Caught between a rock and a hard place

The current university operating model – a combination of research and learning, degree programmes, and schools organised into faculties – has remained virtually unchanged since the 18th century. The business model is based on a cost function of that era, where high investment in arduous travel and the necessity of physical presence for access to both teachers and books empowered the “bundling” of courses to amortise the costs of physically attending a university.

Over the decades many refinements have gone into what constitutes a “good bundle” of courses. But the internet, by virtue of being global, instantaneous, mobile, social and free, has unleashed a dizzying array of learning modalities that were not previously possible and essentially disrupt this bundle.

Each component of the bundle can now be provided very effectively by a high-quality specialist at scale. Introductory and vocational style courses are the first target; hundreds have mushroomed on the internet and are eagerly consumed by millions of people globally. The specialists assert that their inexpensive product is better suited for employment, a theme that plays well with large numbers of people concerned about their economic future in an increasingly competitive and fast changing jobs marketplace.

Most universities are between a rock and a hard place. Their complex bundle is expensive. Many of their “core customers” have grudgingly paid up because they have had little choice and brand still matters.

In Clay Christensen’s theory of disruptive innovation, customers of businesses can be viewed as concentric circles, with outer circles representing poorer people or non-consumers who cannot afford the product that is consumed by the innermost circle, the core. New entrants, typically with an inferior product, initially target the non-consumers for whom something is better than nothing. Once established, driven by profit, these new entrants move inwards, aided by an improving product and significant cost advantages. Eventually, customers at the core are sucked away from the incumbents, driving them out of business.

Universities can learn from this disruption. Despite revenues for traditional degrees topping out and choking levels of US student debt, universities are seeking customers, increasingly internationally, who can afford their complex bundles. Many are simultaneously creating revenue-generating programmes that may in effect be masking the deterioration in pricing power of their core product, such as the Bachelor of Arts.

In the meantime, dozens of upstarts are beginning to feast on the low-hanging fruit, using creative formats to teach topics currently in high demand as well as introductory courses in the arts and sciences. Their landscape is ripe with opportunity as they accumulate testimonials from a growing base of students, well above 90 per cent of whom they claim find employment within three months of graduation. Venture capital has entered the fray.

Universities face a difficult choice. What they offer, a branded degree and the social experience of maturing in one’s thinking in a “high-touch” environment are still in demand and will continue to be for the foreseeable future. Moreover, as a society, there are also compelling reasons for us to preserve the traditional role of universities as a public good and the larger role they fulfil in society, including research and knowledge creation.

But it is inevitable that profit motives will drive the upstarts up the value chain to eventually target the “core customers”, as in other industries. It would be unwise for any university to assume it will be able to function with its current business model in the increasingly unbundled world that lies ahead.

Fundamentally, university leaders must recognise that the world has changed forever. Stalling revenue trends at non-elite institutions this time are unlikely to be transient. It is likely to get worse except in major urban centres or at prestigious institutions. While the university’s bundle still has value, it is a depreciating asset that will be subject to persistent price pressure in the future.

Universities must respond. Solutions could involve accepting courses for credit from “partner institutions” that are part of a consortium platform of multiple-member institutions. They could also do well to think in terms of life-long learning enabled by the internet in addition to their current “one shot” focus on 18 year olds. It is conceivable that individuals, via the internet, will develop deep “relationships” with a small number of universities that span their lifetime.

This type of relationship requires thinking about lifetime value and how it should be priced. For example, providing free education for the global masses may be a wise strategy if it leads to good lifetime values over the long run, relative to short-term gains.

Universities must also evaluate those parts of the education “value chain” – admissions, the learning experience and placement – where they have advantages and where their value proposition is vulnerable. With respect to placement, for example as the new entrants build brand, possibly through online reputation systems, testimonials and tracking technology, employers could very well turn to hiring from these sources in large numbers, putting more pressure on universities.

Finally, universities must find a way of encouraging more innovation in research and education. A research university may be able to exercise pricing power in education on the grounds that a higher quality research faculty brings cutting-edge ideas into the classroom. Research can also be monetised through spin-offs, patents and joint ventures with industry, thereby creating a virtuous research cycle.

But perhaps most significantly, universities should create structures for education spin-offs (in specific verticals) including those that the new entrants are targeting. This will require creative incentive schemes and product innovation. By taking equity positions in such spin-offs and providing infrastructure and brand in return, these focused education providers could be an invaluable source of data and innovation for universities while also blunting the threats emerging from the new entrants.

Such a “market” approach will not be without pain for universities, but the status quo is not an option. The internet genie is out of the bottle, creating possibilities and changing expectations for large numbers of people globally. The clock is ticking.

The author is a professor and director of the Center for Business Analytics at NYU Stern School of Business.