13 August 2020
There is a strong argument that private education has no place in impact investing. The reality is a lot more complicated, says UBP's Eli Koen
Does private education generate positive impact? There is a strong argument for saying that private education has no place in impact investing because education is a basic public good that should be freely accessible to all. As always, however, the reality is a lot more complicated: there is actually a strong case for impact investing to support private education in certain circumstances, particularly in developing countries.
Perhaps the best way to look at the issues involved is to take Brazil as an example. In Brazil, public spending on education as a proportion of GDP is similar to that of many OECD countries. However, out of this education budget, only 21% is spent on basic education. The largest share (43%) goes to fund tertiary education. In an already unequal country, this fuels further inequality since only 20% of public university students come from the lowest 40% income segment, while 65% come from the highest 40% income segment.
There is a strong case for impact investing to support private education in certain circumstances, particularly in developing countries
In contrast, 60% of basic education spending goes to support the lowest 40% income segment. This would suggest that the most efficient way to support lower income segments in education is to shift public spending towards basic education.
To compound the inequality, Brazil (together with Chile, Colombia, Mexico and Turkey) is one of the countries where higher education adds the most value. Not only does it significantly enhance the employment prospects of the Brazilians who have it – leading to a difference in the unemployment rate of up to 5 percentage points – but it also adds a salary premium of 115% on average, compared with 57% in the US and 50% in the OECD.
This system means that, on average, low-income students get a low-quality basic education, which makes them unable to get a place in the competitive public universities, which then significantly reduces their chances of getting decent employment opportunities and providing a good education for their own children.
This vicious circle of poverty, lack of higher education and unemployment could be alleviated by private tertiary education: this would free up state resources to increase the quality of basic education, helping to level the playing field.
To take another example, in Peru, more than 70% of the country's 1.5 million higher-education students attend private institutions compared with one third in 1985. Part of the reason is the limited enrolment capacity of the public education system. The main public university in Peru accepts only 8% of applicants every year. After high school, many students attend academias, expensive preparatory schools to help them pass the competitive public university entrance exam. For students who do not have the resources to prepare for those exams or who do not get into public universities, the private sector provides an important alternative.
Private tertiary education in Brazil would free up state resources to increase the quality of basic education, helping to level the playing field
Even if one takes the view that private education has a role to play, this does not mean that every private education company generates positive impact. There are various stock-market-listed education companies specialising in a wide range of activities including basic education, universities, vocational schools, after-school tutoring, exam preparation, distance learning and content creation.
Some of these activities are unsuitable for an impact strategy. For example, after-school tutoring and exam preparation not only increase income-based barriers to quality education, but also put undue competitive pressure on young children.
Affordability is another important impact filter. Distance-learning platforms and the content they host are technology-enabled affordability drivers. There are also many private education companies that offer cost-effective solutions to a wide range of people.
Some activities are unsuitable for an impact strategy: for example, after-school tutoring and exam preparation
For example, Laureate Education is a US-listed company offering education services to almost 900,000 students across Latin America. It is a Public Benefit Corporation, which means that, alongside a company's traditional role of generating profits for shareholders, public benefit is one of its charter purposes.
46% of students on average at Laureate institutions come from traditionally underserved groups such as first-generation, low-income minorities and returning adults. The company granted $750 million of scholarships and discounts to students in 2018. This is a significant amount for a company with revenue of $3.3bn that same year. Laureate is not the only example: there is a long list of publicly investable companies in Brazil, South Africa and China that play similar roles.
An important step in the investment process is to hold interviews with management, to evaluate their commitment to providing affordable, high-quality education. Companies are naturally expected to generate financial returns, but this must be driven by a focus on affordability and quality. Sometimes, even if a company ticks all the right boxes on paper, management may be focusing too much on making money and not enough on quality. This is a red flag, not just from an impact point of view but also because a successful education company cannot be built without a relentless focus on quality. Once that has been achieved, financial returns are likely to follow given the nearly endless demand for affordable quality education.
Carefully selected private education companies are among those that best fulfil the twin objectives of impact investing, i.e. financial returns and positive impact, producing good results both for society and their investors.
Eli Koen is portfolio manager of emerging markets equities at Union Bancaire Privée