent years.
Moody’s rates 515 public and private colleges and universities who issue or wish to issue debt. Their ratings are designed to provide an assessment of an institution’s financial health.
Out of Their Hands
The major revenue constraints the report details are attributed to larger changes in the economic landscape, including lower household incomes, an uncertain economic and federal government picture, a decline in the number of high school graduates, the emergence of new technologies and a growing interest in getting the most value out of a college education — particularly as it pertains to employment after graduation.
« Macroeconomic conditions and anticipated federal budget reductions have weakened or created considerable uncertainty around the prospect for growth of household income and wealth, philanthropic support, investment returns, state appropriations, and federal funding, » the report states.
And a stable fiscal picture over all in the United States seems years away. The report notes that a stable outlook would require improved pricing power, a decrease in the unemployment rate, improvements in the housing market and several years of strong stock market returns, none of which seem likely in the near term.
The report, like many on higher education in the past year, is bullish on the ability of massive open online courses to disrupt the traditional higher education model, particularly by legitimizing online education and other technological innovations. « The rapid evolution and adoption of massive open online courses (MOOCs) signals a fundamental shift in strategy by industry leaders to embrace technological changes that have threatened to destabilize the residential college and university’s business model over the long run, » the report states.
The ratings agency argues that they are an opportunity for market leaders — those institutions that already have diverse revenue streams and brand recognition — to further improve their position. Such institutions could find ways to monetize MOOCs by potentially granting credit for a fee, licensing their courses to other institutions and advertising. Moody’s also notes the possibility of technology to increase faculty productivity by increasing the number of students one faculty member can serve, potentially creating efficiencies in the long term.
“They’re going to disrupt the revenue picture,” Staisloff said. “They’re not there yet, but they’re going to get it figured out. But the real disrupter is the acceptance of that as an appropriate delivery vehicle for higher education.”
The Moody’s report also highlights two other related challenges facing higher education that are leading to increased scrutiny: the growing profile of student debt and default rates and pressure on politicians and accreditation agencies to ensure the value of degrees.
“While employment and earnings data continue to support the underlying value of a college degree, alarm over a potential student loan bubble and diminishing affordability of higher education has reached a fever pitch in the last two year,” the report notes.
That growth has increased scrutiny on institutions by politicians, who have typically been focused on ways to limit the cost of higher education while improving outcomes. That has led to a raft of proposals that have ranged from calls for $10,000 degrees – which the report notes “do not address the actual cost structure behind offering the degree” – to outcomes-based funding, which is now in place or being discussed in 33 states.
Both Staisloff and Husmann said the proliferation of revenue constraints will force institutions to be more strategic in their allocation of dollars, with both noting that the « buffet model » of higher education — where institutions try to be all things to all people — is over.
Institutions need to prioritize programs, ensuring that they have enough programs generating profits to support those that aren’t, they said.
The report notes that any efforts to prioritize programs will likely run into opposition from various campus stakeholders. The governance model of universities vests varying authority in boards, managers, and faculty members. Even when faculty members are cut out of decision-making, the institution of tenure gives them leverage.
Higher education disputes are often characterized in terms of management versus faculty, but the report notes that boards, which often have different views from other campus stakeholders, are also an emerging source of tension. “University managers are driven increasingly by market strategy even as they face rising faculty opposition to change, while the boards often remain largely focused on political tactics to deal with state government criticism or promoting a corporate focus lacking communication style suitable to universities,” the report states.
Such disputes have become apparent at multiple universities in the last year, including the University of Virginia, the University of Texas (both the system and the Austin campus), and Texas A&M University System, with boards often reflecting short-term political interest, faculty urging either more incremental (or no) change, and managers either caught in the middle or pushing their own agendas.
Finance officials say the only way institutions are going to get students to pay higher tuition is by demonstrating that the outcomes — including their campus experience, postgraduate employment, graduate school enrollment, and long-term success and happiness — are worth the tuition they pay. « When they look at options, they want to know ‘What do I get for my investment?’ » Staisloff said.
While many in higher education have argued that adjusting to the « new normal » will require innovative thinking, Staisloff said many of the tools are already available and have been employed by institutions that were in trouble long before the 2008 recession.
Revenue Sources Under Pressure
“Years of depressed family incomes and net worth, as well as uncertain job prospects for many recent graduates and a slight decline in the number of high school graduates, are creating enrollment pressure and weakened pricing power for colleges and universities.”
« U.S. states have mixed revenue results in 2012 with many still pressured by the weak economic recovery, so state contributions to operations are not likely to rise meaningfully in the near term. »
Federal Spending on Research and Student Aid:
“The current fiscal environment offers limited possibility for stable or increased funding by the federal government.”
« The outlook for capital market returns is partly linked to the potential resolution of the federal budget deficit and any economic fallout from action or inaction taken in Washington. However, some degree of volatility is likely over the next several months as the U.S. government struggles to settle key tax and budget issues and Eurozone problems persist. »
« We expect gift support to show little to no growth in the near term due to continued volatility in the stock market, which is the best indicator of private philanthropy. »
Health Care Revenues:
« Universities that own or operate hospitals or faculty practice plans are subject to all of the challenges inherent to the healthcare sector: reduced graduate medical education funding, limited rate increases and potential funding cuts for Medicare and Medicaid, lower patient volumes, uncertainty over healthcare reform implementation and payer reimbursement pressure. »
Inside Higher Ed