Declaring financial exigency has always been an action of last resort in higher education and rarely used. Yet, how does an administration or Board of Trustees know if an institution needs to declare financial exigency or if they are getting close? The Zone of Exigency is the point where an institution evaluates its ability to remain viable. Trustees and administrations must understand that once an institution has entered the Zone of Exigency, they must make the necessary changes to mitigate the impact of the financial challenges to survive or else be left with no choice but to declare exigency. It is at this point, that restructuring decisions will allow the institution to survive and thrive in the future.
The American Association of University Professors (AAUP) states in Regulation 4(c) that financial exigency should only be declared when the institution is in an “imminent financial crisis which threatens the survival of the institution as a whole.” The key notion of exigency is that survival of the “whole” must be at stake. But in a COVID-19 world, with so many future unknowns, how does a higher education institution determine if its survival as a whole is at risk?
The administration and trustees owe it to their stakeholders to be prepared and some of the critical questions that need to be asked to make that determination include:
- Will new and current students enroll in the coming year?
- Will international students receive student visas and/or be able to travel?
- Will contributions be reduced and, if so, to what extent?
- What happens if an outbreak of COVID-19 re-occurs after students return to school in the fall?
- What cost reduction efforts can be implemented to offset the loss of revenue?
A key indicator of the Zone of Exigency is whether the institution has the funds necessary to cover all projected current liabilities for operations through a projected teach-out contingent liability. Of course, an institution’s immediate concern is the ability to meet all obligations in the upcoming year and these are not solely focused on operating expenses (current liabilities). It also includes financial requirements that could result from an inability to continue (contingent liabilities), i.e., a teach-out scenario or Title IV Letter of Credit requirement. Schools have an obligation to ensure that every student is provided the opportunity to complete a degree once they enroll as well as comply with all government reporting regulations. If the institution is forced to shut down, the current students must be provided transfer opportunities or the ability to complete course work.
Leadership needs to understand costs and compliant ramifications by preparing a teach-out budget to fully appreciate the cash required to fulfill current obligations and also meet projected Federal Compliance Requirements. In addition, a full review of the endowment is essential due to the fact that a high percentage of endowment funds are restricted and do not allow for general obligation utilization or for use in a wind-down.
Once an institution approaches the Zone of Exigency, constant engagement and discussions between the trustees and administration must be a priority. Trustees have the responsibility to ensure that all remedies and options are considered for improving financial viability; status quo is not an option. Yet, they also have the responsibility to ensure that the institution is acting in the interest of all stakeholders. Having an engaged Board of Trustees will assist the administration in making decisions for the benefit of all involved.
Leadership will also need to understand that the Zone of Exigency is a challenging time when resources are limited. It is critical that all parties involved recognize the difficult organizational and cost reduction decisions that must be made to help reach economic stability. It is highly recommended that leadership identify engage a professional advisory firm that can work as a conduit between all stakeholders and has the experience to help identify and manage these decisions and ensure a higher level of success.
In the Zone of Exigency, time is not your ally and waiting to see what happens is not an option. Limited resources for evaluating numerous scenarios will delay decisions with what precious little time is left. Schools should take the opportunity now to understand what the Zone of Exigency is and act and implement change to ensure the future of your institution.
Steven Agran is a managing director at Carl Marks Advisors, a New York-based investment banking and advisory firm, where he leads the firm’s higher education practice. Agran has deep experience providing turnaround and interim management services to companies and over the course of his 20+ year career has provided financial and operational advisory services to boards of directors. He can be reached at [email protected].