Can you afford that new charter school facility? (Part 1: Facility affordability tool)
Charter School Growth Fund Insights
Launching a network of high-quality public charter schools is the work of heroes. While educators get into “the work” to do amazing things for children and families, they are often surprised by how much time and energy is consumed with securing and financing facilities. This blog series is designed to help new school leaders navigate key issues, set their schools up for long-term success, and get back to the real work of creating world-class schools.
Securing a facility is so complicated that a seemingly simple question like “how much building can I afford?” can be difficult to answer.
The Charter School Growth Fund’s Facility Affordability Tool is a simple tool that gets school leaders 80% of the way towards that answer and, more importantly, helps them understand the impact of different tradeoffs to make the project work financially. Download the tool here.
A few caveats, a framework and some assumptions.
1. Caveat #1: this post is focused on young, growing charter school networks that are building and financing new facilities. However, the Facility Affordability Tool can be used by any network in a broad range of facility scenarios (i.e., build, renovate or lease). We generally advise schools to pursue multiple facilities and financing options and not become overly committed to any one solution or one partner too early in the process.
2. Caveat #2: what your school can afford is not necessarily what the school should spend. Every dollar that goes into the building is a dollar that comes out of the classroom. We believe it is financially responsible to be conservative when projecting future facilities costs. However, savvy networks look for opportunities to spend less than what they can afford, and, in some cases, spend more than what they can afford with the idea that, overall, the charter network is at or below its affordability threshold.
3. Framework: The Facility Affordability Tool is based on a simple premise. If recurring public revenues = 100%, there are three costs that must be paid from those funds: a) school program cost: the cost of running the school which includes teacher salaries, field trips, textbooks, etc.; b) home office fees: the fee schools pay to a central network staff to provide things like curriculum support, payroll and benefits, compliance services, etc.; and c) facilities cost: “mortgage” or lease expenses plus occupancy costs including utilities, maintenance, etc. Note: The tool only addresses mortgage and rent expenses when calculating affordability, but in the next paragraph you will see how to account for occupancy expenses.
4. As a rule of thumb, initially target an 18%-20% margin for facilities as a percent of public revenue. Let’s draw from the framework above to understand what 18–20% facilities margin means. After lots of school design work and community input, the school program comes in at 72% of public revenue. Assume for simplicity that each school in the network is charged a 10% home office fee. That leaves an 18% margin for facilities as a percent of public revenue (100% recurring public revenue — 72% school program cost — 10% home office fee = 18% margin for facilities). [Note: obviously the numbers NEVER EVER work this easily.] The actual required facilities margin (18% here) will vary based on geography, real estate market conditions, and school funding levels, but an 18% facilities margin allows of 6–8% of revenue pay for janitorial, insurance, utilities, maintenance, etc., leaving 10–12% to pay the mortgage. Again 10–12% is a ballpark, rule-of-thumb, but that should put the school “in play” for a variety of different financing options.
5. How much building you can afford is determined by how much debt you can take on which is determined by your facilities margin (i.e. the 10–12% above). Using the Facility Affordability Framework tool, a 500-student school with $10,700 of recurring public revenue per student and an 12% facilities margin can afford to pay AT MOST ~$640,000 a year towards facilities at full-enrollment. Assuming long-term bond financing with a 6% interest rate and 30-year amortization, this means the school can afford to service ~$8.5 million of debt in the long-term.
6. Most importantly, the Affordability Tool helps school leaders create different tradeoff scenarios. School leaders can see how changing class sizes might impact program cost, how different debt amortization periods can change facilities affordability, or whether adding the performing art center or the gymnasium to the project is affordable. As school leaders use the tool, it will become apparent that enrollment is one of the biggest drivers of affordability, and a school’s ability to reach enrollment targets is one of the areas lenders spend the most time evaluating.
7. A final caveat. Long-term affordability is NOT THE SAME as short-term affordability. Many charter schools will grow one grade at a time or do some other phase-in towards full enrollment. The Facility Affordability Tool looks at what the school can afford in the long-term at full enrollment. So schools need to find ways to avoid servicing debt on a 500-student building for several years while they are receiving public revenue for far fewer students. In the example listed in #5 above, if the school builds their $8.5M long-term home when they only have 375 students, they will need to raise an additional $160K in philanthropy to pay for the excess space in that first year.
The topic of short-term vs. long-term affordability is worthy of its own blog post, but schools use several strategies — each with its own pros and cons — to avoid paying for excess space and improve short-term affordability. The ideal situation in the early years is to only pay for the space you need (e.g., 125 students in year 1, 250 students in year 2, etc.). Using an incubator site in a leased public or private facility can help control costs in the short-term and ensure the school is at or near full-enrollment once it finances the long-term home for the school. Churches have historically been good partners with charter schools for incubation space. A second strategy is to do the construction in phases to more closely match financing costs with the number of students currently served. A third strategy (that should be combined with strategies #1 and #2) is to negotiate interest-only payments in the early years of the financing (i.e., deferring principal payments) to reduce the short-term cash burden on the school.
Go ahead and play around with the Facility Affordability Tool. You are already an education hero; this tool will help you discover that you don’t need to be a superhero to think smart about facilities.
OK, even Luke Skywalker needs his Yoda and Obi-Wan-Kenobi. Charter School Growth Fund’s Structured Finance team can help coach you on the tool and discuss your unique circumstances. We also have a $20 million Facility Fund for charter school networks in our portfolio that provides low-cost financing to help bridge schools to long-term financing solutions.