The European Middle and High School - A Non-Profit Institution Confronts the Free Market

Vienna's European Middle and High School was facing many challenges in its efforts to secure a new location. The school was a not-for-profit entity and though it had acquired substantial financial reserves recently, it was struggling to raise the capital to buy a bigger, more modern facility in the city's very expensive property market. Professor of Strategy Bruce Kogut presents an intriguing example of a non-profit institute being forced to navigate a financial and ethical minefield when negotiating with a hard-nosed, quite definitely for profit investment bank regarding a large and well-located building the latter owned.

by Bruce Kogut
Last Updated: 23 Jul 2013

(Note: all institutions and individuals described in this case study are entirely fictional.)

Vienna's European Middle and High School (EMHS) was facing many challenges in its efforts to secure a new location. The school, which taught primary and secondary students from over 40 countries, was a not-for-profit entity. Although it had acquired substantial financial reserves recently after years of losses, it faced its share of challenges in raising the capital to buy a bigger, more modern facility in the city's very expensive property market. Parents were often taken aback when solicited by EMHS's board for extra contributions, claiming that tuition fees were quite high enough. But a bigger hurdle for board members would come when trying to negotiate with investment bank Hypotheken-Investment Gmbh (HIG) for a large and well-located building the latter owned.

Professor of Strategy Bruce Kogut presents an intriguing example of a non-profit institute being forced to navigate a financial and ethical minefield when dealing with a hard-nosed, quite definitely for profit company. Even after the introduction of a disinterested negotiator, the EMHS board was left to fend for itself in making many highly risky decisions. First and foremost, the lease contract proposed by HIG stipulated rather high rent and, worse, demanded 20% value-added tax (VAT). (Typical of tax laws in Europe, VAT is not recoverable by non-profits in Austria.)

Moreover, the building would require extensive and expensive renovations. While the school's bank was willing to offer not unattractive credit terms, any adequate loan would tie up EMHS's working capital for years. There were also concerns that the lease would force them to remain at the new location for at least 12 years - a major hindrance if the number of students did not remain more or less steady.

As negotiations progressed, an HIG executive suggested that the school reconsider its not-for-profit status. This major consideration aside, the school's board was deeply split. Acquiring such an appealing property looked good to many members, especially since they would probably own it over a long term and, if recent trends continued, see its real estate value soar. But debt-to-revenue considerations were at the front of others' minds, especially in light of the difficulties recently experienced in fund solicitation from parents.

Meanwhile, the next school year was approaching. HIG had none of the time pressures faced by EMHS. The investment bank's current tenant would be forced to pay millions if it defaulted on its lease agreement. HIG would have no problem finding another buyer, and had already persuaded the school to accept the twelve-year, no-exit lease if it agreed to the purchase. The strictly-for-profit HIG held all the bargaining chips.

INSEAD 2004

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