How the Public Pays for Privatization: the UCLA Anderson Example

The public response to the UCLA Anderson School of Management privatization has not been warm.  Speaking on an episode of Which Way LA?, Anthony P. Carnevale, a prominent national higher ed analyst and director of the Georgetown University Center on Education and the Workforce, remarked,

"We as a nation, one of our signal achievements is having built a world-class, best-in-the-world higher education system.  And we're basically putting it up for sale."

"What do you lose if you do that?" host Warren Olney asked.

"You don't serve public purposes any longer, quite simply.  And the public purpose in upward mobility, first of all, is dis-served in a very powerful and immediate way. The rich get richer and the poor get poorer.  The other purposes--for diversity's sake and so on--don't get served and the public interest is simply not observed. UCLA is owned by the citizens of the state of California. And it is being sold off. That is, they are losing an asset that they have contributed to, a brand name for a very long time, and it's now being sold off by the legislature."

Olney's other guest, Anderson School dean Judy D. Olian, objected that in fact the public mission will be preserved, but her main stress was on the new presence of private donors and revenue streams. This emphasis also dominated the initial proposal, which didn't claim that educational goals would be improved, and in fact offered no educational goals at all. (Similarly, see the School's Strategic Plan).

Nobody argues with much success that privatization will recover the overall educational attainment and learning quality that has been lost via twenty years of piecemeal privatizing. The only plausible argument for privatization is that it has been forced upon us by repeated and apparently irreversible public funding cuts. The careers of most senior managers in their 50s and 60s have been profoundly shaped by repeated, unpredictable declines in public support. Those running public universities, with long experience of a mixture of cuts and official ingratitude for holding things together as well as they have, have come to believe, in the words of a thoughtful new book on the subject entitled Public No More, that "cuts are not temporary; rather, they portend the extinction of the low-tuition--high-subsidy financing model that has been the backbone of public higher education for over a century."

Once this reality is in place, privatization becomes inevitable--and also preferable to the induced poverty and finger-wagging restrictions that states are increasingly offering instead of funding.  The main goals are then to privatize efficiently, fairly, and transparently, in the guiding belief that the day of strong public university funding is over for good. 

I have long argued that this perception that we have exited the age of higher education as a publicly-fund public good is a self-fulfilling prophecy.  It forms a feedback loop of the kind that George Soros is always trying to get financial analysts to see as creating reality rather than simply perceiving a pre-exisitng reality that they wrongly see as independent of them (example here).  My claim has been that if major players were to define cuts-reality as untenable for higher education, and mobilized their institutions to change this reality, cuts would not be our reality over the medium and long run. But here I leave aside this issue for a narrower question: given privatization's goal of fixing public university finances, does it actually succeed?

The UCLA-Anderson example suggest that it does not.  To show this, I first have to discuss how the privatization narrative functions as a good cowboy story.  Then I'll look at the financial deal in the Anderson privatization, which suggests that  privatization is subsidized with public money, and doesn't make financial sense without that subsidy.

The story about privatizing a public asset always weaves together four strands.  The first, already mentioned, is that the public sector is now broke and in permanent retreat.  The second is that this is not so terrible because the private sector can and will take over the public sector's public missions and do them as well or better. Thus in launching the privatization campaign of UCLA's Anderson School of Management in 2010, Dean Olian told Scott Jaschik of Inside Higher Ed that "The driver here is the decline in state support." She also insisted to him that "Our mission will still be public -- our mission will still be one that looks to make sure our students are helping East L.A. nonprofits or microfinance projects in Africa."

Jaschik noted a third strand of the privatization story: "In discussing the plan, Olian repeatedly talked about 'self-sufficiency' and never used the word 'privatization.'"  In the privatization narrative, the superior capabilities of the private sector advance the public interest through a newfound financial freedom from public regulation that leads to increased revenues that, in turn, pursue the public good without distorting it. 

Oilan also added the classical fourth strand, which is that the new private operator would, once operating freely, become the financial benefactor of the public side. Based on these assurances, a Los Angeles Times editorial of 2010, in offering its ambivalent blessing, said that "the net $6.6 million a year that Anderson currently receives from UC would stay with the university, money that could go to programs such as literature or philosophy, which don't draw big donors, or scholarships for undergraduates."

To put the four strands together, the privatization story says that public higher ed, drained by inevitable funding cuts, would be revived by the privatized ("self-supporting")  unit, possessed of disciplined public purpose and now freed to make money in part so it can return charitable support to the public operation.  The privatization story is about confronting a new reality and responding entrepreneurially to external conditions rather than to internal traditions-- which is the cowboy theme of the program.

The privatization story triggers a conditioned belief in American culture: the private makes, the public takes. This familiar subplot is the basis of the narrative's political power.  But if we ignore this belief and look at the Anderson proposal, we can see it doesn't actually support the main narrative about how privatization works.

The first strand--that the "state is going away"--extrapolates the future from immediate past experience, and describes that experience rather than reality. The second, public purposes, are as noted above missing from the proposal. They consist mostly of potted statements in public venues of the social causes to which Anderson students could individually apply their management expertise.  Tuition is already in the mid $40,000s and set to rise another $10,000 in the next couple of years, which obviously endangers the ability of highly indebted students to pursue social service.

On the third point, self-sufficiency means less adherence to the university community but, at the same time, more dependence on outside donors and sponsors and perceived market forces.  Since the Anderson School is "disestablishing" a state-built and state-funded academic unit (Appendix J) in order to turn it into an SSP, privatization is an appropriate term.   Carnavale calls it a "sale," but the ownership and control questions remain unclear, and there seems to be envisioned neither a transfer of assets nor payment for them.

This brings us to the crucial claim, which is that the private version of Anderson will generate its own independent revenues and in effect earn a profit that will allow it to give some support to UCLA, the poor public relation.

What we see instead are a series of standing public subsidies for the newly private enterprise:

• The state's sunk costs in capital stock, including its maintenance.  UCLA is giving this away for free, perhaps in order to maintain the impression that Anderson is an ordinary part of UCLA that the public will assume is still public. A precedent for this are two national laboratories, Lawrence Livermore and Los Alamos, that are still claimed by UC on its lab website but that are in fact operated by limited liability corporations (LLCs) involving UC in a partnership with Bechtel and three other for-profit defense contractors (LLNC LLC) (LANS LLC Agreement).   Use of assets would seem here to be automatic, without say a long-term lease and lease payments (see below).
• The state's investment in human capital, including salaries and retirement benefits for past and current retirees. 
• The UCLA brand, which as the Anderson faculty dissenters point out, is primarily a UCLA creation and will have an annual value in faculty recruitment, publication, student placement, tuition revenues for executive education and the other for-profit educational programs, and so on.
• The University's tax-exempt status as a part of state government.  Anderson will not have students who are eligible for state funding, but it will not have to compete with for-profits who pay corporate income taxes.

A normal acquisition between two private firms would involve the purchase of both physical and intangible assets. I leave it to finance professors to put a price on the UCLA assets that Anderson now has, but the absence of a buyout payment is a large effective public subsidy.

To continue the public subsidy list:

• The state pays for all of Anderson's academic students.  Anderson will under the new scheme keep 100% of the high tuition paid by the students in the professional programs -- the Executive MBA and related programs as well as the full-time MBA students. Were the private side now helping out the public, Anderson would use the market-rate tuition to subsidize some regular business students, particularly the PhDs who are to become faculty in business schools.  In reality, Anderson keeps all of the market-level private-program tuition and gets UCLA to pay for the academic students. The Financial Impact Analysis (FIA) asserts, "The Ph.D. and the Undergraduate Accounting Minor . . . cannot become self-supporting and thus need to be supported by the campus."  This is not true: Anderson could use professional student tuition to cross-subsidize any and all other students at its discretion. The FIA continues, "the Ph.D. program will receive $1.2 million and the Undergraduate minor will receive $3.2 million of General Fund support" - every year, presumably adjusted for enrollment.  Total PhD. enrollments in all years are listed as 75, so Anderson gets around $16,000 per doctoral student per year.  If in practice it spends less than that sum per student, it can not only get the state to pay for its academic students but run at least a small profit on these state students at the same time.    

The undergraduate funding is even more lucrative.  UCLA has a Business Economics major, staffed on its regular campus.   Anderson runs an accounting minor, meaning that Anderson does not pay the lion's share of the educational costs of "its" undergraduates.  Anderson's enrollment of undergraduate majors is zero.  For its zero majors, Anderson will receive $3.2 million.  Anderson has 253 minors this year, and I am told that these are taught primarily by adjunct instructors on a course-by-course basis.  Anderson will be paid around $12,600 per student out of General Funds. To put this in perspective, Anderson will get nearly double the per-student amount that UC currently receives from the state for each additional resident undergraduate, and get this amount for accounting minors that are primarily taught and otherwise supported by other departments.   (Haas at UC Berkeley has, in contrast, 350 majors.) 

Anderson's profit potential on these state students is significant. For example, generously assume again that Anderson spends all of its money on its PhD students, but only $3000 per undergraduate minor. It could then hypothetically spend $760,000 on direct instructional costs and then net $2.4million M in public funds to use for its now-private general operations.  Whatever the actual returns, we can at least say that Anderson will not be "self-supporting" its academic students, for public funds will subsidize them.

• Anderson does not contribute funds to UCLA.  The FIA states, "The  conversion of the MBA program to an SSP will result in a net increase of monies in the campus General Fund for the Chancellor to support campus programs." This is also not correct. The conversion of the unit to an SSP means that Anderson's state-funded students go up in a puff of smoke, to be replaced by their identical private-unit twins.  Their state funding disappears with them.  Anderson's conversion costs UCLA state students and therefore decreases its enrollment-based General Fund allotment--except that Anderson's loss will be backfilled by increases in undergraduate enrollments on the regular campus (as the UCOP endorsement letter plainly says).  Anderson cannot take credit for the fact that more undergraduates will show up to take courses elsewhere on campus.  Attaching numbers to these students, the FIA says, "net revenue recouped by the campus from Anderson’s MBA degree becoming self-supporting is thus $5.2 million." This is revenue recouped by UCLA taking a bunch of new undergraduate students (or by getting paid for the students they have already overenrolled), and is not actual revenue flowing from Anderson to UCLA. 

The same goes for the claim about how Anderson will be giving UCLA $3.6 million for general operations: "after conversion, the School will be levied an overhead charge to compensate the campus for operation and maintenance of physical plant as well as services provided to the School." I don't know how they came up with this number, but assuming it reflects actual overhead costs of operating the MBA program, and that UCLA will still be providing services to Anderson in exchange for Anderson's payment (utilities, student services), (see pp 11-12), this is not money that UCLA can now spend elsewhere on campus. Anderson's check for $3.6 million goes right back to Anderson in the form of services provided.  Under the current system, UCLA uses state general funds and tuition from Anderson students to support Anderson activities; in the future, the tuition will go directly to Anderson, which will then use it to pay for its own overhead, not for UCLA's.

Tallying these factors, I can't accept the FIA's claim that adding these two sums together (minus the subsidy of its academic students) defines a "total benefit to the UCLA General Fund of Anderson’s MBA degree becoming self-supporting" of  "$8.8 Million."  The flow of funds specifically from Anderson to UCLA is at best zero. 

• Net tuition subsidy from UCLA to Anderson. Anderson loses state General Fund money on its MBA students but keeps it for its academic students (it loses $8.5 million and gets back $4.2 million for a net loss of $4.3 million).  Anderson will also keep all of its tuition money, for a $20.6 million gross with 753 students at current rates (over $45,000 / yr), and since it keeps a bit over $9 million under the current model it will under the privatized system gross an additional $11 million (before 15% return to aid). So now Anderson is up $6.7 million, and this is before it raises tuition another 8.3% for residents in 2012-13 (p. 11), grossing an additional $7.5 million or so. Then it will be $14 million up, plus say another $1 million in new endowment payout (improbably unrestricted) on $19 M of announced new donor pledges contingent on privatization.  Assuming Anderson's current expenditures are around $70 million (Schedule B), this additional $15 million increases its budget by over 20% in one fell swoop.

In sum, while the benefit to Anderson is clear, the story for UCLA is not so positive.  It is out $11 million of Anderson tuition that it was using to cross-subsidize  activities on its campus, plus it continues to pay $4.2 million for Anderson's academic students, those which Anderson is unwilling to self-support.  Anderson gains $15 million a year, and UCLA loses  . . .about $15 million a year. And that does not include the unquantified historical accumulation of various kinds of capital that I listed above.

I will deal with the political sources and student impacts of privatization in another post. The outcomes thus far are as follows:

1. UCLA is losing money on this deal. If it allows other units to privatize like this--as pseudo self-supporting-- it will degrade its overall finances.
2. Privatization yields a profit only because it is publicly subsidized. Were UCLA's stealth subsidies to be withdrawn, Anderson would in fact net nothing by privatizing a premier public business school that the taxpayers of California built.