A long-time contact within the industry who operates two schools recently asked Bailey Routzong to look over her last year’s profit and loss statement for her business, something we have periodically done for her over the years.

The last time we did a full business and real estate valuation for her was some three years ago, and at that time the schools were enjoying good enrollment levels and therefore revenue, but her operating expenses were a bit high. However, because of the healthy enrollment numbers, her profit margins were still above industry averages and of course, this positive earnings trend supported attractive premium marketplace values for her business and real estate at that time. In fact, these forecast values slightly exceeded the amount necessary to fully fund her targets for income upon retirement.

Upon reviewing the school’s recent financial statements, we, unfortunately, encountered an increasingly frequent circumstance affecting school business owners across the U.S. For even long-term successful operators, we see various sources of competition biting off pieces of these operators’ enrollment (and therefore revenue and earnings!) 

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Of course, these historically sound and successful operators aren’t being put out of business, but competitive forces from local school districts providing similar programming (three- and four-year-old, Kindergarten, and before- and after-school care) can result in losing four to five kids out of multiple age groups — adding up to a significant piece of a school’s income.

The client we were doing the valuation for indicated to us that she had experienced some enrollment losses in the past 18 months. The local school district implemented free before- and after-school care at two elementary locations near this owner’s preschools. 

When comparing the latest numbers with those of two years prior, we, unfortunately, found a net enrollment loss of about 10%, equating to about 15-17 kids out of the previous total utilization of 82% of capacity (about 160 total).

However, a second surprise revealed itself — a substantially increased payroll/benefits expense as a percentage of revenue. The explanation was simple: not being able to reduce staff hours because the enrollment losses were spread over multiple age group classes.

Sadly, this combination of a 10% drop in revenue because of lost enrollment, which creates a material percentage increase in personnel expense, had reduced this school owner’s earnings to a level that the industry pool of buyers would not pay high enough values satisfactory to fund this owner’s financial needs upon retirement.

Because we see similar circumstances like this happening with more and more owners, Bailey Routzong has created a new name for this unfortunate phenomenon “The 10% Canyon.”

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