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Investment in schools, no child’s play

Upgrading schools is a need that is being felt by many but the ecosystem is mired in regulations. Times are changing and more and more investors are looking towards the sector 

 -Kanan Shah

Investments in schools with a low capital base are the thing of the past. Gone are the days when a school grew over a period of 10 years, by adding a few classrooms each year. In today’s times, one hears the launch of big schools spread over several acres with state-of-the-art facilities.  What was once viewed as a philanthropic activity and run as a trust (they still do), the noble profession has a lot of money, breaking the myth that there is no money in teaching.

Thousands of schools across the nation want to expand and the sheer size of the education market has forced the corporate world to take note of the opportunity the sector provides.  All kinds of private players, private equity, venture capital have begun to look towards education.

Today, the steadiness has accelerated to a fast-paced marathon. Expansion is now measured in number of campuses rather than classrooms. New branches of a school brand stand upright with 100 classrooms, several courts dedicated for different sports and laboratories with latest equipment.

Teaching and learning is no child play and investments run into crores of rupees.  The cost of building a new school is rising significantly. Expenditure is on the rise when compared to the last ten years. Then how is the school leader able to spend exponentially?

The catch is in the entrée of private equity and angel investors in the education sector. Coherently, it was a response to the UNESCO’s call, ‘Developing countries must find new ways to raise additional revenue to finance basic education.’ The Indian education industry is pegged around USD 100 billion and is expected to nearly double to USD 180 billion by 2020 as per the report of rating agency CARE Ltd.

Education industry is thus attracting sizeable investment, most notably in primary, secondary and higher education. Further, education sector has attracted FDI worth USD 1465.44 million during April 2000 to June 2017, according to the data released by the Department of Industrial Policy and Promotion (DIPP).

It is however not easy for schools to get investments for a variety of reasons; including the law that requires that schools can only be set up by a non-profit entity. A trust or a society is not eligible to receive foreign investment and even if they are allowed, the trust or society would not be able to distribute returns on the investment. This essentially means under the Section 8 Company being a charitable nature, would be required to apply its profits in other areas. Mallikarjuna Rao, who runs three schools in Vijayawada says, “This is a bottleneck.”

What compounds the issue is the presence of multiple regulators, approvals and regulatory compliances.  Post 1991, successive governments encouraged investments and encouraged investments by Foreign Educational Institutions (FEI) and Foreign Direct Investment (FDI), while the other sectors benefitted, education sector has been saddled with rules.  But, with the advent of service providers, schools could approach investors.

Fool-proof investment plan

The school leader has to take counsel from an educational consultant firm. Here, he can elaborate his aspirations. The consultant will take the procedure forward by valuating the school. The valuation process will decipher the past growth of school’s outcomes including number of admissions, learning outcomes, etc. This valuation is the decisive point in the whole procedure based on which the amount of funds that can be invested is estimated. The consultant discusses with several investors who propose their estimations. Taking forward the best proposal, the consultant and the school leader together finalize and individual stakes in the school organization. It is obligatory that the school leader is not a member of the trust/society or related to any member of trust/society.

As the consultancy company is providing the funds for the school, there will be a MOU signed between the company and the trust/society which binds them in the collaboration stating that no party is permitted to use the funds for profit-driven tactics. All the investment acquired, will be used to create the school buildings with fundamental facilities. The consultancy firm will also provide the educational services required in starting and running the school buildings and the school will be charged in accordance.

Thereby, the consultancy company is getting finances from the investors which it is funding to the trust/society or rather the school purely for infra-development or other facilities. The school leader is in turn paying to the consultancy firm for educational services and investment provided and arranged by them while offering the decided stake in the school organization.

Here, it is mandatory that the company and the trust/society should be transparent with respect to the transfer of funds and tax obligations.

 Redefining basic school facilities

21st century has witnessed the evolution of quality in terms of educational opportunities. S K Das, an educator from Bhopal states, “The difference in small schools and big schools isn’t that significant. All the campuses are providing well-structured infra, laboratories, computer-based learning, dedicated playgrounds and courts for different sports. It is not a luxury anymore but a fundamental necessity of the learning environment.”

Transport and meal facilities too are now a must. “Nutritional standards are recognised as playing an important role in promoting healthy eating in schools at national, regional and school levels. Teachers, school management, health professionals are important stakeholders
in maintaining nutritional standards and
as well and should be involved in healthy food provision initiatives.” That having been stated by the Aalborg University, Denmark, it is quite evident that these are some unavoidable entries which one needs to platter while building more schools in today’s reformed education scenario.

“All schools must install CCTV cameras,” asserts Anuradha Trivedi, a mother of two middle school children. By issuing minimum standards and guidelines for security measures, Ministry of Education (MoE) asserts, too presses on the fact that security and safety must become a way of thinking in schools. “It is imperative that school leaders understand security and safety in the sense of a management function, in much the same way as schools treat the accounting function, or the administrative function.”

While Hi-Tech security bags the fundamental tag, school leaders are further loaded with the controversy on fee-hike regulations and the 7th Pay commission. “The government stated that schools cannot increase fee,” says Arora, a principal in New Delhi while S K Bhattacharya adds, “We incur recurring expenses in establishment, which go up by 12 to 15 percent each year. This constitutes 70 percent of the total expenditure of the school. If we don’t hike the fees, we will not be able to pay teachers’ salaries.”

The competition has tightened with the fact that almost all school buildings are providing these basic elements. Stress meter strikes up when competitive campuses are studded with better facilities. The British School in New Delhi, claims, “The school has ten air-conditioned buses currently.” As a result, sustaining in the education industry takes a difficult turn. The scenario is such that the school leader has to not only take care of these basic necessities, but match the standards or rather overshadow the standards of other schools around.

Survival in the competition isn’t the sole reason for incorporating facilities. Escalating growth in the students and thereafter the entire school team is a far more important objective. CAF, a development bank of Latin America elaborates, “The conditions of the schools directly impact the performance of the students.  The fact is that a good school infrastructure, with renewed spaces, tends to improve the attendance and interest of students and teachers in learning. For this same reason, investments in school infrastructure have an essential role in solving access problems of students to the school system and to improve their performance.”

Hence, compromising on any facility would hamper the growth and in turn strike on sustainability of school. Evidently, one must need some financial support to amplify the spread of education far and wide.

 

No-additional-collateral funding

With more than 3,00,000 private schools in India experiencing the challenge of raising funds, even Non-Banking Finance Companies (NBCFs) have come forward to address this acute need.

NBCFs are shifting the conventional perception. The valuation to provide funds for the school leader is no more based on the value of securities. They measure the growth and the capability in revenue generation. Based on the future potential of the school in repaying the finance, Non-Banking Finance Companies are evaluating the organization.

An estate of funds

In accordance to the UN’s declaration of Sustainable Development Goals, equal opportunities for quality education for all by 2030, is the prominent goal now. As a result, the demand of good quality education providing institutions is on the high rise. Measuring the prospects in the literacy sector, REITs (Real Estate Investment Trusts or Real Estate Stock) are entering in India and paving the way for a subsequent funding option.

Filling the void created by private equities regarding ‘no investment based on real estate values’, REITs are organizations that manage estate properties and mortgages by allowing individual investors to invest funds in revenue-producing real estates.

As the revenue is generated from the asset, 90% of it is distributed amongst the shareholders. The revenue is taxable and is induced on a regular basis. Selling, renting, leasing the real estate purchased are the means through which REITs drive their own profit.

With financial experts fetching out opportune funding methods, school leaders can finally walk on the road to expansion

While financial experts and investors are fetching out opportune methods to infuse funds in the ever-growing education industry, school leaders and academicians who are aspiring to fulfill their dreams of spreading literacy have a reason to rejoice. They can finally envision their education brand unfurl into a vast umbrella-shed encompassing a greater number of potential young minds with limitless quality education and world-class facilities.

The way forward

Investment in education sector undoubtedly has challenges but at the same time there is hardly any other sector that shows so much promise for investors. The sheer size of the Indian population and the dire need for quality education allures investment. Regulatory issues notwithstanding, the push by several schools and partnerships in the last few years have resulted in a new found confidence (See interviews).

In the case of play schools, there has been a proliferation of investments and establishment of various schools with Kangaroo Kids, Eurokids, Kidzee and others. Earlier this year, in the month of March, Europe’s largest childcare group Babilou acquired a major stake in pre-school and day care chain Amelio early Education. According to sources, Gaja Capital Partners, a private equity investment firm is in the final leg of talks with Kangaroo Kids Education Ltd (KKEL) for an investment of $240-million fund and earlier this year, Bengaluru-headquartered Founding Years Learning Solutions, which runs Klay Schools (preparatory and daycare centre) raised Rs 107 crore from Peepul Capital.

The education sector is all set to enter into a new era.

Interacting with educational consultants, financial advisors, investors and school leaders, Brainfeed unfolds a series of opinions on the funding opportunities for the 21st century school expansion 

-S Radha Krishna

Business Head

Asia Pacific Inc. Corporate Advisors

  1. Why the need to expand schools is a proven opportunity?

The Education system in India has seen a paradigm shift from a mere Philanthropic or Charitable activity to a level of “Industry”.

Education in India can be primarily segmented as – K12 comprising Pre School, Primary and Higher Secondary Education and – Higher Education comprising Diploma, Bachelor’s / Undergraduate Degrees, Master’s / Post Graduate Degrees in all spheres of technical and non-technical education. The average spending of an Indian family on Education has significantly moved to about 9% – 11% of the income levels given the enhanced aspirations of parents and students. The migration towards Quality of Education is an ocean of opportunities for the Private Sector forcing them towards both organic and in-organic expansion in Education Infrastructure.

  1. What are the terms for which a Non-Banking Finance company funds?

It typically funds at competitive terms for:

– Additional Working Capital

– Expansion of Building and other Infrastructure

– Acquisition of land purchase for future expansion

– Acquisition of a running institution

– Unlocking the Promoter’s equity through repayment of unsecured loans of the promoters or others in the Trust’s or Society’s balance sheet.

– Any other specific requirements

Given the quality of the management, NBFCs are able to manage with the securities owned by the Trust or Society and do not require any additional collateral securities owned by the promoters.

  1. Tell us about REITs in India for funding operations in education sector?

The value of Real Estate is usually undermined by the established Educational Institutions. It is high time that at least the established Institutions has to gear up to unlock its real (estate) value by carving out the assets in the Trusts & Societies to the “Asset Holding Company” and have a structure to lease it out to the same Trust or Society and get ready for REITs.

There are quite salient features of typical deals in current market:

– The Educational Institution (EI) carves out its assets in to a company or

– Plans to acquire an Educational Institution with considerable real estate value

– A Private Equity Fund (PE) purchases the said assets from the company and signs a long- term lease agreement with the same EI.

– EI assures rental yield of 8% – 12% to the PE depending on the quality of the asset and the management

– Option to EI to buy the said assets at the same price at any point of time.”

The new face of Educational Industry has pragmatic requirements which are opening up new dimensions of growth. Hence, an evolution of funding opportunities is witnessed and REITs is one of the potential answers.

 -Jasmeet Chhabra

 Managing Partner

 Cerestra Advisors P. Ltd.

  1. An aspired school leader approaches you with the vision of expansion. How would you direct/guide further?

The most important aspect is dedication to the cause. So the first thing to analyze is the “Why” to expand. Is it because the existing schools are running at near full capacity and there is a requirement to fulfil the unmet demand, or there is a market that has unexplored potential or there is differentiated unique offering which the leader feels that they can explore. Once that is answered, they will know the reason to their “Why”- how urgent is the cause for them and if they are all in to make it a success.

Next in line is the means to the end. It should not so happen that an existing cash cow is cannibalized by the new brand/sister school. Nor should the new venture bleed the books of the Operator and hinder the operations of the group at large. So the next important question is the funding for the expansion, which will depend upon the structure that he selects to grow. Is he / she proposing to use an existing owned property, acquire / build a property or chose to go asset light.

  1. How can Cerestra Edu Infra Fund benefit the vision?

Cerestra offers an alternative model of going “Asset Light” by housing the physical assets/ monetizing the physical infrastructure to unlock capital for the operator at the same time reducing his upfront cashflow needs so they can focus on their operations rather than worry about financial security of their business. This provides a differentiated proposition that supports perpetual growth without undue burden on cash flows or interfering with the autonomy of the operator.

One thing which we have often witnessed is the huge capital investment in the infrastructure which schools undertake backed by debt funding. The bank loan servicing creates a vicious cycle and not only bleeds out the operation but also causes an undue stress for the operator, distracting him from his core function of operating the school. Additionally, the bank funding comes at a comparatively higher cost and capital rotation cycle of more than 5 years slowing down the growth of the school. And at times potentially jeopardizing the very existence in the early years when the institution is yet to achieve critical occupancy.

Whereas with Cerestra investment the capital rotation cycle is reduced to 2 years making it 2.5 times more effective; there is only a rent component to be charged which is not higher than 35% of revenue for a stabilized school. With the further growth of the school, the revenue witness at least a 8%-10% growth every year, however, the rent increases by a mere 3% thus creating a pool of surplus for the operator, helping him expand exponentially. Hence Cerestra provides a perpetual capital for growth without diluting the operations of the school.

  1. What are the criteria through which you decide a potential educational group to invest in?

Cerestra works with operator partners with a vision to mutually grow and expand. We partner with established national or regional chain operators with high brand recall. We look for a multi institution chain, ethical operations, and zeal to grow while identifying a partner. The most important criterion is the viability of the specific school as a going concern and hence we seek schools that have shown a consistent track record of intakes and student growth in its inception years.

  1. Please elaborate on your investment model for educational groups?

Cerestra provides infrastructure investment to the education groups / operators through monetization of their existing schools under Infrastructure Solutions model, enabling them to unlock significant capital to fund the future growth. With its differentiated offering it also assists the education groups / operators to grow by greenfield and brownfield expansion.

M Venkatanarayana

Chairman

Gowtham Model School (GMS)

  1. As you have been the 1st in India to acquire finance from private equity, kindly elaborate the challenges you faced in the procedure.

I went through a consultant who provided a questionnaire asking for five –year balance sheets, number of trusts, ITR, year by year expansion, academic results and other documented details. Once they were convinced with the answers, they prepared a proposal, and discussed with 100+ investors. The interested investors went ahead for the valuation of trust and took the major stake of 51%. At the initial stage, there wasn’t any issue.

After two to three years, the company decides to expand further and the investors invest proportionately. The second round of investments leads to a reduction in my stakes approximately 30%. So, the problem had started already. We have to provide funds for further expansion. Investors can provide funds whenever needed. But, as a school leader, I cannot provide funds that frequently. My stakes are reducing from 49% to 30% and then to 10%! I might have no stakes at all in some time. There’s a question of viability. As a promoter or one can say, least stake holder, I cannot stop the expansion if the company desires to expand. Moreover, I cannot provide the money. I am left with no other option. As a result we came with a mutual agreement to have an exit.

  1. What kind of mutual agreement was raised to initiate termination?

We didn’t terminate the agreement as we had schools in Hyderabad, Telangana, Andhra, Bombay, Bangalore, Pune. Actually at one stage, I, as the promoter, have to provide exit for the investor. But as we our concerned, we didn’t; nobody provided exit. We mutually agreed to have individual exits. They have taken schools in Bombay, Bangalore, Pune and I have taken Hyderabad. It was a mutual comfortable exit which is extremely rare. It is like one in thousand or ten thousand cases. But now, we are comfortable in our own area. Presently, my academy currently has 60 schools with a combined student population of approximately 45,000+ in Andhra Pradesh and Telangana.

  1. How does the mindset of foreign and Indian Investors differ?

Foreign investors give a long-term exposure as they’re equipped with lot of funds; they invest for around 10 years in the initial stage itself. But Indian investors fund like a financial banker who invest money and want immediate returns. It is the responsibility of the school to show the growth. Suppose, they are supported by Rs 100 crore investment for next five years.; the school leader has to give a plan for next five year expansion- how much money is going to be spent, how many schools will be opened, how much revenue will be generated; after five year, what would be the financial position.

-GS Madhav Rao

Chief Academic Advisor,

Groups of Schools

  1. Offering single window solutions to school leaders for spreading education, please describe your role in the process.

We bring multiple capabilities through a body of highly experienced professionals. We help the school leader and /or investor from the evaluation of location, projection of potential for growth, school model to meet the needs of demography, financials, growth projection, building facilities to meet curriculum needs, design for learning spaces, inputs for architect, collaboration with service providers, curriculum design and  provide teacher training, recruitment assistance, organizational structure, job profile, policies, systems, guidance in building resources, budgeting to operational support. We help schools in vision building, branding and school development plans.

  1. What are the requirements that a school leader must arrange before moving forward in this journey?

Readiness to build a school with clear purpose and personal vision, ability to withstand the fund requirement to meet operational loss without cutting corners, patience during the time period during which the school works to earn operating costs. Investors need to educate themselves of how schools are managed. School being human intense, school leaders need to have the capacity and skills to manage human resource. They need to be learners always to support transformation!

With parent activism increasing and law enforcement is getting tougher at times disproportionate, leaders should know law and be current with often changing government directives. It is important to put documentation of all processes and events for transparency.

  1. Is there any misconception regarding building more number of schools?

School is not ‘pakoda business’ that you make money every day from day one.

The notion that we can take profits by overcrowding classrooms or under paying teachers is misplaced. Many school managements starve the schools by cutting corners and starving students of their needs. That will not help the school in evolving.

The idea of profit should be limited to building endowment and funds for school improvement.

  1. What is your message for the school leaders who want to expand their schools?

Invest on quality! Professional support, well paid teachers, continuous training, and management of facilities that match times and well thought out plan would help!

India needs innovative schools that will ensure that our students develop capability to be creative and empowered with capacities to meet future challenges that will come by second in careers and life! I believe that future is only for schools ready to change with times!

-Sandy Hooda

Co-Founder,

Vega Schools

Expansion Plan

  • Vega School 1, sector 48, Gurgaon (Delhi NCR): started in 2016
  • Vega School 2, Gurgaon-Faridabad Road (Delhi-NCR): under development, opens in 2019
  • Vega Schools 3, 4, 5 development to begin 2019, expected completion by 2022
  1. Please elaborate on expansion plans.

We came into education for a transformation movement across India. India is a large country and any national movement will require a pan India presence.

  1. How the financial support is is being arranged for the initiative?

Vega Schools is registered as a section 25 (not for profit) company, however our infrastructure is housed in a separate (for profit) company. This structure provides an opportunity to our investors to earn a steady return on their capital and is consistent with Indian law.

As of now two Co-Founders are the main investors in Vega. Equity capital is supported by some debt. We expect School 1 to be cash flow positive by April 2019 (within 3 years of operation) and School 2 to begin later in 2019. Having proved the model we are now all set to grow. We are working to create our own India education impact fund and are also reaching out to some key impact investors around the world. Why ‘impact investors’? Because we believe great schools can only be created with patient capital. This means prospective investors must want to make a positive impact on India’s K-12 education as well as to derive a fair (and not too ambitious) return on their investment.

It’s a win-win. Schools, unlike hospitals, hotels and other businesses are not subject to supply-demand pressures. A hotel may be full on one day and empty on another. A school upon reaching its capacity, continues to remain full. It is a safe investment. This distinguishes the education sector from other sectors. However it is important to expect modest returns, since they are closely linked to lease rental value and land value appreciation.

  1. What are the challenges you are facing in the process of expansion?

The single biggest challenge for growth (other than capital) is people. We evaluate hundreds of candidates before finding the right ones. Unfortunately the education sector is mired in mediocrity. The diamonds in the rough need to be discovered and polished. Training is another huge challenge. We have created our own in-house ‘PBL’ training academy which will be the engine of our growth.

  1. Will you go for further expansion?

Our future goal is to grow with consistency, excellence and development of our people. If educators are great, learning will also be great. Today’s children require a very different (and advanced) set of skills in order to thrive in the vastly different world in 2030 which will pose difficult and unknown challenges. We will continue to create schools for a different world.  We can only do that with educators that are different from teachers. Our expansion, today or after five years, will depend on our ability to find and develop great people. The Vega academy shall be at the heart of it all.

  1. What will be your message for the school leaders who are aspiring to expand?

Scaling is a potential trap. Very few school chains around the world have been able to scale successfully. Less is more, slow is better than fast, the right investor/partner (with shared values) is the key. Expansion of a school is not only about expanding facilities, it is about building a great culture. A school is not like McDonalds, it is a different animal which requires enormous commitment and effort. Founders, senior leaders, team members and investors must have a deep sense of shared commitment and it is only then that great schools can be scaled successfully.

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