India’s Education Sector – Back to School

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India’s US$40b education market is experiencing a surge in investment. Capital, both local and international, and innovative legal structures are changing the face of this once-staid sector.

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The liberalization of India’s industrial policy in 1991 was the catalyst for a wave of investment in IT and infrastructure projects. Rapid economic growth followed, sparking a surge in demand for skilled and educated workers. This, combined with the public system’s failure to provide high-quality education and the growing willingness of the burgeoning middle class to spend money on schooling, has transformed India’s education sector into an attractive and fast-emerging opportunity for foreign investment.

India’s Education Sector – Back to School

Despite being fraught with regulatory restrictions, private investors are flocking to play a part in the “education revolution.” A recent report by CLSA (Asia-Pacific Markets) estimated that the private education market is worth around US$40 billion. The K-12 segment alone, which includes students from kindergarten to the age of 17, is thought to be worth more than US$20 billion. The market for private colleges (engineering, medical, business, etc.) is valued at US$7 billion, while tutoring accounts for a further US$5 billion.

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Other areas such as test preparation, pre-schooling, and vocational training are worth US$1-2 billion each. Textbooks and stationery, educational CD-ROMs, multimedia content, child skill enhancement, e-learning, teacher training, and finishing schools for the IT and the BPO sectors are other significant sectors for foreign investment in education.

Opportunity beckons

The Indian government allocated about US$8.6 billion to education for the current financial year. But considering the significant divide between the minority of students who graduate with good education and the vast majority who struggle to receive basic elementary schooling or are deprived of it altogether, private participation is seen as the only way of narrowing the gap. Indeed, it is estimated that the government’s scope for private participation is almost five times the amount spent on education.

CLSA estimates that the total size of India’s private education market could reach US$70 billion by 2012, with an 11% increase in the volume and penetration of education and training being offered.

The K-12 segment is the most attractive for private investors. Delhi Public School operates approximately 107 schools, DAV has around 667, Amity University runs several more, and Educomp Solutions plans to open 150 K-12 institutions over the next four years. Coaching and tutoring K-12 students outside of school is also big business, with around 40% of urban children in grades 9-12 using external tuition facilities.

Opening the doors

Private initiatives in the education sector started in the mid-90s with public-private partnerships to provide information and communications technology (ICT) in schools. Under this scheme, various state governments outsourced the supply, installation, and maintenance of IT hardware and software and teacher training and IT education in government or government-aided schools. The central government has been funding this initiative, which follows the build-own-operate-transfer (BOOT) model, under the Sarva Shiksha Abhiyaan and ICT Schools programs. Private companies such as Educomp Solutions, Everonn Systems, and NIIT were among the first to enter the ICT market, which is expected to be worth around US$1 billion by 2012.

Recently, the central government invited private participation in over 1,000 industrial training institutes and offered academic and financial autonomy to private players. Companies such as Tata, Larsen & Toubro, Educomp, and Wipro have shown a keen interest in participating in this initiative.

Regulatory roadblocks

Education in India is regulated at both central and state government levels. As a result, regulations often differ from state to state. K-12 education is governed by the respective State School Education Act and the Central Board of Secondary Education (CBSE) Rules and Regulations concerning affiliation and/or any other affiliating body’s rules. Under current regulations, only not-for-profit trusts and societies registered under Societies Registration Act, 1860, and companies registered under section 25 of the Companies Act, 1956, qualify to be affiliated with the CBSE and operate private schools.

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While the K-12 segment accounts for the lion’s share of India’s educational market, weaving through the complex regulatory roadmap to qualify for affiliation poses serious difficulties for investors. The CBSE requires privately-funded schools to be non-proprietary entities without any vested control held by an individual or family members. A school seeking affiliation is expected to have a managing committee controlled by a trust, which should approve budgets, tuition fees, and annual charges. Any income accrued cannot be transferred to the trustor school management committee, and voluntary donations for gaining school admission are not permitted.

Schools and higher education institutions set up by the trust are entitled to exemptions from income tax, subject to compliance with section 11 of the Income Tax Act, 1961. To qualify for tax exemptions, the trust needs to ensure that its predominant activity is to serve the charitable purpose of promoting education instead of the pursuit of profit.

Alternative paths

Alternative routes do exist for investors seeking to avoid the web of regulatory barriers that constrain their involvement. Sectors such as pre-schools, private coaching, tutoring, teacher training, the development and provision of multimedia content, educational software development, skill enhancement, IT training, and e-learning are prime sectors in which investors can allocate their funds. These areas are attractive because they are largely unregulated while they relate closely to the profitable K-12 segment. As such, they make attractive propositions for private investors interested in taking advantage of the burgeoning demand for quality education. Companies such as Educomp Solutions, Career Launcher, NIIT, Aptech, and Magic Software, are market leaders in these fields. Educomp recently acquired a large number of educational institutes and service providers across India. It has also formed joint ventures with leading higher education groups, including Raffles Education Singapore, to establish higher education institutions and universities in India and China. Furthermore, it has entered into a multi-million dollar collaboration with Ansal Properties and Infrastructure to set up educational institutions and schools across the country and closed an US$8.5 million deal to acquire Eurokids International, a private provider of pre-school educational services in India. Gaja Capital India, an education-centric fund, has completed three education services companies in India. NIIT and Aptech, meanwhile, are engaged in the IT training business.

Core Projects and Technology is also focusing heavily on India and is likely to bid to take over, upgrade and run public schools for specified periods on a public-private partnership basis.

Higher hurdles

While state governments are largely responsible for providing K-12 education in India, the central government is accountable for major policy decisions relating to higher education. It provides grants to the University Grants Commission (UGC) and establishes central universities in the country. The UGC coordinates determine and maintain standards and the release of grants. Upon the UGC’s recommendation, the central government declares an educational institution’s status, which once authorized, is entitled to award degrees.

State governments are responsible for establishing state universities and colleges and have the power to approve the establishment of private universities through State Acts. All private universities are expected to conform to the UGC guidelines to ensure that certain minimum standards are maintained.

Amity University in Uttar Pradesh is one of the private universities to open its doors. The Uttar Pradesh state legislature approved it on 12 January 2005 under section 2(f) of the University Grants Commission Act.

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Not-for-profit and anti-commercialization concepts dominate higher education fee structures. To prevent commercialization and profit-making, institutions are prohibited from claiming returns on investments. This, however, does not pose a hurdle for universities interested in mobilizing resources to replace and upgrade their assets and services. A fixation of fees is required by the guidelines prescribed by the UGC and other concerned statutory bodies. For this purpose, the UGC may request the private university’s relevant information, as prescribed in the UGC (Returns of Information by Universities) Rules, 1979.

In line with Fee Fixation’s policy in Private Unaided Educational Institutions Imparting Higher and Technical Education, two types of fees are required: tuition fees and development fees. Tuition fees are intended to recover the actual cost of imparting education without becoming a source of profit for the institution’s owner. While earning returns on investment would not be permissible, development fees may provide an element of partial capital cost recovery to the management, serving as a resource for upkeep and replacement.

Legal precedents

To be awarded university status by the UGC, institutions must comply with the objectives outlined in the Model Constitution of the Memorandum of Association/Rules and ensure that no portion of the income accrued is transferred as profit to previous or existing members of the institution. However, payments to individuals or service providers in return for any service rendered to the institute are not regulated.

In this context, recent court judgments on private universities are relevant. In Unnikrishnan JP v State of Andhra Pradesh, the Supreme Court introduced a scheme regulating the admission and levy of fees in private unaided educational institutions, particularly those offering professional education. The ruling was later notified of the fee policy.

Subsequently, in the case of Prof Yashpal and Anr v State of Chattisgarh and Ors in 2005, the Supreme Court assailed the Chattisgarh government’s legislation and amendments abused by many private universities. It was contended that the state government, simply by issuing notifications in the Gazette, had been establishing universities indiscriminately and mechanically without considering the availability of any infrastructure, teaching facilities, or financial resources. Further, it was found that the legislation (Chhattisgarh Niji Kshetra Vishwavidyalaya (Sthapana Aur Viniyaman) Adhiniyam, 2002) had been enacted in a manner that had completely abolished any UGC control over private universities.

The Supreme Court concluded that parliament was responsible for ensuring the maintenance and uniformity of higher education institutions to uphold UGC’s authority. Following the judgment, only those private universities that satisfied the UGC’s norms could continue operating in Chattisgarh.

Professional institutions

Professional and technical education in India is regulated by professional councils such as the All India Council for Technical Education (AICTE). Established under the AICTE Act, 1987, AICTE gives recognition to courses, promotes professional institutions, provides grants to undergraduate programs, and ensures the coordinated and integrated development of technical education and the maintenance of standards. The AICTE has recently exerted pressure on unrecognized private technical and management institutes to seek its approval or face closure.

A single bench decision of the Delhi High Court in Chartered Financial Analysis Institute and Anr v AICTE illustrates the far-reaching implications this kind of pressure can have on all institutions operating independently of the AICTE. The court found that the Chartered Financial Analyst Institute, a US-based organization, was engaged in imparting technical education and that its charter, though not described as a degree or diploma, was nevertheless descriptive of the candidate attaining an academic standard, entitling him to pursue further courses, and achieve better prospects of employment in the investment banking profession. The AICTE argued that the Chartered Financial Analyst Institute fell within the ambit of its regulation and was therefore obliged to submit to the regulatory body’s jurisdiction. The Delhi High Court upheld the AICTE’s view that the Chartered Financial Analyst Institute did qualify as an institution imparting technical education.

This judgment may have emboldened the AICTE to proceed against many other establishments on its list of unapproved institutions. It holds particular significance since despite not granting degrees and diplomas, the Chartered Financial Analyst Institute was still deemed by the court to be covered under the description of a “technical institute.”

Enthusiasm grows for foreign participation.

While regulators such as the AICTE continue to exercise influence in the Indian education system, the sector is expected to witness a surge in foreign investment and perhaps a reduction in the number of regulatory roadblocks resulting from the central government’s enthusiasm for overseas investors. Foreign direct investment in higher education could help reduce government expenditure. There is a consensus that education should be opened for domestic and foreign private participation.

The entry of foreign educational institutions into India will be covered by the new Foreign Education Providers (Regulation for Entry and Operation) Bill. The bill seeks to regulate the entry and operation of foreign education providers and limit the commercialization of higher education. Foreign education providers would be given the status of “deemed universities,” allowing them to grant admissions and award degrees, diplomas, or certificates.

Operationally, the bill proposes to bring foreign education providers under the administrative umbrella of the UGC, which would eventually regulate the admissions process and fee structures. Since these foreign institutions will have to be incorporated under central or state laws, they will also be subject to reservations’ government policies. The bill is pending approval from the Indian Parliament, but it is unclear if the present government will take it for a vote before the general elections in 2009.

Innovative structures unlock profitability.

The regulatory restraints on running profitable businesses in the K-12 and higher education sectors have driven Indian lawyers to devise innovative structures that enable private investors to earn returns on their investments. These typically involve establishing separate companies to provide a range of services (operations, technology, catering, security, transport, etc.) to the educational institution. The service companies enter into long-term contracts with the trust operating the institution. Payments made by the trust to the service companies must be comparative and proportionate to the services rendered by such companies. Furthermore, to qualify for tax exemptions, the expenses paid by the trust to the service companies must not exceed what may reasonably be paid for such services under arm’s length relationships.

Despite the regulatory constraints, the Indian education sector is on a path of exponential growth. A growing number of private companies are undertaking creatively structured projects in the education business. The level of investor confidence is demonstrated by the recent spate of M&A activity that has taken place.

With domestic players emerging, the education sector is likely to witness consolidation, but at the same time, increasing foreign participation will drive competition and raise standards. Liberalization will continue to intensify as the government struggles to remedy its poor public education system and provide quality institutions to educate India’s masses.