Changes in the Endowment Spending of Private Colleges in the Early 1990s
Introduction In recent years, as many colleges have struggled to contain rising expenditures and to raise revenues to meet those expenditures, a bright aspect of their financial condition has been sharp increases in the market value of their endowments. The annual NACUBO Endowment Study (1997) reports that endowment market value, corrected for inflation, more than tripled from 1981 to 1996. Yet, suspicions have arisen that the rising values of these endowments have not been adequately reflected in operating revenues, thereby forcing colleges to rely on such other sources of increasing revenue as students' tuition and fees. In the bluntly titled "Why Colleges Cost Too Much," Erik Larson uses the University of Pennsylvania as an example of his concern: Penn's endowment rose 25.9% last year, to more than $2.1 billion, much of the increase coming from market appreciation. The university's spending rule calls for it to spend 5% - but not of that full amount. Rather, Penn limits itself to spending 5% of an average of the total endowments reported for the latest 3 years. For this school, that moving average is $1.5 billion. But Penn gets even stingier. This year it projects that it will spend 3.7% of this average, or $58.3 million, on university programs. Which works out to 2.8% of the current total of $2.1 billion. (Larson, 1997, p. 52) The controversy over the extent of colleges' use of endowment to support current operations is not a new one. A watershed was the 1969 publication by the Ford Foundation Advisory Committee on Endowment Management (1969) which identified "the adverse consequences of the failure to establish the clear-cut objective of maximum long-term total return" (p. 5). The committee recognized that part of the reason for the failure was that most colleges, in drawing upon endowment for current operations, had thought themselves legally restricted to interest and dividends received, so that the need for income to support current operations required investment in high-yielding equities and in bonds. To this the committee noted that Cary and Bright's The Law and Lore of Endowment Funds, also published in 1969 by the Ford Foundation, concluded "that there is no legal problem in drawing upon capital gains realized on endowment funds that do not have any donor restrictions" and that the situation was "far from hopeless" even when donor restrictions existed (Ford Foundation Advisory Committee on Endowment Management, 1969, p. 22).(1) In making a strong financial case for colleges to invest to maximize long-term total return, the Ford Foundation Advisory Committee implied that colleges should place increased emphasis on investment in equities.(2) Even prior to the Committee's report, many colleges had been moving in such a direction (Williamson, 1975, p. 97). While historically having a higher total return relative to bonds, equities also tend to have more year-to-year volatility in market value; to produce lower annual income yield (i.e., equities' dividends as a percentage of market value are typically below bonds' interest as a percentage of market value); and to generate much of their return through the appreciation of market value. Thus, one consequence of the increasing emphasis on equities has been a robust literature focused on appropriate endowment spending formulas and guidelines. As argued by Winston (1993), there is much to be said for a more "global" approach in viewing the role of a college's endowment spending as only part of an overall strategy of sustaining the real value of its resources; merely focusing on the real value of the endowment and a college's operating budget can provide a seriously misleading picture. Nevertheless, endowment spending policies aimed at supporting current operations while maintaining the real value of endowment continue to attract considerable attention. The literature includes important historical perspectives, conceptual discussions, and practical advice (Adams, 1977; Brown, 1988; Coiner, 1990, 1992; Dunn, 1991; Jennings, 1992; Litvack et al. …