Chapter 2: “Limbo, limbo—how low can you go?”: Net Tuition Revenue and the Cost to Educate

Cranky curmudgeon: The amount of Net Tuition Revenue (NTR) that must be collected per student depends upon the cost of education. To attract students, that cost, in turn, now includes a minimum and growing list of “amenities” that have little to do with teaching excellence. This conflicts with the demand to keep costs and charges low.

In the thrilling Chapter 1 of this little higher education finance tutorial, we discussed the fact that discount rates don’t matter, but Net Tuition Revenue does. The latter is the foundation cornerstone on which college and university budgets are constructed. Unfortunately at most institutions such budgets have been under three different kinds of high pressure in recent years: 1) the overall number of students coming to school (enrollment) declined through the pandemic and is at best slightly recovering; 2) for many schools, the rising discount rate discussed in the last chapter means the amount each student is paying (NTR) is flat or decreasing; and 3) inflationary pressures are increasing costs. That is, in most cases, less per-person revenue is being collected from fewer students to cover more expenses than before. There is just not as much cream cheese available these days to spread across an ever-larger bagel.

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The Micawber Principle

In his 1850 novel David Copperfield, Charles Dickens immortalized the character Wilkins Micawber (whom, scholars say, may have been modeled on Dickens’ own father), who handed down to the orphaned title character wise financial advice he himself was utterly unable to follow: “Annual income twenty pounds, annual expenditure nineteen [pounds] nineteen [shillings] and six[pence], result happiness. Annual income twenty pounds, annual expenditure twenty pounds ought and six, result misery.” This famous quotation has itself been handed down outside the novel as the Micawber Principle: the fundamental law of financial success requires consistently spending less than you take in. For higher education, just as for orphans’ households, it remains true that “When your outgo exceeds your income, your upkeep will be your downfall.”

“Well,” you might astutely point out, “if you are not covering your costs with your revenues, you need to increase the revenues and/or reduce the costs! Either get more cream cheese or shrink the bagel!” Yes; brilliant deduction. Spoiler alert: most colleges have been trying desperately to do both for some time now. Why are they not having better luck at balancing their budgets, to the point where many run regular “structural deficits” (meaning long-term expense-and-revenue mismatches not based on one-time events like, say, a hurricane or a pandemic), and closure announcements come out like the tick of a metronome? Are all these college administrators financially incompetent, or what? (In truth, this last is a question with several possibly nuanced answers…) Why can’t they follow the Micawber Principle?

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NTR, NMRs, NIMs, and Chubby Checker

A big part of the problem with establishing the “right” level for higher ed revenues (how much cream cheese to obtain—read: extract from families) is that there is a great difference of opinion how much college should cost (how big the bagel must be). One also might think matching revenues with expenses means 1) determining the cost to educate, then 2) making sure that the NTR, combined with 3) gifts and endowments returns (and, for publics, 4) possible state funding contributions), covers those costs.

Given that NTR is, in the end, mainly a transfer from the pockets of students' families to the institution, naturally there is tremendous pressure exerted on that number from both sides of the exchange. Families prefer a low NTR. Schools that can deliver an education at a low NTR number will be favored for enrollment. On the other hand, the institution must figure out how to provide that education at the NTR number on offer. Much of higher ed budgeting of late, therefore, has become “NTR limbo,” bringing to mind Chubby Checker and elementary school skate night games: “Limbo, limbo—how low can you go?!” Colleges ask themselves: What are the essential elements of the education we say we offer? How can we offer it at a lower cost than last year? We are essentially playing the game show Name That Tune against each other: “We can offer that education for just $12,000 NTR per year, and take your prospective students!” “Oh, yeah? Well, we can offer that education for just $11,000 per year, and take your prospective students!” This is a game where pretty much nobody is winning a prize, and balanced budgets become just a sad song from the past.

Even for a non-profit entity, a management best-practice would be to run a slight surplus of revenues over expenses. An actual money-making company would call this a profit margin. But of course most institutions of higher education are registered as non-profits, and several are, shall we say, wildly successful at being non-profitable. On the other hand, a non-profit can and should have a positive net margin ratio (NMR), where income exceeds expenses. Otherwise, it will eventually run out of capital and have to call it quits. For a college, a good annual NMR target might be to have about 4% available at the end of the year to re-invest in other programs, to forward the institutional mission. That might be a ratio for the angelic managers among us; among mere mortals, this notional target is often missed. Another way to evaluate financial health is with the Net Income Margin (NIM), a slightly different calculation with much the same predictive power. (Kudos to Matthew D. Hendricks and Perspective Data Science for painstakingly assembling this easy way to check an institution’s NIM.) To have a respectable NIM and not go out of business, we have to limbo pretty low. We have to act boldy--we cannot simply adopt the hapless Mr Micawber's budgetary philosophy that "something will turn up." How do we determine what is the bare minimum expenditure required for offering an education?

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Maybe Mars Isn’t Too Cold

In 1995, mathematical biologist Joel E. Cohen penned a thought-provoking book entitled How Many People Can the Earth Support? In it he explored planetary population carrying capacities, birth and death rates, minimum calories needed to live, and many other data points. He noted that in 1891 experts estimated the maximum number of humans who could live on the planet was 6 billion. (We number about 8.1 billion as I type this.) Some later estimated up to a trillion (!!) if all we are looking at is photosynthetic food production; others said only up to 80 billion if people wanted a little elbow room. When Cohen’s book came out, the world population was estimated at ca. 5.7 billion. If every human at that time were given one square meter (about the size of a large doorway welcome mat) to stand on, the Isle of Man in the Irish Sea had sufficient area to accommodate the entire world population, albeit in tight and chilly conditions. Nowadays we would require a bit more space, but the country of Namibia, if rather hot and dry, would be about right at a square meter per, with 34 larger countries standing by to absorb any overflow.

The main takeaway from Cohen’s exercise was not the visual of a teeming ball of humanity, living in abject squalor and expanding outward at the speed of light from an overstressed globe. Instead, his point was that the carrying capacity of the Earth is a widely varying number that depends immensely on the mix of rich and poor, and how many resources would be considered “enough” for the average population. If everybody lived at the wealth and consumption level of Americans, well, the Earth can handle only about a billion. It’s tough, however, to pull away that 1-square-meter welcome mat and send 7 billion “Wish You Weren’t Here” postcards, so some adjustments to wealth expectations must occur. Not every one of 8+ billion can have their own olive tree, much less their own Lexus, if we’re going to stick to occupying just this one planet.

The lesson is strong for colleges playing the limbo game. In determining the minimum cost of an education whose costs must be recovered mainly through reluctantly yielded NTR, one of the hard questions is not just how to provide excellent professors, good libraries, and fast internet. More and more, students make attendance decisions based on what amount to lifestyle options. The question is not just What is the lowest cost for providing this education? We also must ask, because they do, What is the minimum standard of living to be provided? Will students come if our welcome mat is perceived as the amenities equivalent of one square meter of sand in Namibia? Monks used to study for many hours in low-light conditions, eating bread and stew, working to till the ground, and sleeping on hard beds. They saved civilization with their scholarship through the Dark Ages. But it seems unlikely that our prospective students will gravitate toward a monastic lifestyle.

College: The All-Inclusive Retirement Resort for Teenagers

Recently I heard college cynically described by a fellow Gen-X-er as “retirement for teenagers.” The trigger for this disparagement was the fact that, “when we were in school,” there was no Wi-Fi. There was no air conditioning in residence halls, and often not in classrooms. Most all the dorm rooms were doubles or triples with gang bathrooms, and hardly any of the modern suites/apartment-style housing was available beyond the upper echelons of senior halls. There was not a Counseling service, nor a Title IX office, nor security cameras, nor an IT department really. All of these things, and many more, have been added to the expectations, and therefore the costs, of a good education. Some of these amenities, the Lexus (Lexi?) to our Gen-X olive trees, have become standard parts of U.S. life, in or out of college. (I grew up without air conditioning, but am quite grateful for it now. Thank the Lord for Mr. Carrier.) But it is possible to do without them—in theory anyway. Maybe not in practice. (“This school doesn’t have a Starbucks? Seriously??”)

Speaking of practice, let us take Athletics, for instance. Clearly it is more expensive to recruit and educate an athlete than a non-athlete. Costs of fields, courts, lights, scoreboards, coaches, referees, road games, etc. mean that a school offering fewer sports spends less—sometimes very much less—per student than a school that offers more. (This is also true, say, of chemistry students over philosophy students, but on a smaller scale.) In spite of a race to add sports at many institutions in order to attract more students, often overlooked is the problem that the effective net of revenue less expenses per student for schools with high percentages of athletes is considerably reduced. But, especially for high school students who dream of prolonging their secondary sports successes, attending an institution without sports is unthinkable—and many wish to spectate at events even if they don’t plan to play: “It’s part of the college experience!” Never mind that the United States is one of the only nations in the world that attaches post-secondary sports to education—and even here it is not part of the experience for myriad part-time, commuter, and community college students. But we pretty much have to offer sports teams at most of our institutions, because everybody else is. (There are some colleges in the U.S. that do not offer varsity athletics, but not many; St. John’s College, of the Great Books curriculum, comes to mind. But such schools are as unusual as the platypus and as rare as the axolotl, St. John’s nominal mascots.)

The war of attrition with other schools for prospective students is real, and the battlefields are housing quality, locker rooms, turf and lights on athletic fields, food options, air conditioning, speedy Wi-Fi… These are often considered by would-be students as even more important and decisive for where they give their NTR dollars than how good their classroom instruction will be. Some of our students may not live at this standard again for decades after their college experience. "How low you can go" depends partly on the level of consumption.

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How to Fail in Business Without Really Trying

To stay afloat and carry out the institutional mission in a world of flat or declining NTR? Figure out how to limbo as low as possible on the cost of education. How to do that, if we also have climbing costs of “lifestyle amenities” in the mix (not to mention insurance, utilities, and many other costs inflating faster than we can grow NTR)? Ah, there’s the great puzzle of higher education finance in these parlous days. What can we cut out, if it’s not the A/C or the field turf, to keep Mr Micawber happy? Unfortunately, the fiscal Eye of Sauron often turns next to compensation…

As paying employees represents at least half of the typical institution’s expenses, an essential early budgeting how-low-can-you-go limbo determination will be the number of faculty and staff required to provide the right level of “educational amenities” ("education AND amenities"?) for our oft-fickle, not to say pampered, and perhaps shrinking student body. We refer to this as the student-faculty ratio (the student-staff ratio is of nearly equal importance). Our next edge-of-the-seat installment will attempt to address this question—not “How many people can the Earth support?” but “How many people do you really need on your payroll?”

Vincent Morris has spent more than 25 years winding up the cranks in various higher education administration and consulting roles. He currently serves as Vice President for Business Affairs at Hanover College, a small private liberal arts institution on the banks of the Ohio River in southern Indiana.