NextBillion - An Initiative of the William Davidson Institute at the University of Michigan

Financing educational opportunities for low-income people and providing fair and affordable loans is a vastly important topic. That was evident at a session I hosted last month at SOCAP14: “Putting Humans Before Capital: Innovative Investments in Education.” (Extra people squeezed in and were sitting on the floor to get a chance to learn more about investing in education.)

Focusing on financing for education meant we decided not to linger too long on specific innovations or business models, but rather tried to answer these two important questions:

• What would it take to attract more private capital toward funding for education?

• The current model of funding for education is failing millions of pupils in the developing world who don’t have the means to attend school, so where can we go next?

The panel was well equipped to tackle these questions. It included Kate Cochran, former chief operating officer of Vittana, which, as she recently wrote in NextBillion, decided to cease operations. Cochran has experience developing student loan programs managed by microfinance institutions (MFIs) around the world. Also joining was Stuart Davidson, senior managing director of Sonen Capital LLC, an impact investor and philanthropist who has taken part in many education deals as part of Acumen. Claudine Emeott, director of strategic initiatives at Kiva, who also is pushing innovative partnerships forward in education, completed our panel. I moderated the discussion and shared my experience creating Future Income Sharing Agreements (FISAs) at my firm, Wedu, to fund university education for female leaders in Asia. At Wedu we aim to unlock the leadership potential of underprivileged women across the region by providing mentorship and access to affordable financing to complete higher education. (Editor’s note: Read a 2013 New York Times article on Wedu’s model.)

Looking at the industry, we as a panel broadly divided our focus into two approaches: funding individuals to go to school (scholarships, student loans and vehicles like FISAs), or funding institutions (venture capital funds investing in schools or innovations). Through this informative and engaging conversation I took away three key lessons that not only framed the discussion at SOCAP, but could prove helpful for many struggling to identify and attack the challenges the sector faces.

The huge demand for financing education

Enrollment rates at every level of education are increasing. In the next 20 years a world population of 7 billion people will spend a significant fraction of their life in the education system and, according to Wedu’s conservative estimate, the world will need to spend up to $30 trillion U.S. over the next two decade to keep pace. The student loan market in the U.S. alone is worth $1 trillion right now, according to the New York Federal Reserve. The education industry has an enormous absorption capacity. Even if innovation helps reduce the global cost of education per student, the sheer number of students will keep increasing, bringing with them a large market opportunity. Technology is also creating new segments. When new technology renders a whole skill or labor segment redundant, it also creates the need to retrain individuals laid off in their 40s or 50s. (At Wedu we are experiencing a growing demand from entire villages in Cambodia who want to access tertiary education. If the demand is so obvious, why are we not investing more in education?)

1. We need to move from uncertainty to risk

We are surrounded by data, but hardly anyone bothers to aggregate it. Collecting it will allow us to move from simple uncertainty to risk that can be managed. The current models of financing education for individuals have large unknown outcomes in terms of return on investment in a specific field and/or at a specific educational institution. Education is not viewed purely as a financial investment, which is appropriate as it is much more than that. But the cash flow implications of the large capital allocation that it requires are almost ignored. As a result, the uncertainty of the ROI on education is way too big for the space to represent an interesting option for investors targeting individual students or pools of students. Conversely, investing in institutions, like school infrastucture or new tools like software, enables more consolidated approaches, where the risk can be understood and managed.

We need to make a greater effort to collect and analyze datasets on schools, employers and students. In doing so, we will be able to draw a precise picture of which type of educational investments are worth making, which institutions and degrees are worth supporting, and which are not. At Wedu we started creating our FISAs with a large-scale research project in Cambodia to understand more about the unit economics, cost and revenues of investing in each specific individual. We hope to advise pupils on which degree is really worth pursuing and which is not. We currently manage what is probably the largest database in South East Asia on the ROI in individuals’ education, and this is just the beginning. We already collected thousands of data points on social science and we are starting now with health degrees and science, technology, engineering and math (STEM) degrees. Who wants to start working on this large data gathering process with us?

2. We need platforms to spur innovation

Platforms like Kiva and impact investors like Acumen are working as the R&D department for the broader education industry. They are giving new financing and operating models a chance to test their validity and gather data, using philanthropic capital, be it crowdfunded or not, to give the industry some breathing time.

We need more of these platforms and innovators. They are taking positions in a growing education market and creating a different approach to financing education, which, “win” or “lose,” will benefit thousands of small and large education operators and hundreds of millions of students in the years to come. Wedu has been blessed to come across many of these partners and more are joining us in the search for answers.

3. The fix is in the mix

No one single actor will ever fix all the problems associated with financing of education; we need to look at all stakeholders. The whole world needs to gather together and recognize that creating a more efficient education financing system is in the best interest of everybody. Governments want to create a more effective labor force for their economies, employers want to have abundant qualified human capital for their innovation, parents want to see the potential of their children and the students themselves are seeking meaningful employment. Each of these actors controls financial resources that can be channeled to finance education in different forms at different times.

Government subsidies are the most important form of financing for education worldwide. But what if they were tied to the success of students, say, five years after graduation? Scholarships are useful and should be expanded to subsidize those whose family savings are not enough. Student loans can be made more efficient with sophisticated pricing models that reward high performance and FISAs will be critical to match the often volatile cash flow of new graduates.

Like we used to say in Italy: è la somma che fa il totale. “It’s the sum that makes the total.”

There is an emerging industry of financing for education, a growing global conversation and more and more diverse models being tested. Now, what are you going to do about it?

Mario Ferro is the co-founder and CEO of Wedu.