The working consensus among prep school governors and management is that many more prep schools will have to merge if they are to survive the next two to three years.
The reason, of course, is the impact on school pupil numbers if and when VAT is applied to fees. A substantial flight from independent education with an inflexible cost base would render many prep schools unsustainable.
At the same time, current and prospective prep school parents are considering what a 20% hike on school fees in 2024/25 means for them. And what it means not only for the viability, but the character of their prep school.
In this article I’ll discuss why prep schools merge or close, historical M&A patterns, and how different partners might affect the prep school.
How many prep schools are closing?
Ordinarily, as a measure of the pre-VAT status quo, an average of 19 prep schools have closed every year from 2014 to (Nov) 2023. Year to year variation is up to four or five from the mean. The numbers exclude the more volatile non-mainstream prep schools and the more fundamentalist faith schools.
![Prep school closures](https://www.schoolsmith.co.uk/wp-content/uploads/2023/11/Prep-school-closures.jpg)
Importantly, the rate of school closure has been constant over that period. There is no trend to suggest that more prep schools are closing today compared to ten years ago.
Things may look different after a 20% fee hike, but history tells us to expect 19 plus or minus five prep school closures a year.
Why are prep schools closing?
Ultimately, it’s basic business economics. Declining numbers of pupils not covered by fee increases eventually leading to sustained losses. Schools have high levels of fixed costs which are inherently difficult to adjust.
Sometimes the causes are long term such as demographic changes, or softening demand for boarding places, a single sex environment or a faith-based pedagogy. There may be stiff competition from high performing state schools and other preps. Often the value proposition of a prep school education isn’t clear to parents. A ‘nice-to-have’ is dispensable when budgets tighten.
As well as long term trends, there are also unforeseen shocks. COVID, for example, which undermined smaller boarding schools. COVID and Brexit hurt schools in south-west London reliant on ex-pat foreign nationals. Senior schools admitting pupils from age 11 (or younger) has compromised the business model for prep schools teaching to age 13.
The oversupply of prep schools that used to be a particular feature of the north and west of the country, is now apparent in parts of the south-east.
How many prep schools merge or are acquired?
Closing a school is a last resort, so governors will explore a merger to maintain the school as a going concern. Most mergers are defensive for one party at least, but there are exceptions. An investor may view a school as a strong performer that, with investment, could increase its dominance.
Surprisingly, only 33% of mainstream prep schools are truly ‘standalone’ or independent of a senior school or school group. These are the 350 or so that are potential candidates for a merger. And from a parental perspective, these are the ones whose character may change over the short to medium term if they do.
![Prep schools ownership](https://www.schoolsmith.co.uk/wp-content/uploads/2023/11/Prep-schools-ownership.jpg)
Outside this group are the 52% of prep schools are junior departments or part of the same ’family’ as a senior school. 28% are part of a larger group, charitable or for-profit. The overlap between them is 13% of schools. If financial stability is high on your wish list for a prep school, then these 67% have done all they can as preps.
Prep school merger trends
Between 2014 and (Nov) 2023, 120 prep schools have merged with senior schools or for-profit groups of schools. I have excluded the buying and selling of previously merged schools between groups. In other words, an average of 12 merging preps per year is the norm.
![Prep school mergers and aquisitions](https://www.schoolsmith.co.uk/wp-content/uploads/2023/11/Prep-school-mergers-and-aquisitions.jpg)
Interesting to note that in the last 10 years 58% more prep schools have closed than have merged.
The merge trend, though, is different to the closure trend. The number of mergers is increasing from an average of six per year at the beginning of the period to 16 per year in the later years. The peak was 23 prep schools in 2021.
There is another trend. Whereas private groups dominated merger activity over the first half of the period, latterly their involvement has plateaued or even tapered. The cost of raising and servicing debt capital could be a contributing factor. Over the last three years, senior schools have accounted for the majority of prep mergers.
How do mergers affect the character of the school?
There are four main types of prep school merger; prep with another prep school, prep with senior school, prep with a local benefactor and prep with a group of schools. The character of the prep school might change differently under each scenario.
Merger with another prep school
The first is a merger of two prep schools. The schools are local to each other, with a similar catchment. This merger is about reducing costs; in particular back office and economies of purchasing scale.
More efficient teaching ratios can also lead to rationalisation of the teaching resource. If your prep school has a local competitor and both are struggling with pupil numbers, such a merger is a distinct possibility. Furthermore, to release funds for cash flow, or even investment, it is common for the schools to combine on one of the party’s sites and sell the other.
Merger a with senior school
The second is a merger between a prep and a senior school. The prep is often a feeder to the senior school, to a greater or lesser degree.
For the senior school there is the opportunity to secure and bolster the feeder relationship.
For the prep school, the rationale is access to investment funds, working capital security and purchasing economies. The prep school can also boost its selling proposition through access to more extensive facilities, specialist teaching resources, guaranteed pupil progression to the senior school, and, not least, the brand.
This is often the most popular merger for parents of prep children, albeit at the potential expense of a narrower choice of destination school in Year 6 or 8.
Acquisition by a local benefactor
Sometimes the acquirer is a local benefactor, a high net worth individual with a connection to the school or the area. Equally the buyer could be a group of parents or alumni. Often an altruistic purchase, the benefactor’s interest is to keep the school going, perhaps with better budget control. It is the least interventionist merger, and the one most likely to preserve the school’s existing character.
More popular before the turn of the millennium, they account for very few prep mergers in recent times.
Merger with a group of schools
The fourth, and most varied, is the merger of a prep school with a company with a portfolio of schools, sometimes a charitable trust, more commonly a for-profit enterprise.
As well as scale back-office and support functions, the attraction of the schools group is access to development funds. It can be the first preference for prep school management in the hope of a high degree of autonomy post-merger.
Subsequent autonomy varies by acquirer, however. Some groups empower the senior leadership team, others are much more template driven. They all have different strategies. There are private groups of schools for High Net Worths, some for international pupils, others for schools that promote social mobility. Some are geographically focussed, others are more disparate. Some groups major on nurseries, or preps, or schools for pupils with SEN.
However, for-profit companies seek some kind of financial return, which starts with consolidating back office and purchasing functions. Think private Multi Academy Trusts. Property is important and deals can be contingent on a sale and leaseback arrangement for the property.
How have prep schools managed up till now?
Let’s not forget that the last few years have been difficult for prep schools. They have coped with inflationary bills, increasing contributions to teachers’ pensions, increased repair and maintenance costs for period properties, COVID shutdowns, ramping up remote teaching, increased regulatory compliance and safeguarding, and developing community links to prove charitable status. All against increasingly negative public sentiment towards independent education.
They’ve managed in two ways. They have managed to cover most cost increases with price increases. Back in the days when inflation and interest rates were low, school fees increased 3-4% per year. The average prep school fee increase in 2023/24 will be 7.4%.
The second way they have managed is by expanding their target audience. School buses running from London to the Home Counties for example. Or relaxing faith-based admissions criteria. Other schools have expanded their age range; opening day nurseries onsite and extending the top end to GCSE years.
Some of these examples aren’t cheap to implement. But they are cheaper than the costs associated with a merger.
How will prep schools manage the imposition of VAT on fees?
Admittedly, the biggest and most acute challenge is yet to come. Maybe schools can mitigate the overall increase to nearer 15% through VAT-rated expenditure. And maybe they can reclassify activities such as after school clubs and some salaries with VAT-rated contractors.
But there are also the usual annual cost increases to build in; inflation, pay rises, and increased pension contributions. I expect most schools will be increasing fees by at least 20%.
Subsequent to these fee increases the prep school pupil headcount is forecast to decline by 5% to 20%, depending on which side if the debate you are. Of course, schools with wealthy parents will be affected far less than those with ‘savers and strivers’.
There is also a vicious circle. The more pupils leave the more fees have to rise to cover the revenue shortfall. Setting the initial price rise to avoid a subsequent rise is not easy.
How many more prep schools could merge due VAT on fees?
If the recent past is a guide, then we should expect an average of 19 prep school to close every year, and 16 to merge. But that rate can’t continue indefinitely. For a start, the pool of unaffiliated prep schools is now only about 350.
At a top line, without naming specific schools, about 200 of these preps are, on average, more financially robust than those that have already folded or merged. They may still seek cost benefits from rationalisation but they don’t have to if indepence is paramount. Many of them should be able to pass on most of the price increase to most parents.
Of the 150 that remain, half have valid value propositions that demonstrate their points of difference. My contention is that at least half the prep schools that have closed in the last 10 years would have stood a fighting chance had they been more strategic, differentiated and focussed.
That means that I estimate 75 prep schools to close or merge over the short term, within the current run rate of closures and mergers. Activity will spike in 2024/5 and then drop off in a long tail pattern.
There will be additional activity between school groups and all-through schools, reshuffling of portfolios if you will.
Why mergers rates could slow
There are other factors hampering the likelihood of prep school mergers. For example, it may also be the case that senior schools will be less inclined to increase their own financial risk when the trading environment becomes less certain. They are also exposed to the same VAT issue. And private buyer groups might not be able to access cheap debt as in previous years.
Another possible brake are two sets of stakeholders I haven’t mentioned so far; parents and alumni. Emotionally vested, there are plenty of examples of parents and alumni stepping in to buy or save a school from closure or merger. Even as recently as 2023 these two such groups overturned the fait accompli of closure/merger to maintain their schools’ independence.
In the current climate, that prep schools are contingency planning for a merger should be viewed as a positive thing. After all, if you think independent schooling is a good thing, so do the schools’ governors. They just need to find the best way to provide it.
If you are a parent or a school needing more help with this topic, please get in touch.