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Providence Financial



I recently looked at the financial statements of a school that is managed by a well-known management company. The management company also leases the school’s facilities to them. The director called me to see if they can qualify for financing to buy their current facility from the management company. They would then attempt to cancel the management contract. When I reviewed their financial statements, I was astonished and dismayed at what I saw. I have often heard about high management company fees, but this one really caught my attention. Let me explain. It is conventional wisdom that facility costs (rent or mortgage payments) should not exceed 20% of gross revenues (the total receipts the school gets on a regular, dependable basis before expenses). Most responsible financial people will say that it is better to keep these payments closer to 15%, but that is not always possible. I have recommended that a school can go above the 20% level if the payment is fixed and their revenues will continue to grow, thus reducing the payment percentage to 20% or less in the near future. Granted, in parts of the country where real estate prices are sky high it requires some creativity to get facility costs in a range where a school can afford them. The reason for this guideline is that charter schools are already under funded, so having the 80% of revenues left after facility payments is usually barely adequate to run a school. Now let’s get back to our real life example.
  • The school’s facility rent as a percentage of total revenues in 2006 was 28%.

  • The school’s rent, management, and royalty fees as a percentage of total revenues in 2006 was 38%.
The school is leasing the facility from the EMO. Like any smart landlord, they structured the lease so the rent payments increase each year. As is the case with many charter school leases I have seen, the lease payments escalate faster than the school’s income. Thus, the long-term outlook for a situation like this is pretty foreboding.

This fine administrator of a school serving high-risk children in an impoverished area is faced with educating his students on a budget of 62% of gross income! Granted, the EMO provides some services for their fees, but I have heard over and over again from school administrators that their EMOs have been a huge disappointment in this regard. They often do not live up to their promises.

The likely solution then is to buy the building from the EMO and try to get rid of them – right? Now you may be in for another disappointment. Unless you have a clear and fair buy-out clause in your lease contract, the EMO will demand top dollar. I have seen circumstances similar to this when the landlord has said that he doesn’t care what the property’s appraised value is, if the school wants the building it will have to pay his price. I have seen schools pay almost $1 million above the appraised value just to get rid of the landlord and fix their payments.

Developer financing typically involves a developer paying to construct or purchase a facility, managing any construction work, and then leasing it to a school with a purchase option.

Another problem I have with EMOs is that they can breed discouragement, disillusionment, and disengagement on the part of the school employees. I fail to see the difference to a principal, teacher, or staff member between working for an EMO that is separated from them and a school district that is separated from them. The fire is often lost by the people at the school site when they work in a centralized system where they feel that their opinions and suggestions are not encouraged and respected.

The enthusiasm and magic of a charter school comes from the local educators and parents getting together to make something great happen. Problems often arise, however, when the founders and board members lack the business experience to find a way to set up the business model and arrange for a facility on terms that will work in the long term. When these people do not know how to do this, an EMO sounds very appealing. In fact, on the surface, the EMO alternative sounds like the answer to all their problems. Unfortunately, the devil is in the details.

While I am sure there are many schools that have had a good experience with their EMO, my opinions above reflect what I have heard from school and support industry people around the country.

Whether you are a new or existing school, if you are evaluating an EMO contract or lease contract, maybe we can help. We would be glad to try.

For information contact Brent Van Alfen, Providence Financial Co., Inc.
Phone: 801-299-8555
Email: brent@providencefinancialco.com