The ABCs of Profit
Inc. case study
To hear the head of Nobel Learning Communities tell it, U.S. public education amounts to nothing more than the last unprofessionally managed industry in America. Does that spell opportunity?
Each year, billions of dollars are spent on public schools in the United States, yet no one thinks they work. So is this industry -- in essence a regulated monopoly -- ripe with entrepreneurial opportunity? Jack Clegg thinks so. Clegg is chairman of Nobel Learning Communities Inc., in Media, Pa., an operator of for-profit and charter schools. And he's convinced that with schools, he knows how to make money while not sacrificing quality, a skill he's demonstrated with a score of previous businesses. His method? Focus on hitting a few key numbers, and watch the rest take care of itself. Is education ready for this?
The first thing you notice about Jack Clegg is his nose. Bent and flattened, it looks as if it has been worked over with a hammer and tongs. It's the nose of a man used to banging his way ahead through life, no matter what the odds are. Clegg lost his father when he was 12 and later took eight years to finish college, which he attended at night. Over the past 43 years he has worked in the trenches at such corporate leviathans as IBM and Xerox, and in between he has found the time to be an entrepreneur, running 21 companies in 17 industries at one time or another.
Clegg has run businesses that manufacture trash compactors, clothes hangers, space vehicles, and automotive parts. He has managed shoe, cutlery, and cookie stores. And he has peddled computers, copiers, and electronic switches. But his biggest success is his latest -- and least likely -- venture, for-profit education.
In 1991 the board at Rocking Horse Childcare Centers, a chain of day-care centers based in Media, Pa., brought in Clegg to advise the company. Rocking Horse was dying right under its owners, having had just one profitable year since its founding in 1984. "The company had a negative net worth, was involved with the workout departments of two banks, and had recently been delisted from Nasdaq," Clegg recalls. "Other than that, things were fine."
Clegg bulled his way onto the board and stayed on as chairman, even after the management invited him to step away. In his first year with Rocking Horse, Clegg produced a seven-figure profit. The company, since repositioned and rechristened as Nobel Learning Communities Inc., has gone on to average 30% annual growth. In its latest fiscal year, ending July 1, Nobel made nearly $2.5 million on sales of $127 million, which reflected a 56% increase over the prior year's net earnings. The company now operates 162 schools in 15 states. It employs 4,500 people, of which 1,848 are teachers, and has the capacity to educate more than 26,000 students.
Education, you'd think, would be a gold mine for entrepreneurs like Jack Clegg -- easy pickings. The bulk of the $618 billion the country spent on education in 1998 went to public schools. And as student performance in those schools declines -- even as spending keeps rising -- those who would reform education keep venturing forth with their dollars and their ideas.
Silicon Valley venture capitalist Tim Draper is spending $20 million supporting a ballot measure this November that would give every California public-school student a $4,000 voucher to use at the school of his or her choice. Ambitious as that might seem, Draper's proposal is modest compared with the $350-million campaign that the Bill and Melinda Gates Foundation has undertaken to improve primary and secondary schools.
But education is a complex and gnarly business, involving the management of not just money and real estate but an array of contentious and entrenched constituencies, including students, teachers, parents, and regulators. Just ask Denis Doyle, who wrote Reinventing Education with IBM's Lou Gerstner. Doyle has worked in the education industry for 30 years as a consultant. "Most public schools are bureaucratic, hierarchical institutions that are unimaginative and cautious," he says. "They're where the auto industry was in 1965."
Nobel's chief operating officer, Daryl Dixon, calls public education "the last natural monopoly." That makes it an inviting target, but when you go after a monopoly you also must contend with inertia and those who try to protect the status quo.
Many entrepreneurs who have gone into the education business have encountered their share of roadblocks. The most visible venture in for-profit education, Edison Schools, started by the notably flamboyant Chris Whittle, has invested $100 million over the past six years in the management of charter schools -- and has yet to break even.
"You definitely have to pick your spots," says Keith Gay, a partner at the San Francisco investment-banking firm Thomas Weisel Partners LLC. "Developing a successful for-profit company takes a lot of time because the customer is not always rational." He likens education to health care, an industry in which buyers want the best -- at a bargain price. As a result, says Gay, "what could be explosive growth becomes controlled growth because you can't afford a mishap."
"It's misleading to talk about how big the market is, particularly in the K- through-12 segment," echoes Trace Urdan, a senior analyst at W.R. Hambrecht + Co., in San Francisco. "You have to identify niche opportunities for profit. The business of running schools is really not a great business to be in."
That said, Clegg and Dixon have sallied forth confidently to slay the dragon. Nobel makes money not only by operating private schools. It makes money by teaching children with special needs and by running charter public schools. And it's even easing into the notably capital- and labor-intensive high school market, beginning with the recent acquisition of three specialty high schools in Houston. And finally, Nobel recently took a 40% stake in Total Education Solutions Inc., a California company that toils in one of the toughest markets of all, educating emotionally disturbed, at-risk children.
So how exactly can Clegg move so boldly where others dare only tiptoe or have had to retreat? He boils his business down to a few key numbers. Education, he is wont to say, "is not a money problem. It's a money- management problem." In sum, Clegg believes, if you know the numbers that matter and you can religiously hit them, then the rest falls into place; the business model reinforces itself.
So what exactly are those numbers?
Clegg drives the business off three measures. They are corporate general and administrative expenses (G&A) as a percentage of gross tuition; the school occupancy rate; and school personnel costs as a percentage of tuition.
A closer look at each and how they all fit together reveals how Jack Clegg makes money in a complex business.
Lean and below the mean
Nobel has a single corporate office with 52 people managing all 162 schools. Its G&A cost is about 7.5% of gross tuition, which is below that of other school-management companies. Nobel can keep costs low because it is a highly decentralized company. In effect, each school operates as a separate entrepreneurial business, with modest guidance from corporate headquarters.
To Nobel the benefit of running lean is that it attracts the attention of an important constituency: investors. (Nobel is publicly held.) But the number matters just as much from a marketing perspective, because it attracts a second, and equally -- if not more vital -- constituency: parents.
"In an era when consumerism is alive and well in education, that's an important number for us," says Dixon, referring to the 7.5% figure. "The public is fed up with all the money spent on administrative bureaucracy. People want to know, 'What are you delivering to my child?' " Nobel can readily show parents that a high percentage of what it takes in flows through to the actual education of the students. That money does not stick to administrative fingers.
Nobel charges, on average, from $6,000 to $6,500 a student, a moderate sum compared with tuition at many private schools. But perhaps more significant, Nobel has been able to raise tuition by about 5% in each of the past two years -- a sign that the company's customers think it's delivering something of value.
At Nobel schools, parents know that no school enrollment will exceed 300 students, and no class size will exceed 22 students. "Our commitment to a small school size implies an emphasis on safety and awareness of the child," says Dixon.
Each year, Nobel publishes its students' test scores. Based on the Stanford 9 grade-level standardized tests, Nobel students perform above their grade level, and the longer they attend a Nobel school the further ahead they get. Last year the typical first-grader at Nobel read at a 3.0 level. In other words, he or she read at the level of an average public-school student in third grade. And the typical Nobel first-grader scored at a 2.6 level in math. By the seventh grade, the average Nobel student will be reading and doing math at about the 10th-grade level. Of course, the test-score comparisons are at least a little misleading. Nobel students are from families that can afford tuition payments and that explicitly value education; it stands to reason that as a group they would exceed the academic norm even if Nobel were no better at educating them than the public schools they'd left behind.
However inconclusive the test scores may be, Nobel claims them as evidence that low operating costs don't conflict with quality. And Nobel's reputation for cost cutting doesn't appear to have harmed its schools' popularity. When Nobel entered the public-school arena, last year, by opening a charter school in Philadelphia, more than 4,000 students applied by lottery for 624 places. Nobel received from the city 70% of what it spends per public-school student, as well as a management fee of $400,000. The charter school's average class size was half the size of the average public-school class, and after one year the charter-school students' test scores were a grade and a half higher than those of the public-school students. The Nobel school, meanwhile, turned a $600,000 profit in its first year of operation.
Fill 'em up
Last year Nobel's overall occupancy rate was 83% of capacity in its pre-elementary schools and 69% in its K-12 schools. (Those figures include new schools. Nobel opens about 20 schools each year.)
Homing in on capacity, says Clegg, helps Nobel achieve efficiency at the local level. "We are able to get more revenue earlier into the bricks and mortar," he says. Translation: the key to being profitable is to not let schools go underutilized.
But that's easier said than done, because building enrollment requires building a reputation, not just opening the doors. Nobel clusters its schools, typically constructing one elementary school near three or four pre-elementary schools. That creates word of mouth and a source of future students for the elementary school. Lately, Nobel has built "combination" schools, such as the one it recently completed in Dulles, Va. It houses pre-elementary and elementary grades, as well as a Paladin Academy. (Paladin is Nobel's division that serves children with learning disabilities; whenever possible, it integrates them into the academic mainstream.) "It's like being able to offer three products instead of one," notes Clegg. Having that variety under one roof allowed the Dulles school to open with 180 students.
COO Daryl Dixon notes, "There are kids who literally grow up in our system." Nobel's schools are open 12 hours a day and nearly 12 months a year, running summer schools and camps in addition to the regular academic program. That not only adds to the top line but raises the profile of a Nobel school all the more as a fixture in the local community.
And that ties back in to the company's goal of keeping corporate overhead low. By attracting students at an early age, Nobel can theoretically keep them as "customers" for more years. That reduces the cost of the average "sale." In other words, low student turnover means the company can spend less on marketing to replace the students it does lose.
Jack Clegg's third key number is school personnel costs as a percentage of tuition. Clegg considers any school where that figure is below 50% to be well run. Nobel's number is currently around 45%. That signals that teacher turnover, a chronic headache in education, is at acceptable levels, which leads to lower corporate expenses -- G&A -- related to recruiting.
According to Nobel, the total cost for its nonteaching support staff is only 20% of tuition, or roughly 40% of the comparable public-school figure. By clustering its schools, Nobel is able to deploy one maintenance worker to cover four schools. That varies from the public-school model, in which maintenance workers might be assigned to one school, waiting for emergencies.
Nobel keeps personnel costs in line in another way. It offers its teachers longevity-based incentive programs, including multiyear contracts, broad-based career paths, and tuition subsidies for teachers' children the longer the teachers have been with Nobel. Those programs help keep turnover and recruiting costs down.
Dixon says smaller classes give teachers at Nobel the flexibility to innovate in the classroom. "We hire extremely experienced public-school teachers," he says. They typically take a 10% to 15% pay cut and accept a leaner benefits package in return for relative autonomy. "There's a high degree of frustration over what they can and cannot do in the [public-school] classroom," says Dixon.
Clegg says that none of that would be possible without the adaptation of strict business controls. "We are really planners," he says. "We put a lot of time and effort into true strategic planning." Every year, Nobel managers go on a four-day retreat and return with a very detailed plan for the coming year. "That's my road map," says Clegg. "I have to know where I'm going."
As a result, the company is always able to measure performance on a school-by-school basis, comparing it against the plan or against the prior year's numbers. "My philosophy is that you work within the month and not try to justify things after the month is over," says Clegg.
He gives his managers no more than three or four goals to hit for a given year. If they have too much to worry about, nothing will get done well, and the company won't be able to manage its growth.
Clegg couples his sense of how the business is doing at any moment with an eye for future opportunities. For him, the litmus test is how easily a concept can be replicated. "For something to really work, we always need to be able to roll it out," he says. Currently, Nobel is testing the waters with charter schools, an arena it has just entered with the school in Philadelphia and two in Phoenix. Clegg wants to ensure that he understands how charter schools -- which are public -- operate before he jumps into the segment with both feet.
Asked how he can juggle so many initiatives, Clegg readily replies: "Our business is not that complex. It's all about cost control." Spoken like a man who once manufactured trash compactors. But then again, maybe there is more to Jack Clegg, hard-nosed entrepreneur, than meets the eye. He has given presentations to World Bank officials and visiting dignitaries from China on how the Nobel model works. He has traveled as far afield as Africa to explain his philosophy at the invitation of curious educators. And he has even walked right into the lions' dens, speaking at such education establishments as Columbia Teachers' College.
For Jack Clegg, the bottom line is, well, the bottom line -- and so far it appears to be healthy.
Edward O. Welles is a senior feature writer at Inc.
Nobel Learning Communities Inc., based in Media, Pa.
Business: Operates 162 schools in 15 states. The company has recently entered the specialty-high-school and charter-school markets
Financial summary: For fiscal year 2000, sales were $127 million; net earnings were $2.5 million, up 56%
Management: Chairman Jack Clegg, 61, joined the company in 1991. Before then, Clegg had run 21 companies in 17 industries. COO Daryl Dixon, 40, joined Nobel in 1999 from Pennsylvania health-care provider NovaCare, where he had been president of the Contract Rehabilitation Division, which had sales of $640 million
Capitalization: Nobel is publicly held, with Clegg owning about 10% of the outstanding stock, and major investors -- such as Allied Capital, Edison Venture Fund, and Knowledge Universe -- and employees owning a majority of the shares outstanding
Strategy: Cluster small, uniformly designed schools to maximize operating efficiencies, offering small class sizes and teaching flexibility. Encourage a high degree of parental involvement
Philosophy: Teach children to be independent and critical thinkers who are prepared to be lifelong achievers. Nobel emphasizes that philosophy from the get-go. Its pre-elementary schools are pointedly not day care. They introduce children as young as three to computers and to a second language
The Vision Thing
Jack Clegg's just back from China, where he signed a deal with the largest operator of for-profit schools there, which will link its schools to Nobel's through the Internet. Soon after that happens, he envisions, the two education companies will run student-exchange programs. And while he was there, Clegg wangled an audience with China's education minister, and the two men talked about setting up an international school in Beijing.
When people who work with Clegg talk about him, they may well mention his bias for action, but they invariably mention his vision. "He knows how the pieces of the puzzle go together," says Robin Eglin, executive vice-president at Nobel. "He has this innate ability to see beyond the range of most people."
It was Clegg's vision that got him into the education business to begin with when, as an investor for all seasons, he was brought in to advise Nobel's faltering predecessor, Rocking Horse Childcare Centers, on a turnaround strategy. So what exactly did he see at Rocking Horse? First, many of the schools were operating just fine. "The problems were at the corporate level," says Clegg, "and those are the easiest to fix." Second, he noticed that Rocking Horse had one stepchild school in California, a combination pre-elementary and elementary school. That lone school, which had been largely neglected by the parent company, was actually, in Clegg's eyes, the chain's most promising school. It became the model for all of Nobel's future schools.
"Jack is very good at thinking in a businesslike way within a human-services environment," says Nancy Lavelle, chairman of Total Education Solutions. Clegg, she says, is a man always mindful of what he must deliver -- and to whom. Virtually all of Nobel's competitors are not profitable, notes Lavelle. But Nobel is. Most of those companies also don't publish their students' test scores. But Nobel does.
How Clegg gets those bottom-line and performance results is simple: he gets the best managers he can find and doesn't overwhelm them. Typically, Nobel managers have no more than three goals they must hit each year.
"He's a no-nonsense person," Eglin says of Clegg. "When he makes a decision he wants it executed right away, but he's also patient when it comes to getting a result."
Stay on top of the numbers. "We are really planners," says Jack Clegg when pressed to define the essence of his work at Nobel Learning Communities. Every Friday morning he convenes a quick meeting of his top managers. The grist for that meeting is a "flash report" on the recent performance of each school compared with goals in the company plan. "That means that every single week I know how every single school is doing," says Clegg. "This allows us to make adjustments within the month, not after it." He says most managers get tripped up by not clearly defining their goals, not keeping track of them on an ongoing basis, and worst of all, adjusting the numbers after the fact to jibe with performance.
Ease in, then roll it out. "We hope that everything we do has the name 'roll out' on it," says Yvonne DeAngelo, Nobel's chief financial officer. The company constantly looks around for new markets where it believes it can replicate a sound business model. But it always measures its risk by first taking small initiatives. Nobel, for example, has entered a range of markets such as teaching learning-disabled and emotionally troubled children; running specialty high schools for immigrant children, many of whom have part-time jobs; and operating public charter schools. In each instance, Nobel made an acquisition of one or two schools or took a minority position in another company in that market to assess what it was getting into. "All of these schools have different operating dynamics," explains Robin Eglin, Nobel's executive vice-president. "It's important that we first learn the business and figure out a successful model."
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