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Universities - Too Big to Fail?

on Monday, 18 March 2019.

The university sector has high debts and faces increasing commercial pressure, potential falls in student numbers and a possible reduction in tuition fees. At the same time, it seems that government bail outs will end.

A lot has changed over the last few years in the higher education sector, particularly in England. The ending of the cap on the number of students a university can enrol, together with a threefold increase in maximum tuition fees, has served to increase competition. One consequence has been an increased number of capital investment projects, such as new buildings and facilities, with the aim of attracting more students. To fund them, borrowing in the sector has increased significantly, with debt in 2018 rising to around £12 billion, three times the level ten years previously.

At the same time, income from tuition fees is under pressure. For example, income from non-EU foreign students, whose fees were not capped, has stopped increasing at previous rates since a tightening of visa rules in 2012; Brexit may result in reduced numbers of EU students enrolling at British universities; and government proposals are under consideration to reduce maximum tuition fees (a figure of £6,500 has been mooted), which will result in a dramatic drop in incomes for universities unless the shortfall is funded by taxpayers.

Post-1992 higher education institutions will also need to pay more to meet increased employer contributions to the Teachers’ Pension Scheme. According to education minister Nick Gibb this will cost affected universities £80 million in 2019/20 and £142 million in 2020/21.

So things are tough for universities and it seems that things are only going to get worse. Nevertheless, until recently there has been an expectation that the government will underwrite debt and that, akin to the banks, universities are 'too big to fail'. This view seems to have been shared by the major rating agency Moody's. One of its senior analysts has recently said that: "Our view remains that government links with universities, the OfS's remit to ensure continuity of education for students, and the economic importance of the university sector provide strong incentives for the government to act to prevent a default by a public university".

Times have changed however, and there are an increasing number of commentators expressing the opinion that this view may be naive at best.

Failure Is an Option

Sir Michael Barber, chair of the Office for Students (OfS), has declared that insolvent universities should not expect bail outs from taxpayers and told the WonkFest higher education conference in London in November 2018:

"The OfS will not bail out [university education] providers in financial difficulty… It would be incoherent to bail one university out in order to deem it financially sustainable while expecting others to meet our conditions on financial sustainability and good governance without such assistance… Should a university or other higher education provider find themselves at risk of closure, our role will be to protect students’ interests, and we will not hesitate to intervene to do so. We will not step in to prop up a failing provider".

If the higher education sector, and those who lend to it, were in any doubt about the appetite of government to prop up failing universities, Sir Michael's message could not be any clearer: institutions will be allowed to fail.

What does a 'failure' in this context mean? No university has yet gone bust and options on insolvency seem limited to a transfer of assets and liabilities to or merger with another higher education institution, and ultimately dissolution. But with the government's intentions seemingly clear, universities and their governing bodies should perhaps look to the further education sector for guidance as to what is to come.

In the further education sector the government has gone so far as to expose colleges to the existing insolvency regime applied to most commercial organisations by the Insolvency Act 1986. As a result of the Technical and Further Education Act 2017, from 31 January 2019 a new statutory insolvency regime for further education colleges in England came into force. It largely reflects and applies the existing commercial insolvency regime and procedures, albeit that before an insolvency procedure can be commenced the Secretary of State for Education in England will consider whether 'education administration' should be initiated as an alternative. 'Education administration' is similar to a standard administration but with inbuilt safeguards to protect the education of students, which is given priority over the interests of other stakeholders such as creditors.

Given the government's position and avowed intentions to expose the higher education sector to market forces, universities would do well to prepare themselves for similar legislation.

Are Governing Bodies at Risk?

Members of university governing bodies would also be well advised to consider their positions. They may face personal exposure as a result of their conduct and any failure of their institution. It would seem prudent for the governing bodies of universities to heed the provisions of the Insolvency Act 1986, particularly those relating to the conduct of directors. I say this not only because a change in the law as has happened in the further education sector may be around the corner, but because such provisions may in effect already be relevant.

For example, the considerations that will be taken into account in determining whether action should be brought against members of a governing body in respect of their conduct as charitable trustees and fiduciaries are derived from and informed by the provisions of the Insolvency Act 1986. At the same time, the substantial body of case law behind the majority of the provisions of the Insolvency Act 1986 could be applied by the courts to a university and its officers.

There are strong views across the political spectrum on the relationship between the education sector and the market economy; Labour has recently reacted to the OfS's position by pledging to prevent universities going bust. Nevertheless, however such issues are ultimately resolved it is clear that the sector is under significant financial strain, that there is more pain to come and that institutions and their governing bodies (and those who are owed money by them) must at the very least consider the prospect of failure as part of their financial planning.

For more information, please contact Mark Tempest in our Insolvency & Restructuring team on 01923 919 345.

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