Since 2011, there have been an increasing number of restructurings in higher education. What may have started with the foreclosure and sale of ATI Schools and Colleges has continued this year with last month’s conversion of $400 million in debt to equity in the case of Education Management Corporation. Indeed, as Joe D’Angelo from Carl Marks explains, lower profits, increased regulations and lower student enrollment have caused an increase in higher education restructurings in the last three years.
We have handled a number of these restructurings and one legal issue that surprises people is that Title IV institutions cannot file for bankruptcy and remain a Title IV institution. Section 102 of the Higher Education Act (20 USC 1002) provides that an institution shall not be eligible for the Title IV programs is “the institution, or an affiliate of the institution that has the power, by contract or ownership interest, to direct or cause the direction of the management or policies of the institution, has filed for bankruptcy.” This restriction is also codified in regulation. Moreover, although sparse, case law has consistently held that these provisions trump any powers of the bankruptcy court or the non-discrimination provisions of bankruptcy law (the government’s brief in the Lon Morris bankruptcy matter has a good discussion of the legislative history concerning this provision).
Removing bankruptcy from the equation changes the restructuring equation dramatically. Unlike a typical restructuring, in higher education the institution and its creditors have to come to grips with the reality that creditors are essentially in the position of equity rather than of traditional lenders. Indeed, creditors must be as concerned about maintaining the institution as a going concern as the institution is. This is even more the case with for-profit higher education providers. While non-profit institutions often have substantial assets (such as land and buildings) that it may sell off to pay debts, proprietary schools typically lease space and equipment, thus leaving the institution with only one “asset”: the ability to disperse Title IV funds. As a result, while bankruptcy is a theoretical possible vehicle through which a non-profit school could satisfy its debts (if the parts are truly greater than the sum of the whole), that will almost never be the case for a proprietary school.
As a result, instead of more traditional restructurings, we havea seen far more schools and their creditors utilize liability management, cost cutting, shutting down campuses, and consolidation as means of creating liquidity to pay down debt. In the most problematic cases, however, parties have engineered sales of all or some of the institution as a means of paying down the debt. So far, three models for doing so have emerged:
- Debt to Equity Swaps;
- Foreclosure Sales (including where the creditor(s) purchases the institution through credit bidding); and
- Pressured Sales (such as with Anthem Education).
Obviously there are various permutations on these and each method has its own positives and negatives and need to be carefully considered. Also, regulators will need to be involved in approving these transactions which unfortunately will take time. In the end, however, such transactions can leave institutions with far less debt (or debt-free) and much better able to serve its students.