Unitec in Auckland has gone from a level one institute to a level two.
But the polytech said the lower grade was not related to the organisation's controversial overhaul and restructure, which began last year.
In its review of Unitec in 2011, the Qualification Authority expressed great confidence in Unitec's capacity to assess students' work.
But the latest review, released by the authority yesterday, raised serious concerns about how the polytech moderates those assessments.
It said the performance had been so poor improvement plans have had to be put in place.
And in May this year the authority imposed a condition on the polytech's consent to assess some papers.
Unitec chief executive Rick Ede said he was taking the report very seriously.
"With the recategorisation, what the NZQA has shown is that overall we are doing a great job, but there is a degree of variability between the really good areas of practice and some of the areas we need to get better in."
"It's that variability which has driven the change from highly confident in education performance to confident," Mr Ede said.
The polytech is going through a transformation in the way it delivers education.
A survey in August showed staff morale was critically low, with staff describing the environment as ruthless and chaotic.
Review proof that Unitec transformation working - CEO
Dr Ede said Unitec was working to future-proof education by changing the way people learn.
He said the latest review showed the transformation was working.
"The encouraging thing is that a number of the areas which have been identified in the report we were already aware of, and had already started improving."
"In fact the transformation that we are undergoing has actually been the source of some of the improvements we are putting in place," he said.
Tertiary Education Union president Sandra Grey said the downgrade was disappointing.
"The big concern for us is that this downgrade has come not at the end but in the middle of a major transformation project and one that staff said all along said had some problems and would affect students learning."
Ms Grey hoped the review would make senior management realise they needed to talk to staff before making big decisions.
"This is the time to go through the report and look at the causes, but I think we need to be critical of ourselves and the institution."
"Staff need to be taken seriously and unfortunately our experience has been that the senior leadership team have not taken seriously staff concerns," Ms Grey said.
In the review NZQA said it accepted Unitec was actively working to strengthen all areas in its performance, and making improvements for the next external evaluation and review in four years.
Unitec in considerable trouble
Former Unitec lecturer and Green Party member David Clendon said the review could be damming for the polytech.
"To my knowledge it's the first time a public institution of this scale has been lowered from Level One to Level Two.
"The review identifies the major failing of management and the senior leadership team at Unitec, they have failed to communicate with their own staff and students about what is going on," Mr Clendon said.
He said there had been a constant programme of change for a few years and staff felt like they were not being involved.
"The design degree was restructured in 2013 and has since suffered something like a 60 percent drop in enrolments - I think they need to take a lesson from that, staff said at the time the new teaching model wouldn't work," he said.
He said the review and subsequent down-grade showed the institute was in trouble.
"It would be timely to take a deep breath and rethink some of ideas and look at their business model to see what needs to be done to improve their misgivings."