A report by the independent watchdog on the Further Education Funding Council confirms earlier warnings that a record number of colleges are in danger of going bust.
It also raises doubts about how far individual college managers should be left to the whims of the marketplace. More intervention by the FEFC may be needed to prevent duplication of courses and funding, it says.
According to the NAO report, "83 colleges could not cover current liabilities in 1995-96." Colleges have seen their assets dwindle by an average Pounds 540,000 (6 per cent) since 1993-94.
Many colleges are weak in analysing their needs and when problems arise, they are too slow to act on them. The number of colleges in deficit rose from 214 in 1993-94 to 280 last year.
"Poor financial health at a college appears to be the result of the circumstances applying to individual colleges and their management, rather than sector-wide factors," says the report.
Four in 10 colleges were unable to reassure the FEFC that they had control of their finances. "It is important for the FEFC to ensure that they receive timely and reliable financial returns from colleges."
The funding methodology had helped to achieve the growth sought by the Government and had led to significant increases in efficiency. But the NAO could still not say what impact the funding regime - designed to help colleges to survive and grow in the marketplace for almost four years - has had on colleges overall.
"It was seen in the sector as an incentive to improve retention and achievement, but it was too early to say what impact this has had on college performance," says the report.
The FEFC had been effective in ensuring sufficient and adequate facilities in FE, but there were still significant gaps in provision and scope to improve assessment.
New FEFC arrangements for ensuring quality were working, the NAO said. Two-thirds of all colleges inspected had received one of the top two grades for curriculum areas and cross college activities.