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"Harvard Is Not Invulnerable" to Shocks: Faust's Sober Financial Message

11.10.08

President Drew Faust today e-mailed a letter to faculty, students, and staff, highlighting the "extraordinary turbulence still roiling the world’s financial markets and the broader economy" and outlining the "implications for us at Harvard" of the "global economic crisis." Characterizing the situation as "the most serious in decades," she wrote that "heightened volatility and persisting uncertainty have become our new economic reality." Without being more specific, she said Harvard had to "plan for a period of greater financial constraint." The University's message is consistent with those disseminated by other institutions recently (see discussion at "University Endowments: The Gathering Storm," posted November 7, and the front-page New York Times story of November 8, "Colleges Rich and Poor Strain to Respond to Tough TImes"). The full text of Faust's letter is available here.

For the University, Faust wrote, all sources of revenue are likely to come under pressure—endowment income; gifts and research support; and tuition.

Endowment. Without specifying the current value of the endowment (which was $36.9 billion as of last June 30), Faust wrote that "even well-diversified portfolios are experiencing major losses. Moody’s, a leading financial research and ratings service, recently projected a 30 percent decline in the value of college and university endowments in the current fiscal year. While we can hope that markets will improve, we need to be prepared to absorb unprecedented endowment losses and plan for a period of greater financial constraint."

(A decline as severe as Moody's projects would reduce the endowment by $11 billion; using the Corporation's long-term guideline for prudent spending—approximately 5 percent of endowment value annually—that would represent a decline of more than $500 million in yearly spending power. In the fiscal year ended last June 30, Harvard's total revenues were about $3.5 billion, with endowment distributions for operating expenses contributing $1.2 billion; capital and other distributions totaled an additional $400 million. Details are available here and in the University's annual financial report.)

Giving and Research Support. The economic downturn inevitably affects other sources of revenue. "Donors and foundations will be harder pressed to support our activities," Faust noted. "Federal grants and contracts for sponsored research will be subject to the intensified stress on the federal budget." In fiscal year 2008, gifts for current use totaled $237 million (7 percent of revenues), and sponsored support for research, from all sources, $668 million (19 percent).

Tuition and Fees. Of the other principal source of revenue, tuition and fees, Faust wrote, "Tuition remains an important source of revenue, but in times like these we want to keep increases moderate, mindful that many students and families are facing economic strain." Such funds, net of financial aid, totaled $682 million in fiscal year 2008 (20 percent of revenue).

Faust first publicly broached these issues in the Faculty of Arts and Sciences (FAS) faculty meeting on October 21. As on that occasion, in her e-mail message to the community, she stressed that "[W]e are fortunate to be part of an institution remarkable for its resilience. Over centuries, Harvard has weathered many storms and sustained its strength through difficult times. We have done so by staying true to our academic values and our long-term ambitions, by carefully stewarding our resources and thoughtfully adapting to change. We will do so again."

To that end, she outlined principles and core commitments that the University will maintain, even as the deans of Harvard's decentralized schools examine their operations and balance "scenarios for reducing our spending both this year and next."

The first of these is "affirm[ing] our strong commitment to financial aid for our students," both by sustaining the recently augmented aid initiative aimed at undergraduate students from low- and middle-income families and, in the graduate and professional schools, "maintaining financial aid budgets at least at their current levels," all while assuring access to needed loans (even as many banks have reduced lending).

The second is a broad commitment to maintaining the basic research enterprise, in all fields, and continuing "significant investments toward breaking down intellectual barriers across disciplines and across schools to generate new knowledge and to develop new courses and educational opportunities for our students."

Third is a realistic assessment of the workforce (salaries, wages, and benefits account for just under one-half of Harvard's expenses): "Harvard values its reputation as a stable and supportive employer," Faust wrote, "and we view our workforce as a critical part of all we do. We recognize as well the responsibility that comes with being one of the largest employers in the Commonwealth of Massachusetts. At the same time, changing financial realities will require us to look carefully at compensation costs," and so will loom large in any consideration of needed budget reductions.

Not surprisingly, Faust noted that "all aspects of our ambitious capital planning program, including the phasing and development of our campus in Allston" are being re-assessed. (Similar announcements have issued from Amherst, Stanford, and Williams, all of which have acted to defer current construction projects, to freeze new projects at the planning stage, to freeze any new capital requests, or some combination of these steps.)

What exactly Harvard will do, of course, depends on the individual circumstances of each of its decentralized schools. Their financial pictures differ widely. FAS, for instance, relied on endowment distributions for 52 percent of its operating revenue in fiscal year 2008, while receiving sponsored support for research equal to just 11 percent of its budget. The Harvard School of Public Health, in contrast, derived just 13 percent of its operating budget from endowment distributions—but 73 percent from sponsored support for research. The relative strength of the endowment and of federal research funding, in particular, will have very different implications for the two faculties.

Faust's message makes it clear that Harvard's size and past good fortune in no way insulate it from a financial world turned upside down in just the past few months (see "Endowment Edges Up in a Down Year" for the September report—with accompanying caveats—on the positive investment returns recorded in the year ended last June 30). Her letter conveys the challenges of managing the institution and planning for its future in an era of head-snapping volatility and uncertainty. Ordinarily, the Corporation would in November determine the level of endowment funds to be distributed to support Harvard's academic operations in the fiscal year beginning the following July 1. Now, it would seem, that process will be modified. Faust noted that she, the deans, and the rest of her senior management team "are working with administrative and financial deans from across the University to develop new approaches for generating both savings and new revenue sources, building on the ideas and best practices of each of the schools." Thus, even though each school's situation is unique, there is a collaborative process—as for Allston planning, academic planning, and University policymaking in general—for arriving at appropriate decisions across the institution as a whole.

Determining just what those savings and additional revenues are, and ascertaining the endowment's value more precisely over time, will likely inform what decision the Corporation reaches. If the endowment does decline, of course, any distributions reduce its principal further, and so cut more deeply into the resources available for the future; after years of being able to fund enhancements across the University, the administration and the Corporation may now have to rebalance their view of the highest current priorities versus potential future spending.

In concluding her message, Faust emphasized the importance of getting that balance right in an environment unlike anything the community has experienced in recent decades. "For all that has changed in recent weeks," she wrote, "we remain devoted to attracting the very best students, faculty, and staff to Harvard. We will undertake the daily work of education and scholarship with the same intensity and imagination. We will set our academic sights just as high, and we will ensure that the ambitions and vibrancy of our community and the strength of its commitment to the pursuit of truth remain unsurpassed."

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