When Private Equity Wins and Consumers Lose

Leveraged buyouts in higher education lead to outsize profits, even as graduation rates plummet and students incur more debt for lower salaries.

Illustration by II

Illustration by II

As good as private equity managers are at squeezing profits out of a business, they’re even better at tapping subsidies from the government, according to researchers.

A new study finds that private equity buyouts in the education industry lead to higher enrollment and profits, but not better outcomes for students.

The working paper from the National Bureau of Economic Research, called “When Investor Incentives and Consumer Interests Diverge: Private Equity in Education,” looks at the effect of private equity on for-profit higher education, a sector that is highly dependent on subsidies from the government and which could be exploited by private markets. The three authors — one representing the University of California, Merced, and two from New York University’s Stern School of Business — find that private equity ownership leads to institutions attracting more students and larger profits as a result, but tuition rises and students incur more debt and graduate at lower rates. In addition, those who finish have lower earnings after graduation. Not surprisingly, loan repayment rates are also lower. The authors used data on 88 private equity deals and 994 schools with private equity owners in their study.

“In education, subsidized by the government, private equity managers go for broke in capturing government aid at the expense of student outcomes,” wrote the authors in the study, which is being distributed for discussion and comments.

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The outsize drive for profits may work to eliminate inefficiencies without any ill effects on consumers in many industries. But it doesn’t always work in every sector. “In education, one reason such high-powered incentives might be poorly aligned with student interests is that education is heavily subsidized,” continued the authors. “Federal grants and federally guaranteed loans comprise around 90 percent of for-profit schools’ revenue and have little if any dependence on student outcomes. We find that student outcomes deteriorate after a school is bought by a private equity firm, and reliance on federal aid and guaranteed loans increases.”

The study attributes the poor outcomes to a number of factors, including changes in the way schools operate and to higher enrollment by less well-prepared students after private equity firms get involved. For-profit colleges and universities with private equity ownership increase their marketing efforts. In fact, “private equity-owned schools have twice the share of employees in sales as other for-profits, and law enforcement actions related to misrepresentation and recruiting violations increase dramatically after private equity buyouts,” according to the study.

Private equity firms are also extraordinary at tapping aid from the government. According to the paper, profits triple at these institutions after a buyout, in part because of higher tuition rates. Post buyout, for-profit universities are also more reliant on federal aid, getting close to revenue limits set by the government.

“We demonstrate that an important channel for the better performance of private equity-owned schools is superior capture of government aid, suggesting that intensive government subsidy leads to the misalignment of incentives,” wrote the authors.