Actually this is a difficult question.

There is no business in the world without some kind of risk. Even the best run and managed casino in the world has odds against them and occasionally they will lose but on average they win which is the case here. If we look at the risk aspects of running eduoption, it is similar to running a lottery syndicate with a fixed amount of winners and payout adjustable in advance. The odds are constantly changing depending on the takers. Similarly eduoption employs such technique say if many people are purchasing an option with X strike price, the next calculated premium would be adjusted accordingly. While this will not eliminate the risk, it reduces it.

We should also consider the benefits of this eduoption system as a fund raising mechanism for institutions and enlighten this benefit would outweigh the manageable risk. To begin, the traditional sources of income for Universities are students fees, government allocation, rental from land or building lease, IP licenses and some private contribution but the main bulk are the first 2 items. Universities traditionally only have a limited amount of expense items and they seldom venture outside their core business of providing education. These traditional expenses compromising staff salary, maintenance for buildings, equipment which are scheduled and research and development activities. As one can see, given the steady state of the university’s environment, there is really no reason why universities would ever require any extra funding. Universities in general have chosen the convenient path to subsist with minimum accountability to the public in general and answering only to their peers who are in near similar situations. The winds of change came immediately after 1997 when the government cut back scheduled funding. Universities started to look at alternatives such as offering accelerated courses, long distance learning, cutting staff by adapting IT solutions. Limited budgets and increasing competition from new specialized universities, off-shore branches of foreign universities and application of information technology in areas of virtual classrooms are some of the reasons why a traditional university must change or be changed to a lower graded university. As one is aware universities are graded by the number of quality publications and research output rather than by students input/output hence without appropriate funding, there can be no research, no funds to attract the best brains in the fields and resulting in diminishing reputation. These operating constraints will necessity a new financing method from the traditional sources.

Eduoption is unique from a financing point of view as it solicits funds directly from the market without any intermediaries. It is run in real time and there is no limit to the number of options issued. As we said there can only be a fixed number of winners at the end and this is the tool to managing risk..

Say 100 options were sold at a strike price of 13,000 for Yr 5. The university collects 1567 (each) to lock in the course and is expecting to accommodate 50 students in Yr 5. The LLB course is priced at 12,000 today. Say all the options were sold on the first day netting the university 156,700. The University may either reinvest this amount in money market if they do not need the funds immediately earning say 4 percent or 190,649 in Yr 5. Further assuming in Yr 5, the market rate of LLB course is 19,000 because several universities closed their LLB courses 2 years ago leaving great demand in Yr 5 or the university has just hired a top legal lecturer to teach and this lecturer requires a salary 10 times the market adding further cost in Yr 5 or the legal profession is the most promising because doctors want to study it for fear of being sued in Yr 5. Whatever the reasons, its not important. What is important here is that the market price for LLB has moved unexpectedly above the standard deviation range of 5 %.

The University ignored market pricing and fixed its price at 16,000 which it’s the expected price if none of the above scenario happened.

The University fixed its price at 19,000 which it’s the market price because of the various scenarios.

Unlike traditional traded option where the issuer has no control of the market price in the secondary market, the institution in this case decides on the final price at the time of expiry. So effectively Universities have full control of their own cost in particular they can raise the level of entrance. Remember the option is only exercisable when the holder gains entry to the selected course. Another type of option named " transferable open course " option has a premium at least twice the normal option is also offered which enable a student to select any course he is eligible to enter on a competitive basis but this is targeted at those who consider themselves to be the top 1 percent who can choose any courses they want.

Furthermore, the option model is written to provide a fair value which means if we get the parameters right the final price should be correctly compensated by the premium collected. The only time an option model will fail is when we have unprecedented circumstances such as bankruptcy but such risk is on the client and not the institution. As mentioned our model includes other parameters such as course demand, number of options written and so on underlying the pricing mechanism in real time.

However we must caution that an institution can inadvertely risk pricing themselves out of the market if they do not conform to market pricing unless they are very famous education institution where they have no competitors.

But to answer your Q directly, it will be a challenge not because of the simplicity of option pricing but the mindset of a publicly run institution which often relies on government good will rather than actively managing their own financing.