On February 8, 2016 a joint letter from the Senate Committee on Finance, the House Committee on Ways and Means and the Oversight Subcommittee of the House Committee on Ways and Means sent a letter to 56 academic institutions. All of these institutions have endowments of more than $1 billion. The letter noted that a recent study by the National Association of College and University Business Officers indicated that average investment returns during 2014 were 15.5 percent and the average payout from these endowments was 4.4 percent. “Despite these large and growing endowments, many colleges and universities have raised tuition far in excess of inflation.”
The letter further indicated that the congress is conducting an inquiry into the activities of colleges and universities related to the numerous tax preferences they enjoy under the Internal Revenue Code—i.e., their tax-exempt status. These committees have jurisdiction over federal revenue measures, and as a result, they have authority to conduct oversight of activities within their jurisdiction. In other words, they are trying to figure out if changes should be made to the tax code to fix a problem, if indeed a problem exists.
The government asks that each institution answer a total of 13 questions dealing with such subjects as endowment management, endowment spending and use of funds, donations, and conflicts of interest. I have obtained a copy of the letter and will, over the next few blog posts, examine each question. Hopefully, this will inform readers about endowment operations and the viewpoint of those outside of the academic industry.
On the subject of endowments, there are more statistics than exist even in baseball (where you can learn a player’s batting average during the day when batting after the 6th inning with a teammate on either second or third base!). The annual study by the National Association of College and University Business Officers reported on the endowment wealth of 832 institutes of higher education. Nearly 11 percent of the colleges hold almost 75 percent of all endowment wealth. Of the 56 institutions with endowments over $1 billion, 13 (23 percent) are in New England. Obviously, a small number of institutions are much wealthier than the rest. Today, that paints a large target on your back regardless of the reasons why that might be the case.
Congress is fixated on the 15.5 percent average investment return in 2014 and compares it to the 4.4 percent spending rate. Congress does not mention the 2.4 percent average investment return in 2015 coupled with the 4.2 percent spending rate. And in 2013, the average investment return was a negative 0.3 percent while spending was approximately the same.
In addition, although Congress notes that tuition is increasing faster than the rate of inflation, it apparently is not interested in investigating that fact. Congress is more interested in the large sums of money in some endowment funds. I may be cynical, but this looks more like our government’s continual attraction to money wherever they see it and no relation to the high cost of education. Do wealthy endowment funds look like a revenue opportunity to our government?
Endowment returns correlate with endowment size. Yes, size matters! The wealthier institutions have the larger average returns. Ask any investment advisor why this is so, and you will hear about the advantages of investment diversification. The more diverse your investment portfolio is, the more likely you are to have some very good returns along with some mediocre returns. The wealthier you are, the more diverse your portfolio can be. This is true for individuals as well as academic institutions. It is an investment fact of life. It cannot be changed, although policies may be enacted to financially punish those with the highest returns. In the for-profit world, these policies are called taxes.
The average endowment size is $651.5 million. This is heavily impacted by the 56 largest endowments. The median endowment size is actually only $115 million. This begins to sound like the wealthy 1 percent of the nation’s individuals—and you know what sort of discussions that statistic is causing. However, there are statistics that temper these. The institutions with the largest endowments used their endowment income to fund an average of 16.5 percent of their budgets, while institutions with the smallest endowments use their income to fund only 4.7 percent of their budgets.
Of course, the gap between wealthy universities and the rest of the pack is widening at an ever faster pace, leaving low-endowment institutions in the lurch. The 40 wealthiest institutions grew their assets by 50 percent over the last five years—12 percent more than moderately wealthy institutions and 28 percent more than the least wealthy colleges. Think of two snowballs at the top of a hill, one 50 percent larger than the other. When they roll to the bottom of the hill, the one that started off 50 percent larger will likely be 200 percent larger at the bottom. This is another financial investment fact that cannot be altered without what some would consider drastic actions.
This is just a brief introduction to the issue. In future posts, I will look at each of congress’ 13 questions and try to decide what potential responses might be better than others. This will be interesting.