Pre-K Program Attracts Investors Out for Returns

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An unusual partnership involving Goldman Sachs, a school district in Utah, and several community charities to expand the school system’s early-education program is intended to save taxpayers money and provide a financial return for investors.

This fall, Goldman Sachs and the investor J.B. Pritzker will pay for the expansion of an early-childhood program in the 67,000-student Granite district through a social-impact bond, also known as a pay-for-success loan. Social-impact bonds are loans that seek to achieve a positive social outcome, and reduce future costs, by investing in prevention and intervention programs in the public sector.

If successful, the venture would be the first investment of this kind to finance a public school program, according to officials at Goldman Sachs, which has its headquarters in New York City but whose second-largest office is in Salt Lake City.

But the arrangement also raises questions among some experts in early education and school finance, who wonder whether the investment model might encourage the district, and others tempted to try something similar, to change school policies in ways designed to produce greater financial returns.

The investment of $7 million over eight years will help increase the size of the preschool program in the Granite district, located south of Salt Lake City. Data collected by the charity Voices for Utah Children indicate that students who go through the program are less likely to need expensive special education later in their academic careers.

Schools in Utah receive roughly $2,600 per year from the state for each student who requires special education. According to experts in the field, and to school officials who helped arrange the investment model in the Granite district, many students are placed in special education simply because they trailed their peers academically upon entering elementary school.

Enrollment Boost

The idea behind the preschool investment plan is that if fewer children start school behind their peers, the district will save money on special education costs. Though the money saved is state funding, district officials hope that by demonstrating that such savings are a result of the preschool program’s expansion, they will be able to persuade state lawmakers to pass the savings on to the school system, where it will be used to pay back the loan, plus 5 percent interest.

Before receiving money from Goldman Sachs and Mr. Pritzker, the district lacked the funding to extend its program and serve all the children on its waiting list. The first year’s $1 million investment will create capacity, allowing the preschool, which currently serves 3,000 pupils in 45 schools, to enroll 450 to 600 more this fall.

“The basic idea is to take a proven operator with a proven program and have investors pay to expand it. We can track the impact of [the program] to the kids and tie repayment of investors to that actual performance,” said John Goldstein, the managing director of Imprint Capital, a San Francisco-based company that is advising the J.B. and M.K. Pritzker Family Foundation on the creation and administration of the Early Childhood Innovation Accelerator project, of which the Utah social-impact bond effort is a part.

J.B. Pritzker is the co-founder, along with his brother, Tony, of the Pritzker Group, a private investment firm based in Chicago. He is also a venture capitalist and the former co-chairman of Hillary Clinton’s 2008 presidential campaign.

Goldman Sachs became aware of the Granite district several years ago after awarding the school system a grant to study the impact of its preschool program. Based on the results, Goldman Sachs saw an opportunity for its Urban Investment Group to invest in the program. “The results show they have an incredible track record, so we began talking about how that data might make a case for developing a sustainable financing model,” Andrea Phillips, a vice president in Goldman Sach’s Urban Investment Group, said.

In addition, Goldman Sachs’ and Mr. Pritzker have agreed to absorb all the risk: If the program does not reduce special education expenses, the investors, not the district, will eat the cost.

Any savings by the Granite district are expected to be calculated by the Early Intervention Research Institute at Utah State University, with which the United Way of Salt Lake is working out final details of a contract. The institute will serve as a third-party evaluator of the program, ensuring that repayment of the loan is tied only to actual student performance. The United Way is serving as an intermediary between the investors and the district.

“What we’ve tried to do in the repayment structure is to remove any financial incentive for anybody to push kids one way or another,” said Bill Crim, the vice president of collective impact and public policy at the United Way of Salt Lake.

Cautionary Notes

The district will test children at the beginning of the preschool program to identify those who might need special education. For every student identified in that category before preschool whose achievement rises to grade level in subsequent annual benchmark tests, the investors will receive repayment equal to the amount the district saves on special education.

Because the repayment is tied to the performance of the preschool program, some observers ask whether the investors will be able to affect preschool policy if savings don’t appear at the expected rate.

Michael Griffith, the senior school finance analyst for the Education Commission of the States, a research and policy organization in Denver, said it’s important when dealing with public-private partnerships to define the amount of control the private partner has.

“Donating money and loaning money are treated very differently, and this is a rare mixture,” he said. “Is it about loaning money and trusting the school district, or, if the results aren’t as good as expected, are the investors going to demand that changes be made?”

Steve Barnett, the director of the National Institute for Early Education Research at Rutgers University in New Brunswick, N.J., echoed those concerns, expressing worry that the deal is based on overly optimistic projections of the program’s success rate.

“It’s true that high quality preschool programs can reduce special education costs,” he said, “but [the projections] aren’t consistent with the larger body of evidence.”

The district has until the students complete 6th grade to pay off the loan. If the district pays it off early, Goldman Sachs and Mr. Pritzker will, combined, receive 40 percent of any additional savings, and the district will keep the other 60 percent. Once the students complete 6th grade, any further savings will go solely to the district.

Seeking State Backing

Mr. Griffith warned that those success payments, through which Goldman Sachs and Mr. Pritzker could make much more than 5 percent on their investment, might cause controversy if the amount is high enough. “Anything above a 5 to 7 percent return and you’re going to have people start saying, ‘I can’t believe we’re sending education money there,’ ” Mr. Griffith said.

District officials, however, say that their focus is solely on the success of the students, and that the returns for investors don’t affect their objectives or methods.

“On the implementation end, we’re not concerned about the investment return at all,” said Brenda Van Gorder, the director of Granite’s preschool services . “It’s important to me to make sure that the money shows up and is being used without the influence of the investors.”

One major difference between the partnership in Utah and most social-impact bonds is that the state government is not yet a player in the Granite preschool venture. Because social-impact bonds require public money and affect public policy, governments typically act as key intermediaries between investors and program providers.

Initially, the backers of the Utah venture planned to set up a loan-repayment account funded by the state using the money that otherwise would have gone to the district for special education costs.

However, a bill that would have freed up state funding for those loan repayments proposed by state Sen. Aaron Osmond, a Republican who represents a district just south of Salt Lake City, failed a Utah Senate vote in March. The measure is expected to be considered by the legislature again early next year.

For now, Goldman Sachs and Mr. Pritzker have decided to go ahead with the preschool investment on the assumption that the bill will pass in the next session.

Because the district won’t receive state funding for students who are kept out of special education, for the first year the loan-repayment fund will be backed by a $1 million contribution from the United Way and $350,000 from the Salt Lake County Council. Backers of the effort hope that by the time that aid runs out, the state will pass a law allowing state money to fund the account.

Model for Others?

Because social-impact bonds originated in the United Kingdom, and have existed in the United States only since 2012, the Utah venture could serve as a test for whether the investment model can work in education.

Organizations that track and support the use of social-impact bonds say that early education stands out as a logical place to experiment with the new financing structure because high-quality early-education programs provide clear and quantifiable results relatively quickly.

According to Kristin Giantris, who leads the pay-for-success branch of the national Nonprofit Finance Fund, a New York City-based nonprofit, the ability to see financial results quickly is especially important in proving the viability of social-impact bonds.
“In terms of structuring a deal, I know I can monetize decreases in special education costs,” she said. “The early deals in pay-for-success should be ones that are the easiest to execute and measure for the sake of establishing a precedent in the market.”

Advocates of social-impact bonds hope that by proving the viability of such an arrangement, the Utah venture also will encourage investors and governments to back longer-term partnerships that track the benefits of social investment.

Robert Dugger, a former venture investor and current co-chairman of the advisory board at ReadyNation, a Washington-based group that encourages private investment in public projects, said that as more social-impact bonds are successfully executed, more funding possibilities will open up in education.

“I’m certain that as we get some examples developed, and schools deepen their own cost-structure analysis,” he said, “we’ll find pay-for-success possible in elementary and middle school.”