Better-than-Balanced Books

Faster revenue growth, plus expenses rising at almost the same rate, yielded an operating surplus of $43.6 million for Harvard’s fiscal year ended June 30, up slightly from the $36.8 million surplus reported for 2004. In reviewing the latter results a year ago, vice president for finance Ann E. Berman, Harvard’s chief financial officer, had forecast “probably similar” outcomes this fall. The bottom lines were similar, but not the paths that led there.

Revenue rose 7.8 percent, to $2.8 billion. Reviewing the audited financial statements (the University’s formal report will appear, as usual, in November), Berman pointed to several surprises. In a competitive environment, federally sponsored research support, including overhead costs, rose nearly $38 million, or 7.9 percent. Gifts for current use jumped $34 million, or 22 percent (see “Generous Givers”). Other contributing factors included a $47-million increase in endowment income distributed for operations (this totaled $855 million, plus the special $106-million allocation of endowment capital for Allston campus development); a $21-million increase, to $308 million, in graduate-student income, driven by higher tuitions and slightly larger enrollments; and a $10-million gain in revenue from continuing and executive education.

Reported expenses grew 7.7 percent, to $2.76 billion — well above the 5 percent level of the preceding fiscal year. Salaries and wages (the University’s biggest category of expense, approaching $1.1 billion) increased 5.5 percent. Employment was virtually flat, reflecting some reductions in the workforce (in the central administration and Radcliffe Institute, for example), offset by hiring elsewhere. The $314-million employee benefits line rose just 3.1 percent — startling in an era of soaring healthcare and pension-funding costs. The cost trends are greater, Berman said, but the financial statements understate them: adoption of the new Medicare prescription-drug benefit reduced costs $11 million in fiscal 2005, and the University’s shift to self-insurance for its health plans also affected this expense line.

Offsetting those favorable expense factors were one unusual and two recurring items. “Other” expenses leaped more than 12 percent to $557 million; these included the $26-million settlement of a federal lawsuit concerning Harvard’s economic advisory services in Russia (see "Russia Case (and Dust) Settle"). Among normal items, space and occupancy costs rose 11.4 percent, to $296 million, as new facilities came on line and energy and security costs increased; depreciation increased in step, rising $14 million to $197 million. Undergirding the building boom, debt outstanding increased by a quarter-billion dollars, to more than $2.8 billion, with cash interest payments rising to $95 million in 2005, versus $77 million in the prior fiscal year.

Overall, Berman said, Harvard’s 2005 results reflected two prior years of fiscal caution, when weak investment results prompted the Corporation to curtail distributions from the endowment, the single largest source of operating revenue. Now, after the endowment distribution increased 5.8 percent in 2005 (with a planned aggregate rise of 8 percent in the current year), Berman is convinced that spending on faculty growth, financial aid, and construction “will rise faster in 2006.” And because back-to-back “great” endowment returns (see "$tellar Swan Song") have pushed the distribution rate down to 4.3 percent, below the Corporation’s long-term goal of 4.5 to 5.0 percent of market value, the recent rate of increase in payout may be extended into fiscal year 2007.

In some quarters, that would be welcome news. Faculty of Arts and Sciences (FAS) dean William C. Kirby wrote to his colleagues on September 23 that growth in the professorial ranks — from 636 in January 2003 to a projected 700 by this New Year’s — had led him to at least tap on the brakes. The growth, while long sought, has “occurred even more rapidly…than we had anticipated in our academic and financial planning.” Accordingly, he intended to “ensure that our numbers remain constant or grow more moderately” this year.

That “financial planning” refers in part to physical facilities: laboratory buildings for scientists, other new faculty offices, library and other renovations, spending on student cultural, extracurricular, and social spaces, and more — a construction budget alone of perhaps three-quarters of a billion dollars. For FAS, that represents future debt service amounting to annual payments of $50 million or more by some estimates (not to mention added operating expenses), for which funding — and fundraising — must be secured.

Factors like these, duplicated to varying degrees in other Harvard faculties, underlie the probability that spending will accelerate — before counting Allston planning, debt, and construction costs. In light of Berman’s announced intention to step down next spring (see "University People"), the responsibility for sustaining the University’s financial strength will fall to new hands.