With university endowment funds continuing to
erode, many colleges and universities will be forced to make deep spending
cuts, probably beginning in 2004.
- By Dan McGraw
The stock market goes up, and the stock market goes down.
It's pretty basic economic theory, something even a philosophy
major in Economics 101 can understand. But in the past decade, some
very smart people thought this rule of the stock market had run its
course. Some economists, business journalists, and a whole slew of high-tech
companies' CEOs proclaimed the new infotech economy recession-proof.
This was a "new" economy, they all gushed, and everyone
threw their money into dot coms that never made a nickel and into big
companies who made that nickel and called it a dime.
Colleges and universities were no different. Throughout
the 1990s they saw their endowment funds growing almost exponentially.
The normally conservative endowment funds were seeing consistent double-digit
returns—an average of 20.4 percent in 1997—unheard of in
the slow-and-steady-wins-the-race world of endowment investment. Many
school treasurers started overloading their funds with venture capital
investments and with high-tech-company stock purchases, foregoing the
more conservative bonds, blue-chip stocks, and real-estate funds.
Like the rest of us, many universities got burned. Since
March of 2000, about $6 trillion has been lost in the stock market.
University endowment funds are now looking at the first two-year consecutive
negative earnings since 1974. It is difficult to assess just how serious
the losses are and what effect they will have on their educational institutions.
But nearly everyone agrees that after years of spending
increases, many colleges and universities are going to see some deep
spending cuts starting this year and continuing in 2004. "It's
sad, but I think I've built my last campus building," said
Wake Forest University's Chief Financial Officer John P. Anderson,
who saw the two-year stock market slump drop the school's endowment
from $970 million to $780 million.
The damage runs across public and private universities,
schools large and small. Rensselaer Polytechnic Institute has seen its
endowment drop from $729 million in June of 2000 to $530.9 million in
June of 2002, the end of the fiscal year and the last official tally.
The Massachusetts Institute of Technology lost $775 million, or 13 percent
of its $6.1 billion endowment in 2002. During the past two years, Cornell
University has lost about $200 million out of an endowment of about
$3 billion; Syracuse University lost about $90 million out of about
$1 billion; Ohio State University's endowment has fallen 14.1
percent to $1.1 billion; and Boston University's endowment, now
$585 million, lost 27 percent in 2001 and 13 percent more in 2002.
The losses are already being blamed for cost-cutting
measures. Stanford University has implemented a hiring freeze as part
of a plan to cut 8 percent from its general budget, and has cut its
three-year $1.5 billion capital building plan to $1 billion. In addition,
Stanford is asking departments to cut back their budget by 5 to 10 percent.
MIT halted construction on a new media lab. Duke University plans to
layoff 50 faculty members over the next three years.
How the endowment downturn is going to affect engineering
departments remains speculative at this point, but many trends indicate
that engineering is getting hit harder than other departments and schools.
The steeper decline of the high-tech economy—Internet, telecom,
and software developers—will no doubt cause a parallel decline
of big donors to engineering schools. Engineering departments are also
more cost intensive than, say English departments, and they may bear
a disproportionate share of cuts. Without endowment funds to pay for
million-dollar labs and big compensation packages, engineering schools
may have trouble enticing star faculty researchers—and the grants
that come with them.
At MIT, the Presidential Fellowships Program—which
offers institute-funded graduate fellowships—may have to be reduced
because it is tied directly to endowment spending. Graduate fellowships
are usually tied to research grants, and students must start their research
as soon as they get to campus. But under MIT's Presidential Fellowships
Program, the grad students' first year is paid, and they are allowed
to take that year to find out what research is of interest to them.
MIT used this as a perk to attract some of the best grad students. But
by 2004, MIT expects the program to be scaled back, mostly because of
the shortfall in endowment income.
Endowments at schools can be large or small, and their
influence on the college or university is likewise a big part of the
budget or just a small portion. At some schools, investment returns
are used to pay for up to 35 percent of the school's budget. Others
will be considerably less. But for most schools, the endowment funds
are usually about 10 to 15 percent of the operating budget and are used
for scholarships, research chairs, capital building projects, and as
For some, the amount of endowment money is huge: Harvard
has an endowment of nearly $18 billion; Yale University, $10 billion;
Stanford, $8 billion; MIT, $6 billion; and the University of California,
$5 billion. Endowment managers invest their funds in a variety of ways:
stocks, bonds, real estate, private equity (where firms use the funds
to buy troubled companies), venture capital (investing in new companies),
After the endowment funds are invested, universities track the return
rate. Most schools decide how much to spend after computing the average
return for the past three years. The general rule of thumb is to spend
5 to 6 percent of the endowment's return each year, based on the
three-year average. This allows the schools to smooth out the effects
of short-term market volatility. This three-year average is why spending
was still increasing in 2002, even though the market had already been
in a two-year slide. In 1999 and 2000, most university endowment funds
were still making their double-digit gains. But in 2001, the average
university endowment lost 3.6 percent on its investment, the first negative
return in 18 years, according to the National Association of College
and University Business Officers. In 2002, endowment funds dropped by
another 5.4 percent, according to a survey by the Connecticut-based
Commonfund Group, which manages investments for 1,400 educational institutions.
Most university spending cuts will begin during the next budget deliberations
(for the 2003-04 school years), as the average will now be fixed on
2000-2002, which included the two negative years but also includes the
positive numbers in 2000. But the big cuts are expected in 2004-05,
when all three years figured in the average will be in red numbers.
William Spitz, Vanderbilt University's treasurer, says he expects
spending to rise slightly to $102 million in 2003 and then drop by 12
percent in fiscal 2004, with about $12 million cut from the budget.
Spitz says many schools may be tempted to alter the formula. "The
formula is something you impose upon yourself," he says. "But
you can't be tempted to start drawing on the principle. We had
an awfully lot of good years. And we'll have more good years.
We just have to get through this bump."
But the bump could not come at a worse time. Colleges and universities
are bracing for a "baby boomlet" which will steadily increase
enrollment during the coming decade. According to the U.S. Department
of Education, college enrollment was 15.3 million in 2001 but will increase
to more than 17 million by the end of the decade. This will put pressure
on schools to build dormitories and classroom buildings, hire more faculty
members, and increase services.
While the number of students will be increasing, the amount of money
budgeted by state legislatures for public universities is decreasing.
Many schools are being hit on both sides: Ohio State is dealing with
the 14.1 percent loss in its endowment at the same time the state legislature
has cut its budget by 10 percent. The damage is already starting in
the form of rising tuition. During the 2002-03 academic year, public
colleges and universities have been forced to raise their tuition by
an average of 10 percent over the previous year, according to a study
by the College Board. The same survey found private-school tuitions
rising by 6 percent over 2001-02. Overall, tuition at both public and
private institutions has risen 38 percent in the past decade, a decade
of minimal inflation.
The third problem is the university donors themselves. Many high-tech
moguls had given their alma maters gifts tied to their company stock.
Many universities cashed in their stock well past its peak, and they
had less money than they had originally thought. And without the millions
they once had, donors are postponing their gifts—called "donor
dropsy" in the philanthropy business—and schools are scrambling
to make their goals in pledge campaigns. Overall, philanthropy was down
slightly in 2001, but corporate giving, which is the lifeblood of engineering
gifts, was down 14.5 percent, according to the Center for Philanthropy
at Indiana University. The final numbers are not available for 2002,
but they are expected to be lower than in 2001. "When you put
all of theses things together," says Ron Ehrenberg, director of
the Cornell University Higher Education Research Institute, and author
of Tuition Rising: Why College Costs So Much, "you see that times
are going to be tough in the next few years, even if the stock market
were to begin a great rally. And when times are bad, institutions turn
Ehrenberg believes the coming budget crisis will affect higher education
in a number of ways. In addition to higher tuition, schools will trend
away from full-time faculty to adjunct faculty, as a way to save money
and meet the higher enrollment demands. He also expects more of a reliance
on two-year colleges to ease the burden on both students and institutions.
And distance learning, long considered part of the realm of discount
degree factories, may finally become a substantial part of the university
"Schools may not have a choice," says Ehrenberg. "I
don't think the resources will be there to handle the downturn
in spending and the increased student enrollment at the same time. Some
schools may require students to stay home one semester and study from
there. It will allow the school to handle the influx of students without
building new dorms and classrooms."
Financial aid will be another problem area. Many endowment funds at
schools are earmarked by their donors to be used only for financial
aid. At MIT, for example, in the 2002-03 school year, $42.8 million
is made available for grants and scholarships. Of that amount, $36.8
comes from endowment funds that are earmarked for aid; the other $6
million comes from the general endowment fund. The problem for these
schools is that the amount of money in earmarked aid funds will drop;
while the general endowment funds, which will drop as well, may be needed
to shore up other areas. And the general funds are the ones used to
build those new million-dollar labs.
"We intimated clearly to everyone who is dependent on general
funds that the growth they've seen in prior years is going to
decline," says John Curry, MIT's vice president for administration.
In a recent interview, Curry said MIT will try to avert a budget crisis
by implementing slightly lower salary increases, less aggressive growth
in financial aid awards, and leaving some unfilled positions open or
John Griswold, senior vice president of Commonfund, whose institutions
have $30 billion in combined assets, says the problem for most schools
will be their mindset. "The difficulty will come from institutions
that have been used to spending freely, hiring the star faculty, building
the fancy new buildings," Griswold says. "That is hard to
pull back from. And for many schools, the only place they have to go
is to raise tuition. Most of their other costs—faculty and staff
wages and overhead—are fixed."
Griswold says he also expects engineering departments will be pressured
to earn more money for their schools through technology transfer and
entrepreneurial relationships with the private sector. But University
of Kansas engineering dean Stuart R. Bell thinks that any dependence
on tech transfer to balance off endowment investment losses will inevitably
fall short. "You can't plan for things like that,"
Bell says. "So much is hit and miss. As an engineering school,
we must grow our research programs, support our faculty when they develop
relationships with corporations, and do these things over a long period
of time. When you do those things, intellectual property rights may
Bell says that public universities, in particular, will have to work
harder to make ends meet. "There are only a handful of states
that are not facing a budget crisis for education. We are all going
to have to deal with budget shortfalls." But he points out that
the KU endowment has been operating since 1891 and has seen several
stock market free-falls in its history. "We've weathered
the storms of Wall Street in the past, and we'll get through this
one," he says.
Which is what they teach in Economics 101. What goes down comes up,
eventually. But for many colleges and universities, the heady free-spending
days of the 1990s will come to a crashing halt, at least for a few years
anyway. Millions of dollars have been lost, and that money has to come
out of someone's budget. "The challenge for colleges and
universities," says Cornell's Ehrenberg, "is to figure
out how to do more with less. You have growing enrollment at a time
when state support for public colleges is dropping and at a time when
endowments have been hit hard by the stock market. At the same time,
the economy is going to make for more students seeking aid."
"Higher education will have to change," Ehrenberg continues.
"We can't just keep raising tuition. We have to learn how
to become more efficient, how to do things differently."
Dan McGraw is a freelance writer based in Fort Worth,
He can be reached at email@example.com.
And Now The Good News
The financial health of higher education has been hit
hard on two fronts. Many schools—the publics in particular—are
suffering from budget woes in their states, and compounding the problem,
university endowment funds have declined markedly. But on the positive
side, interest rates are at their lowest in almost 40 years, and many
colleges and universities are using the cheaper money to finance new
capital projects and to refinance outstanding debt.
The timing couldn't be better. Enrollment is surging
in some parts of the country and schools must build more classrooms
and hire more teachers to meet the demand. In New York, where the economy
was badly affected by the September 11 terrorists attacks, Governor
George Pataki has asked the two major university systems to restructure
their debts whenever it made financial sense.