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Financing Capital Expenditures for Independent Schools

There is a challenge right now that many independent schools need to manage, and that has to do with capital improvement projects. The simple fact is that these institutions are getting older, and the median age of campuses/facilities signals the need for additional capital investment.

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There is a challenge right now that many independent schools need to manage, and that has to do with capital improvement projects. The simple fact is that these institutions are getting older, and the median age of campuses/facilities signals the need for additional capital investment.

We live in a region here in New England that happens to house some of the finest independent schools in the country, both at the secondary and college level. the level of prestige we enjoy is a true source of pride for our region and the entire country, due to the proximity of so many of these excellent schools.

There is a challenge right now that many independent schools need to manage, and that has to do with capital improvement projects. The simple fact is that these institutions are getting older, and the median age of campuses/facilities signals the need for additional capital investment.

A recent report from Moody’s Investment Services indicates that independent schools have a capital-intensive business model, due in part to these large, aging campuses and the continuous need to keep them updated and modern. Additionally, there are a number of critical areas that must be kept front of mind when talking about capital expenditures, key constituencies and issues that must be addressed.

The first is driven by parents and students, who have become more consumer driven than ever when evaluating school campuses; there is a demand for state-of-the-art facilities, such as modern athletic and student centers, higher quality dorms, better dining facilities and sophisticated technology infrastructure. There is also the issue of campus security, which of course needs to be paramount to any educational institution—tremendous investment continues to be made by schools on campus-wide security, and capital is required to fund these improvements.

Finally there is the hyper-competitive landscape that currently exists for students to come to the campus and stay for four years. And as schools compete to attract the right students, they can’t defer necessary campus improvements.

So it becomes clear that capital expenditures remain essential to the long-term vitality of independent schools. And the question then becomes, “What is the best way to fund these projects?”

It is not always an easy answer, but answers to this question do indeed exist.

We start with what is likely not the answer to the question – cash on hand. There is a limited pool of schools that can fund renovations to existing facilities, or build new ones, strictly from cash reserves, unrestricted endowment funds or contributions from donors. It would be the preferred option, of course, but the truth is for most schools it simply is not feasible, especially as increases in operating expenses have outpaced increases in net tuition revenue over recent years. This has put more strain on endowment yields and contributions to bridge this gap.

So in lieu of deferring capital projects—which is also a less than desirable option for many—schools often consider taking on long-term debt to finance projects. This became prevalent in the 1990s and early 2000s, as schools realized their campuses were deteriorating due to lack of capital investment. It certainly has worked and provided the campuses with the capital infusion needed to turn these projects into a reality, but if of course brings a long-term price tag with it. Long-term debt could work for some schools, but questions need to be asked ahead of time about enrollment trends, tuition, cash-flow projections and retention rates before taking on such a debt. This is also where a debt-capacity analysis needs to be performed.

This brings us to the most recent trend at independent schools. Many institutions have either 1) avoided taking on new debt and instead elected to raise money for bricks and mortar through capital campaigns, before a shovel ever goes in the ground, or 2) taken on some debt while raising funds through a capital campaign at the same time. These are both viable options, although one that also takes significant planning time, thought and the right people to successfully run it.

There is seldom a “one size fits all” solution for a school looking to invest expenditures for capital projects; factors such as existing financial resources, donor involvement, operating performance and existing debt must be carefully weighed. But there are options that all schools have, and choosing the right one is imperative to ensuring a prestigious institution’s long-term viability.

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