K-12 EdTech: Rethinking The Business Model
Background
Broadly speaking, education technology (“EdTech”) is software or technology that enables the process of learning or teaching content. EdTech can be anything from online tools for teachers to math games to iPads in the classroom. We will be focusing on EdTech solutions targeting K-12 schools, specifically public schools.
Most K-12 market players target public schools as their primary consumer (as opposed to private schools) for a few reasons:
a) Public schools are more centralized, and are divided into school districts which hold tens of thousands of students. Meaning a business will have to focus its efforts on a handful of individuals to tap into tens of thousands of students, therefore leading to a lower customer-acquisition-cost on a per student basis. Whereas private schools are more scattered, and are divided into individual schools holding only a few hundred students on each campus (87% of private schools in the US hold fewer than 300 students) making it much more difficult for companies to scale.
b) Public schools represent a market that is significantly larger than private schools. Only 25% of all primary and secondary schools are private (including charter schools). Of the 54.9M students enrolled in K-12 programs across the United States, only 7.8M attend private schools. Evaluating the market opportunity on a per-student basis makes it clear why companies choose to target public schools. Furthermore, public K-12 expenditures were approximately $634B in 2014 alone, and Private K-12 revenues were roughly $69B in 2017. This illustrates the scale of public versus private schools and why one market is deemed more attractive than the other. However, these numbers represent a large market by any metric.
The US market size for EdTech was estimated to be $8.4B in 2014, which should reinforce the notion it is an attractive market and we should expect high growth from its players. Initially, one would look at the EdTech Index to find a mean growth of 19% from 2017–18E. However, when looking closely at the components of the index you will find those numbers largely driven by Higher Ed Tech ($TWOU, $CHGG, $INST), with the only K-12 public school player being “K12” ($LRN) exhibiting a historical growth rate of 1% from 2016–2017, and projected to grow at 4% from 2017–2018. When discussing with investors and management teams of K-12 EdTech platforms, one will find a recurring theme where most struggle to reach similar growth rates.
With such a large theoretical user base in the United States coupled with the fact only 2% of education is digitized, one would expect meteoric growth for players in the K-12 EdTech industry. That point is further brought into question when factoring in that education is considered a necessity good that has not been commoditized, meaning service providers have room to differentiate themselves among competitors which would allow for higher profit margins.
So then what went wrong? The answer is companies have been selling to the wrong buyer all along.
Schools: The Ideal Buyer To Avoid
Is it a TAM problem or a business model problem?
Despite hundreds of billions of expenditures each year, EdTech has struggled to find a home within the public education system. Schools aren’t exactly known to be early adopters of new technology; if anything they have been known to be the opposite. That is largely driven by three factors: budget, risk and bureaucracy.
Budget: Schools are often operating on incredibly tight budgets due to recessionary cost cutting measures combined with increasing student enrollments. Significant tax cuts at the state and local level have led to lower expenditures on schools. Between Q3 2008 and Q3 2016 the number of students enrolled increased by 1.1M yet over the same time period 240,000 education jobs were lost. The reality is federal funding only comprises ~10% of spending, with ~90% of funding coming from localities and states; both of which have kept education spending stagnant despite a growing number of students, therefore leading to a decrease in spending per student.
Risk: The last thing a school with no funding wants to do is take a gamble with its students’ future. The education system’s aversion to risk (largely driven by fear of backlash, the unknown and further budget cuts) has led to the rejection of educational reform and instead, reverting to the classic method of teaching despite its outdated nature and obvious shortcomings. The truth is society and incoming generations are changing at a faster rate than the education system could handle, and there is no way for the bureaucratic system to keep up.
Bureaucracy: Bogged down by decades of legislation, one conception about the education system is bureaucracy acts as the first and foremost inhibitor to growth. Between 1992 and 2014 the number of students has increased by 97%, while the number of support staff (mainly in charge of paperwork, reporting, filing, etc.) increased by 517% — over four times as much. That has a double-effect on schools: first, it reinforces the bureaucratic nature of the school system, making procedures much more complex and orders difficult to approve; second, it allocates a higher percentage of funds towards managing administrative work as opposed to increasing pay for teachers or reducing the teacher to student ratio. If anything, bureaucracy has expanded over time and schools are burdened with more red tape than ever.
So then if schools aren’t exactly the best target customer, how is EdTech expected to reach students at scale?
Introducing The Parent Premium Model
What if companies re-modeled their go-to-market strategy to instead approach a much more visionary buyer who also has power to make change: parents. All of the inhibitors of early EdTech adoption stated above only apply to educational institutions, but what about parents?
The Parent Premium model means companies could provide their services to schools for free, be it a Learning Management System, Online Content, or Assessments solution, and monetize the student data from the parental side by providing additional features, like supplemental education or even parental engagement solutions. A teacher could use the program to manage the classroom, take attendance, create a calendar, grade and track student progress; while parents will be offered supplemental solutions that could improve a child’s performance in math through the same program. Another valuable feature would be more transparency into the child’s performance. Rather than receiving quarterly report cards parents could follow the student’s grades in real time and intervene before its too late.
The Parent Premium model bypasses the main factors that prevent schools from adopting novel technology (Budget, Risk, Bureaucracy). By providing the solution to schools for free, teachers are able to independently adopt a product and avoid going through complex processes to get their product paid for. Delivering a product at no cost to teachers that could improve their classroom experience is an incredible value proposition. Teachers will not feel the need to force the product on their own classroom, and could easily discontinue if they are unhappy with the product. Reducing the risk of backlash also reduces the barrier to adoption for teachers.
It is much easier to sell an education solution to a parent than to a school. Parents often look for ways to improve their child’s performance, possess a higher risk tolerance than schools, have a flexible budget, and carry virtually no bureaucracy.
Unsatisfied with the existing education system, parents are much more willing to try a new product if they see the potential value. A survey by Education Post stated 61% of parents indicated their child’s public school “needs to get better” while 73% of parents indicated they are worried that the education their child is receiving is not preparing them for the future in today’s world. This exhibits a market need for an improved education system be it through EdTech or other methods. Parents who are dissatisfied with an educational system are more likely to look for ways to fix it on their own. However, even if parents would like to improve education for their children, do they represent a large enough market?
Parent budgets for child education are much more flexible and are not set in stone like school districts. The market for parent-paid solutions is large and has significant room for growth. According to HSBC, the average parent in the US spends $58,464 on their child’s education from primary school to university. The average US parent spends $33,125 on their child’s undergraduate tuition, which leaves $25,339 for K-12 studies. Multiplying $25,339 by 54.9M students across the United States we find parent expenditures on children’s K-12 education represents a $1,391B total market over the span of 12 years. Dividing $1,391B by 12 yields an annual market of $116B. Although a TAM of $116B is significantly lower than the $634B found in annual public school expenditures (less than one fifth), it still represents a very large market to conquer.
Users First, Profits Second
Carrying exclusive data on the child’s education, performance and activities is incredibly valuable to not just parents, but to the school district, third party curriculum providers, and many other stakeholders. It is crucial to note the ‘users first’ approach to strategy has been found to be incredibly rewarding in the long term. Although this may require significant financing upfront and may not be monetized immediately, the ‘users first’ model has been proven to pay off for some of the largest players in tech today.
The users first model realizes that data in itself is valuable, and although a company may incur hosting costs to provide the service for free, it is still receiving valuable “goods” in return. Encouraging user engagement before profits was one of the differentiating features that set apart Facebook, Google, Snapchat and even Amazon from the rest. They invested in a company’s long term growth strategy by attracting users first, constantly engaging them and then finding the best way to monetize the user base. The Parent Premium model applies the same mentality to EdTech, by concentrating on gaining users and increasing user engagement; companies are able to then use the data to attract parties interested in that information.
Unlike Facebook and Snapchat, the Parent Premium model allows companies to begin realizing a profit immediately, since they do not need to reach a critical mass in order to provide value. Sometimes finding the best revenue source for a product is half the battle.
Disadvantages and Limitations
No business model is perfect, and rethinking a go-to-market strategy will always mean there will be trade-offs.
Concern: Utilizing a bottoms-up approach to sales eliminates one of the core advantages of selling to a centralized institution. Rather than accessing thousands of students through one superintendent, companies will have to rethink their sales strategy by selling to teachers who only manage a hundred students at most.
Mitigant: It is still possible to maintain low customer acquisition cost per student. The Parent Premium model allows companies to utilize two parallel go-to-market strategies, a bottoms-up approach (starting with teachers and working from classrooms up to the superintendent), or a top-down approach (starting with the superintendents to encourage an entire school district to use the solution). It’s important to note a district is much more likely to adopt a solution if it does not require funding and if a significant portion of teachers are already using the solution.
Concern: Not all parents will necessarily purchase a solution just because their child is using it.
Mitigant: Although not 100% of parents may purchase the solution, the business model can still remain profitable for three reasons: 1) the cost of a free student is still very low and can be easily offset by parents who choose to buy the solution, 2) data on student performance can prove to be valuable in many other ways such as integrating with third party applications (i.e. curricula used by teachers to customize the learning experience). Furthermore, when compared to a solution that is forced to be implemented district-wide, not all teachers will necessarily use the product in their classrooms. Although companies may be receiving revenue for the product in the short term, it is not feasible in the long term if teachers and students aren’t actually using the product.
Concern: If all EdTech solutions decide to adopt the Parent Premium model, then parents will be overrun with subscription bills.
Mitigant: Parents have always purchased supplemental solutions for their children ranging from books and backpacks to tutors and after school clubs. In addition, it is very typical for a household to manage multiple subscriptions a month (think Amazon Prime, Netflix, Hulu, Gyms, Cable, etc.), so a product deemed necessary for their child’s education will not be seen as atypical.
Next: Not All TAMs are Created Equal
Earlier I mentioned one of the reasons most K-12 EdTech players target public schools is due to its significantly larger TAM. But is that the right way to think about choosing the right market? Short answer is no, which brings me to my next topic: “Are all TAMs created equal?”. With all those discussions around the size of a market, shouldn’t we be taking the time to dissect the qualitative aspects of addressable markets too?
Stay tuned.
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