How can financing assist the current challenges independent schools face?

Posted: 21/09/2022

There are over 2,000 independent schools in the UK, and around 600,000 children who are educated at these schools each year - accounting for approximately 6.4% of the total number of school children in England.

The Bank of England has announced that the current inflation rate is at 10.1% (as of 17 August 2022) and, depending on which report you read, some forecasts are predicting a rise to more than 13%. As a result, independent school fees are continuing to rise due to, amongst other things, the increased cost of running the school, whether this is staffing costs, property costs or the cost of utilities.

At the same time, parents continue to expect high quality education and facilities for their children, especially in a competitive market where they are more and more having to balance the cost of school fees and the increased cost of living. The culmination of these factors is that there is greater pressure on independent schools.

As a result of these pressures, schools are regularly considering innovative projects to improve their offering and attract students. Such projects can be costly and one option available to schools is to fund them using debt.

How can you receive financing?

Once the school has made the decision to proceed with a project, it must consider the financial viability of the project and its ability to pay for this while maintaining its financial security. The independent school’s governors and bursar will need to consider the stages involved in obtaining financing and the type of funding that is best suited to the school and the project.

There are a number of financing options available, but the most common in the sector are:

• a term facility;
• a revolving credit facility; or
• a private placement.

Each of these are discussed in more detail below.

No matter what type of funding is deemed the most appropriate, the school, as the borrower,  and the lender will need to discuss and ultimately agree the terms of the loan. The key terms that should be agreed at this stage include:

• the total loan amount;
• repayment dates;
• margin;
• arrangement and other fees;
• financial covenants;
• any construction requirements, where relevant; and
• security requirements.

These will form the basis for the lender’s solicitors to draft the necessary documents facilitating the loan and will also inform the negotiations throughout the process so it is important to be as thorough as possible. This ensures that the documentation reflects what has been discussed and limits the negotiation - and therefore the costs - needed to reach an agreed form of the finance documents.

The cost of the loan to the borrower will often depend on the lender’s availability and cost of funds, and the risk profile that the lender ascribes to the project and/or the borrower.

Term loan facility v revolving credit facility v private placement

While each transaction is unique, there are certain circumstances where one type of facility may be more appropriate. Some of the key characteristics of each type of facility are set out below:

Term loan
A term loan is a versatile option and could be used for funding a number of projects, including redeveloping property, refinancing or purchasing large assets. It can be useful where, for example, a school is building a new sports facility or rejuvenating a particular building.

This type of loan provides the borrower with a specified loan amount over a fixed period of time in line with certain terms and conditions usually stated within the initial term sheet. The loan may be drawn in one drawdown, or it may allow for numerous drawdowns during the term. Funding of this kind provides the borrower with a fixed repayment schedule plus interest, which can be repaid in a number of different ways. Once a loan has been repaid it is not available to be re-drawn.

If a school is using the term loan for the construction of property, the lender is likely to require the project monitor’s appointment to oversee the construction and provide regular reports to the lender, at the borrower’s cost.

Furthermore, at the initial stages of considering a term loan, the purpose must be clarified, ie whether it is for a property project or refinancing etc. A bank will adjust its margin based on the expected return on the loan provided, and also consider the risk associated with the loan. Often, larger scale financing projects will be considered higher risk and as such banks may increase their margin.

Revolving credit facility
A different type of funding is a revolving credit facility. This allows independent schools to borrow up to a certain amount at any one time, repay this and subsequently reborrow these funds, in line with the conditions and requirements set out in the agreement. Typically, revolving credit facilities can assist schools with cash flow, cover any unforeseeable damages and can also be used for ongoing projects that may take place over a longer period of time.

The key benefits of a revolving credit facility are that the funds are readily available and easily accessible. However, it is important to consider the purpose of the revolving credit facility before entering into the agreement, as there are often higher fees - for example, a non-utilisation fee based on the amount that is available but undrawn.

Private placement
A third type of funding that may be considered by schools is private placement. This involves schools providing an investor, or a select few investors, with notes in return for capital. A note purchase agreement - rather than a facility agreement, which is used in the finance options above - will set out the terms on which the investment is offered to the investors and will include the terms set out above.

The benefit of a private placement is that it is likely to be longer term financing, often lasting between 30 and 40 years. As such, schools are able to manage the investment over a greater time period and can use the funding for multiple projects, including, for example, a larger regeneration project.

In addition, private placements will often include lower interest rates (regularly these are linked to the cost of GILTs), making them more affordable. However, the school will have a long term debt, and this may not always be suitable where the project requires only a small amount of financing. Private placement can also be more difficult to ‘break’ than other financing.

Conclusion

Consider the purpose for financing in the first instance as this will inform the most appropriate financing method. Each of the outlined approaches can be used to assist independent schools in overcoming their current challenges. If conversations begin as early as possible in the process, then an open and frank discussion can be had.

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