Planning and Budgeting Post COVID-19

When the COVID-19 pandemic hit the United States, most higher education institutions were well into their budgeting processes for the next academic year (2020-21). The pandemic, our collective responses to it so far, and the changes we will continue to make are causing institutions to step back and reassess their plans and budgets. In many cases, this means rolling back to the beginning of the process. COVID-19 has introduced two key uncertainties that will impact the budget—students and money. In the case of money, the key question is how much will there be? In the case of students, there are two questions: how many will there be, and will they be resident on campus or attending remotely?

If schools are unable to return to on-campus classroom learning, some students may decide that online classes are not worth the tuition price they have been paying and may choose a less expensive alternative.

No school expects to have more money or more students this coming fall than they had a year ago. A recent survey (ABC-Insights/AAC&U, April 3, 2020) found that 70% of college presidents expect a revenue decline of at least 10% next year. Some students may decide not to return to campus due to changes in family finances or a desire to stay closer to home. It has been suggested that many prospective freshmen are rethinking their plans, and some may opt for a gap year before starting college. International students on U.S. campuses will be far fewer in number than they have been in past years. We know that many schools are looking at the possibility of remaining online, at least for the fall semester. If schools are unable to return to on-campus classroom learning, some students may decide that online classes are not worth the tuition price they have been paying and may choose a less expensive alternative. The number of enrolled students, whether they will study in a classroom, online, or in some combination, and whether they will reside on campus or not are all in question. Schools need to consider anywhere from a modest enrollment decline (say 2-5%) to a significant decline (25% or more) as they think about this coming fall.

The number of students enrolled and where they are living both have obvious impacts on a school’s revenue. Fewer enrolled students means less tuition, but it also means less room and board fees, etc. Many students’ families have been hurt financially by declines in securities markets and the huge increase in unemployment, and their ability to pay tuition, etc. will be lower. Other revenue sources will also be affected by recent events as we see a replay of the situation we had in the Great Recession (2008-2009). School endowments have decreased in value, and the draw of endowment income will be less. Wealthy alumni and friends are not feeling as wealthy as before; consequently, philanthropic gifts will likely be smaller. Finally, state budgets have been hard hit by the Covid-19 pandemic, unemployment, etc., and state aid to higher education institutions will decrease. Each institution will need to look at its unique set of revenue sources to assess what the impact on it might be. Anywhere from a 5% to a 50% decrease could be possible, and this will translate into budget cuts.

With all this uncertainty, how can a school plan and adopt a budget for next year? The budget—and the budgeting process—cannot be what most institutions typically do year after year, i.e., make small, incremental changes to last year’s budget with perhaps the addition of a few new initiatives. Budgeting at this time must be a deliberate process in which all activities are carefully reviewed and significant changes—both additions and reductions—are considered. Let me offer a few perspectives that will facilitate an effective budget planning process in the face of great uncertainty.

Budgeting must be strategic

The budgeting process must be strategic, not tactical. It may be tempting to make easy changes—e.g., across the board percentage cuts—and adopt a budget that will make ends meet. That may solve the immediate problem, but it does nothing to support the institution’s long-run health. Likewise, small incremental changes from the current plan and budget (muddling through) will not be effective for maintaining the institution’s long-range health and survival.

Start by estimating revenue

It makes little sense to plan activities and budget expenditures without considering how much you will have available to spend. Most institutions are expected to operate with a balanced budget (cash flow neutral). We generally have more direct control on the expenditure side than we have on the revenue side. In the current uncertain environment, it may be very difficult to predict revenue with much certainty. In a previous post, we talked about the value of scenario planning. This is a particularly important tool in the current situation. Each school must develop multiple scenarios reflecting the range of potential outcomes—plan for the worst but hope for the best. A school’s scenarios should cover a considerable range of enrolled students and income streams—auxiliaries, endowment income, gifts, grants, government support, etc. It would not be unusual to have a 25% or larger difference in revenue between the most optimistic and the most pessimistic scenarios. In the current situation, two typical scenarios might be:
a moderate impact scenario where total revenues are down by 10%, total enrollment is down by 15% primarily due to a smaller freshman class and fewer international graduate students, and most students are resident on campus though 20% of all courses will be taught online, and
a high impact scenario where total revenue is down by 35%, total enrollment is down by 25%, and all courses must be taught online.

Carefully review all programs and activities

In developing the budget, there can be no sacred cows. All activities—curricular, co-curricular, and administrative—need to be reviewed as part of the process. Given the current situation, reductions will be necessary, and these reductions must be considered in all areas. We note again, the reductions should not be across the board percentage (or fixed dollar) cuts. Institutions often attempt to address budget reductions, especially small reductions, with across the board cuts. If we expect total revenues to be down by 10%, we will ask all units to cut their expenditures by 10%. This seems to be a fair and equitable way to do things as everyone shares the pain equally. However, it is always wrong. Across the board cuts are a mechanism for avoiding difficult decisions, the types of decisions leaders must make in difficult times. Across the board cuts treat marginal and failing programs and activities the same as the most critical and successful activities. We should be willing to make significant cuts in some areas while maintaining or even building others.

Understand the role played by each program and activity

It is important to be clear about the role each program and activity plays in achieving the school’s mission. Is the program, course, or activity mission-critical or not? Is the program/course/activity unique to your institution, or do you do it in a unique way? Is this something central to the institution’s identity and mission, or is it something that is nice to have but not truly necessary. If the institution has a comprehensive plan in place, it should be easier to recognize and differentiate core from peripheral programs and activities. If there is no comprehensive plan, there is not likely time to develop one before decisions must be made about next year’s budget, and some quick decisions about critical vs. less critical activities must be taken. Recent years have seen growth in all areas—curricular, co-curricular, and administrative—and there are no doubt places where cuts could be made without a severe impact on service delivery. In a recent conversation with a university president, I asked why they continued to offer 160 different undergraduate programs to their undergraduate population of 4,500 students (yes, one degree program for every 28 students). The answer was that every program was someone’s “pet,” and they didn’t want to kill any pet while the “parent” was still on the faculty. It is not likely that all those programs are mission-critical. In truth, there are always some programs that need to be ended and some activities that should be reduced; and, there are programs and activities that should be grown or added, whatever the condition of the budget. Understanding what programs and activities are mission-critical is important in a moderate budget reduction scenario and crucial in a high impact scenario when eliminating programs and activities is almost certain to be necessary.

Base decisions on a clear understanding of revenues, costs, and returns

A clear understanding of the revenues and costs associated with programs and activities is crucial for making informed decisions. Most institutions claim they understand their revenues and costs, but few truly do. Consider an academic program. The department chair—and perhaps the provost—would likely say the program revenue is equal to the number of student credit hours taught multiplied by the tuition charge per credit hour. This, however, fails to account for discounting, e.g., institutionally supported financial aid. Program revenue needs to be calculated based on the actual net tuition revenue collected from the students in the program. If we want to project program revenue beyond a single year, we must also take account of attrition—not every student that enters the program will remain for the duration. Estimating revenue for academic programs requires significant care. For co-curricular programs and administrative activities, the difficulty of estimating revenues ranges widely, and in many cases, there is no direct revenue.

Determining the cost of a program or activity is perhaps more difficult than determining revenue. The cost of any activity—academic or administrative—includes both direct and indirect components. The direct costs of a course or academic program include the cost of faculty teaching (salary, benefits, etc.), teaching assistants, cost of using special equipment or laboratories, etc. Indirect costs include a portion of the cost of academic leadership (e.g., the department head’s, dean’s, and provost’s salaries), support services, and facilities maintenance. Determining just what costs should be applied to a program can be tricky; is the cost of teaching based on the salary of the senior professor who currently is teaching the course, or should it be based on the average salary of faculty in the department? Different views of cost are appropriate for different decisions. For a one-time decision on whether to offer a course next year or not, you might focus on the actual direct costs that could be avoided (or would be added), e.g., the salary of the adjunct who would teach it. For a longer-term decision about dropping a program, you would more likely consider a typical faculty member’s salary, etc. as well as the cost of any support activities that might be avoided in the long run. Determining costs requires estimates and projections. They may not be precisely accurate, but these are important considerations for meaningful decision making.

For activities with identifiable revenues and costs—e.g., academic programs, housing, dining—we can calculate a “bottom line,” a net surplus or deficit, which should be a factor in the planning and budgeting process. For other activities that generate no revenue—e.g., academic advising, campus police—it is often helpful to benchmark the cost and level of service against those at other similar institutions.

Understand your markets

In considering academic programs—and some other activities—it is important to understand the market. Is the program growing, holding steady, or shrinking? What is the potential for growth (or decline)? Not every program has a market that is financially sustainable, and the markets for programs change over time. It does not make sense to continue investing in programs that are and will likely always be net cash drains unless there are compelling externalities. Looking at the recent experience of many business schools provides a good illustration. For many years starting in the 1970s, the full-time MBA program was the mainstay of many schools—the flagship program and a solid contributor to the institution’s financial health. In the past ten years, that has changed completely. Recruiting students became increasingly difficult and expensive; annual class intake declined; and, the former cash cow became a net deficit operation. In addition, future enrollment prospects were not promising. As a result, many business schools have dropped the full-time MBA. At the same time, specialized masters programs, a rarity twenty years ago, have become the mainstay for many schools. Understanding the current and prospective future markets for each program is an important input to the planning and budgeting process.

Putting it all together in an open and inclusive process

All of these factors—the role played by each program and activity, the economics of the program or activity, and the status and dynamics of the market—need to be considered together for a meaningful planning and budgeting process. Pulling it all together makes the process quite complex and often not intuitive, as interactions among programs and activities can have unintended consequences. In a future post, we will discuss the role of modeling, especially dynamic systems modeling, as an important tool to support such decision making.

The planning and budgeting process needs to be open and inclusive, engaging a broad range of stakeholders—faculty and staff leadership, senior administrators, student leadership, board members, and alumni. In state institutions, it may also be appropriate to include certain community and government officials, especially when major changes must be considered.

Planning and budgeting at times when the institution faces major challenges are critically important. It should be grounded in a clear vision of the institution’s mission and distinctiveness, and based on a solid understanding of revenues, costs, and markets, as these should guide the difficult decision making about what to support, what to grow, and what to eliminate.

This is part of a series of blog posts meant to outline strategies for dealing with the mid-term and long-term implications of the Coronavirus crisis and our changing higher education environment. Let us know what questions and challenges you have about the future either by leaving a comment below or by contacting our principal consultants directly.

Our next blog will focus on regional public universities in the post-COVID-19 world: