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When the Financial Crisis Looms: A Tale of Three Colleges

04/14/2015 08:30 am ET | Updated Jun 14, 2015

Late last week I had a telling conversation with Dr. Jim Douthat, a colleague and mentor and the highly respected president emeritus of Lycoming College (PA). Like me, Dr. Douthat is convinced that the present operational path taken by many private colleges and universities is financially unsustainable.

As Jim argued so perceptively, the looming financial crisis may be at the doorstep or twenty years away, but those colleges that succeed best will do so by recognizing what's coming and planning accordingly.

The challenges, as well as the window of opportunity within which to respond effectively, vary from institution to institution. The intersection of factors like endowment per student, strength of administrative management, expertise of Board of Trustee members, tuition discount rate, involvement of the faculty leadership, and the strength of the institutional brand will also affect outcomes.

There are a handful of colleges -- largely research universities and the most selective private liberal arts colleges -- that have the endowment, diversity of funding sources, and enrollment brand strength to wait out or even ignore the looming higher education financial crisis. But these are few in number.

For most colleges and universities, the combination of consumer tuition price sticker sensitivity, decreasing or flat net tuition revenue, declining debt capacity, shifting enrollment trends, and weak internal management is a recipe for disaster.

To illustrate the point, we look at three institutions: Birmingham -Southern College (AL), Sweet Briar College (VA), and Grinnell College (IA).

Shortly before a research survey proclaimed Birmingham-Southern to be among "The Best Colleges to Work For," the College was rocked by a surprise announcement that 63 staff and faculty positions would be eliminated. Remaining employees were told that their salaries would be cut by ten percent and that the institution had suspended its contributions to their retirement funds.

Birmingham-Southern is a well-respected institution with considerable regional brand strength. What happened? Had unpaid bills accumulated on administrators' desks? Did the Board know of the institution's financial weaknesses? Did accountants and auditors not fully convey the seriousness of the College's financial situation? We are all pulling for Birmingham-Southern to work its way back to financial health, but the best prognosis is that the patient will take years to fully recover.

Sweet Briar provides an excellent comparison to Birmingham-Southern. Shortly after the decision to close the College was announced, the U.S. Department of Education awarded the institution its highest financial rating -- a 3.0 grade based on it's FY2013 audit. So, why then did Sweet Briar's Board decide to close the College?

Many in higher education knew that Sweet Briar faced admission problems and declining enrollments, but it was presumed to be a "safe" institution that would weather its enrollment crisis, given at least some cushion provided by its endowment and an ability to belt tighten. The combination of Sweet Briar's declining enrollment, already high tuition discount rate and limited liquid assets undoubtedly influenced the decision.

As Jim Douthat notes, the march toward bankruptcy often begins slowly and then accelerates suddenly. That 3.0 federal grade had been based on past history. Their Board moved in response to the likelihood of fiscal collapse in the near future.

In retrospect, it seems that each institution's unique circumstances and history limited their options. One slashed and burned to regain control of its expenses and pay the bills. The trustees at the other college, also facing severe cash flow problems, elected to allow Alma Mater to die with what they saw as "dignity."

The decisive actions taken by Birmingham-Southern and Sweet Briar raise important questions for much of private higher education, particularly those institutions facing declining student markets, growing operational costs, and increasing levels of institutional financial aid.

If significant changes to an institution's operational models are going to be required, how soon must trustees and presidents act to create the time needed for decisions to be made and transitions begun? Can collaborative decision-making respond quickly enough to impact required financial outcomes? What role should faculty have in such a decision-making process? How will other stakeholders be involved or kept informed of what is going on and why?

The approach to those questions at Grinnell College is worth studying carefully. Grinnell enjoys an excellent brand, with 1,700 students and a nearly $2 billion endowment. Yet, they perceptively declared their business-as-usual operational model to be unsustainable long term. More significantly they set "fiscal sustainability" as a matter of joint responsibility.

When the stock market collapsed in 2008, Grinnell's Board of Trustees concluded that the College faced the triple whammy of declining tuition revenues, growing operational expenses and a seriously weakened endowment. To prepare for change, they shared a computer program that allowed its users to project future institutional budgets using existing income and expense trends. The effect produced consensus on the need to work together.

To this end, Grinnell integrated the concept of institutional sustainability into their budgeting, financial forecasts, governance and strategic planning. In doing so, they anticipate what the College will face by looking at key metrics including, for example, admission rate, net tuition revenue by student, percentage of no-need students, total gifts per year, and change in per cent revenue by source.

Grinnell's example offers important lessons to American higher education institutions thrashing about seeking to bring order from chaos and uncertainty. The best planners, operating with well-educated stakeholders -- including faculty and staff -- can adapt and shape a college's future, no matter how unique the environment or how large or small its endowment. Grinnell avoided kicking the can down the road and took steps long before its market position worsened. And, it avoided the kind of surprise that is part of the psychological underpinning of the well-intentioned "Save Sweet Briar" movement.

Hats off to Grinnell College for showing how careful planning, a broadly articulated and well-understood interactive financial plan, and shared governance can work to create a future.