On alert: key signs of distress in independent schools

Why is it a pivotal time for the independent school sector ?

The change of government and its move to apply VAT to school fees from January 2025 was an inflection point that was widely anticipated to have a significant impact. But we don’t think people foresaw quite how big that impact would be; this is the most transformational policy change for the sector in living memory. Leadership teams will by now have been able to assess the immediate impact of this change, with good visibility over pupil numbers for the year ahead. As such, if the work has not already been done, it is now essential for schools to be looking ahead to next year and the following years, assessing their health and planning any strategies that may be required to support income streams and manage their cost base to stay viable.

Potential issues that schools must be alert to

Financial fundamentals

Starting with the financial ‘red flags’, the most obvious is an increasing level of short-term debt, including a reliance on increasing overdraft limits. A healthy school should be cash flow positive, receiving income at the beginning of term ahead of making payments for staff, overheads and HMRC. Short-term debt is often a mask for underlying losses that, at an early stage, can be used as a sticking plaster to aid cashflow but do not deal with the underlying problems. Another warning sign should be the use of advance fees to fund losses. Schools may have offered parents the opportunity to pay fees in advance, perhaps even offering a discount for doing so. It’s an attractive option for all parties – at one point helping shield parents against VAT-linked fee increases and also giving schools access to capital without borrowing.

However, these funds should not be depleted. It could lead to a situation where schools are left with running costs and no corresponding cash to pay for them. In a similar manner, it’s often a warning sign if schools are seeking time to pay arrangements with HMRC. This is something we’ve recently seen, with some schools struggling to make their first VAT quarter. More schools are seeking to plug gaps like these by selling off assets including buildings and sports fields to developers, cashing in endowments or seeking donations. But, as we’ve discussed in previous articles, this is clearly a one-off short-term solution that must be used effectively to bridge to a viable business plan rather than fund ongoing losses.

Operational warning signs

The attitudes and actions of school senior leadership teams, or lack of, should also be something to scrutinise. In the face of a rapidly evolving operating environment, schools need to be open to change. But it might be that they are not as flexible or adaptive as they should be, and are ‘stuck’ in ways that, unless addressed, could exacerbate or perpetuate unsustainable situations. In these circumstances, it might be valuable to bring in an expert third-party partner to run an analysis of a school’s position and forecast its future performance and financial and operational viability. The best partners will also be able to develop a contingency plan as part of this forecasting process. These plans are something that every school should have in place and will set out potential steps to take to try and return a school to a sound operational footing should certain negative situations arise – from minor pressures all the way to worst-case scenarios.

They might not ever be needed, but just having one can be an incredibly powerful way of sharpening leaders’ minds as to the variety of risks their school could face and preparing them for the types of difficult decisions they might need to make. It also empowers schools to take decisive, proactive action at the earliest signs of trouble – something that is one of the most important factors in any turnaround or rescue scenario. Indeed, it’s a warning sign in and of itself if leadership teams are aware of a financial and operational issue but choose to look the other way, instead hoping the problem will disappear on its own.

Warning signs aren’t just to be found in management information – they can also be seen in a lack of governance and preparedness, and in a culture that chooses to maintain the status quo rather than address challenges head on.

Philip Watkins Partner Restructuring Advisory

Moving fast, and having expert advice

On the subject of decisions, school leaders and boards should be structured so that they have close oversight of operational and financial health and are able to respond quickly to early signs of cracks. In ‘normal times’, quarterly meetings of the full board and sub-committees could be appropriate, but in operating conditions like these more frequent engagement is advisable. A lack of such oversight, or an informal process, is a red flag. It’s also vital that leaders are aligned, armed with the necessary skills to navigate their current operating environment – and it is another potential warning sign if these aren’t in place. After all, this is not the ‘business as usual’ environment that boards are used to and schools may not have the required skill set in place to deal with such challenging times. Addressing skills gaps might again require bringing in outside advice or even making new permanent appointments to leadership teams or boards to add people with experience in navigating the specific challenges schools face.

Guardrails – duties, data and decision-making

When thinking about operational and financial risks and actions they might take to address them, school leaders and bursars must always be mindful of the governors’ statutory obligations. These should form ‘guardrails’ – shaping, but also containing, decision making so that what might start as undesirable financial issues don’t end up as breaches of duties.

Charity law

The first set of such ‘guardrails’ where a charity is in difficulties concerns duties under charity law. That sets out several important duties for leaders, perhaps the most pertinent of which is an obligation to protect and preserve the school’s charitable assets. Fundamentally, that means not making operational losses; if your school is making losses, its assets are at risk. Schools must not continue incurring operational losses indefinitely without a credible and deliverable plan to return them to financial viability – whether that involves a turnaround, charitable merger sale as a going concern, or in the event that a longer term viable solution is not achievable, seeking to preserve or maximise the value of assets through an orderly closure. Another important duty under charity law is to act with reasonable skill and care; making reasonable decisions based on good information. Financial and operational decisions must be based on good management information and this will particularly be the case when assessing future pupil numbers, revenues and funding requirements.

Insolvency and corporate law

If a school is facing insolvency, or the likelihood of insolvency, the duties of the governors to creditors under insolvency law supersede their duties to their pupils as the charity’s beneficiaries. Often, we see an understandable drive from school leaders to continue operating the school and delivering education, no matter the circumstances. In extreme situations if governors act ‘recklessly’ or worsen creditors’ overall financial position after a point where insolvency is inevitable, it could lead to governors becoming personally liable for the school’s debts. At the same time, the Companies Act 2006 requires every director to avoid a situation where they have a conflict of interest with the company they have responsibility for. Such conflicts can arise in the simple cases where governors have children at the school. These governors should be vigilant for this and, after taking legal advice, be ready to absent themselves from any discussions and votes that could result in the closure of the school following a loss of viability.

Next steps

Warning signs aren’t just to be found in management information – they can also be seen in a lack of governance and preparedness, and in a culture that chooses to maintain the status quo rather than address challenges head on. School bursars are perfectly positioned to review all potential issues, whether financial or operational, and to take prompt action in addressing vulnerabilities, in whatever form they take. While this might not necessarily mean schools avoid any sort of consequence from challenging conditions, it nearly always means the outcome is better than it would have been if leadership teams and governors had been slow to react, or responded without the necessary support and expertise.

As just one example, the bursar of a leading independent prep school that had falling pupil numbers and financial deficits was concerned that their board simply didn’t grasp the gravity of the situation. They wished to highlight the issues the school faced and identify potential solutions. In developing a simple paper that outlined the challenges and reminded the board of its statutory duties and ‘guardrails’ the problem could be identified and the parameters established in which a solution could be explored. Eventually, the school successfully merged with another, providing stability for its pupils. Without the bursar’s intervention and proactivity, it’s highly unlikely such a positive outcome could have been secured.

First published in The Bursars Review in June 2025