FAS’s Financial Hole: A Little Less Deep
Dean Michael D. Smith details hard-won budget improvements--and the challenges remaining.
Faculty of Arts and Sciences (FAS) dean Michael D. Smith invited professors and staff members to a briefing titled "FAS Financial Update and Other FY '09 Accomplishments" on Tuesday afternoon, September 15, in the Science Center B lecture hall. His presentation, complete with 27 slides, was an occasion, in effect, to preview his retrospective annual report and prospective letter on the year ahead before they are formally published in coming weeks. He was able to convey several pieces of encouraging news, based on FAS’s success in reducing its rate of spending during recent months. Highlights include the following (all figures are for unrestricted funds, and apply to FAS’s “core” operations—the College, the Graduate School of Arts and Sciences, and the faculty itself—but exclude separate “tubs” such as the Harvard College Library, the School of Engineering and Applied Sciences, athletics, the museums, and so on):
• A projected $30-million deficit for the fiscal year ended last June 30 was managed to a $6-million surplus. (Contributing factors included $12 million of reductions in utilities and building operations and maintenance costs; $7 million in reduced faculty costs from the slowed pace of hiring, fitting up laboratories for new professors, and so on; and $12 million in increased revenues from stronger fundraising and continuing-education income, and, importantly, $4 million more in “indirect” payments for overhead on sponsored-research grants than anticipated, reflecting faculty members' successes in winning more research awards.)
• Carrying this surplus forward, rounded to $35 million, and adding the effect (rounded) of $75 million of cost reductions and restructuring actions (early retirements, layoffs, and so on) identified during the past academic year and being carried out now, the projected deficit for the current fiscal year has been reduced dramatically. Though not publicized at the time, Smith revealed that as of last April, FAS was facing a $130-million deficit. That now looks like a much more manageable $20-million deficit—and the dean felt that a balanced budget was in reach.
• Applying the same savings forward into next fiscal year, ending June 30, 2011, the truly daunting operating deficit he had previously forecast—$220 million annually—now appears to be a $110-million hole. The six working groups examining FAS’s mission, operations, and future, are charged with addressing much of that remaining gap, with additional savings to be realized administratively, through improvements in information technology, for instance.
With the fiscal 2009 deficit having been turned into a surplus, Smith noted, rather than drawing down reserves, FAS has managed to augment them, providing a cushion into fiscal year 2012. As he put it, the faculty managed to effect savings during its year of greatest income. The Corporation has reduced the distribution of funds from the endowment by 8 percent in the current fiscal year (costing FAS about $50 million, and dashing its earlier expectation that the distribution would in fact increase by as much as $100 million), and will impose a further reduction in fiscal 2011, as it gradually adjusts spending to the 29.5 percent decline in the value of the endowment in fiscal year 2009.
University guidance suggests that the distribution—$650 million for FAS in fiscal year 2009, and less now—will decline “at least” 8 percent further next year; FAS’s budget is built on the assumption of a 12 percent reduction. Smith indicated that the Corporation would not give final guidance until next spring—adhering to the timing of last spring, but indicating continued financial caution and uncertainty: in the past, the decision was typically made around Thanksgiving.
For all the "tremendous progress" Smith was able to report, with understandable relief, the magnitude of the work to be done to shave the fiscal 2011 deficit remains daunting. He reiterated that FAS is pursuing a multiyear process of getting its operations down to a new scale and pace: using its reserves and the gradual moderation of endowment spending (compared to the swift depreciation in the value of the invested assets; see Smith's op-ed, "Husbanding Harvard's Resources," in the September 16 Crimson) to buffer a thoughtful, deliberative process of reorganization, reduction, and rebalancing.
But the arithmetic is relentless: fiscal year 2009’s surplus yields to a modest deficit (or perhaps even a balanced budget) this year, assuming that $110 million of changes are adhered to; but similar savings and augmented revenues cut the deficit in the year beginning nine months hence only in half. In the current fiscal year, a $110-million deficit would appear to total about one-sixth of FAS's discretionary spending (its total budget excluding undergraduate financial aid, sponsored research, and debt service)—and an unknown but likely higher proportion of the "core" operations. The working groups have plenty of work to do.
Smith detailed for his audience the initiatives FAS was able to pursue during the past year, including the launch of the undergraduate General Education curriculum; 31 faculty searches (which resulted in nine appointments to date, with three more pending); 12 promotions to tenure (of 17 recommendations); and the start-up of a new department and of a neuroscience imaging facility.
He also felt sufficiently encouraged to reveal that he would authorize “alleviating measures” (amounts unspecified) to address some particularly acute concerns:
• bridge funding for critical research projects;
• “pre-award” support for research, particularly by junior faculty members, in advance of sponsored-research grants;
• funds for the “library commons” around Widener, Pusey, and Houghton as a center of research (even as the library system as a whole undergoes significant change and perhaps consolidation of functions, an effort being shaped by a task force reporting to the provost);
• course-development funds; and
• some sort of staff recognition, taking account of the strains that budget cutbacks have imposed, particularly on the staff members.
Looking ahead, Smith cited some other positive developments:
• Alumni have responded so far to appeals for gifts of unrestricted, current-use funds (and the administration confirms, as the Crimson first reported, two extraordinary gifts totaling $32 million). In soliciting support, Smith said he is emphasizing undergraduate financial aid, graduate fellowships, teaching and learning initiatives, and the undergraduate experience (including, in the long term, financing for physical renewal of the Houses).
• Massachusetts has changed the state law governing “underwater” endowments. Such funds, where investment losses have reduced the corpus below the initial gift amount, had been unavailable for any distribution to support operations. Once the University determines its rule for “prudent use” of such funds, distributions may now become available. Without specifying the sum, Smith indicated after the briefing that the annual revenue at stake for FAS could reach into eight figures—an important factor in bringing this year’s projected deficit closer to budgetary balance.
The questions and answers brought out several more important points.
In response to a faculty member’s query about financing the budget gap by borrowing money, rather than cutting further, Smith said that debt decisions were made at the University level; but that he would feel uncomfortable incurring more debt, as borrowing costs already account for 8 percent of FAS’s budget.
Would the current year’s salary freeze for faculty members and nonunion staff be continued for another year? another professor asked. Smith said that that, too, was a University decision, to come later in the fall. He hoped for some flexibility. (Given that compensation accounts for half or more of University spending, University budget staff have discussed continuing the compensation freeze, in light of the financial constraints in fiscal year 2011.)
And finally, a staff member asked whether, in light of the disruption of plans for Allston campus development, that might be a source of funds. Smith's response seemed to confirm campus speculation: although Allston development decisions are another University-level responsibility, he said, Harvard is clearly no longer on track for its ambitious 50-year campus building program in Allston, so discussions were under way on options to “monetize” some of the University’s extensive landholdings.
(The University is making only limited use of the Arsenal commercial office complex in Watertown, which was acquired in 2001 for $162 million to accommodate anticipated growth in advance of Allston development, and as swing space during construction there. And it has extensive landholdings beyond what it might want for siting any laboratory, other academic facilities, or residential quarters in the next decade or so--including such properties as the DoubleTree Guest Suites Hotel alongside the Charles River, acquired for a reported $75 million in 2005. Some of those parcels might be attractive for sale, lease, or joint ventures for development, perhaps to accommodate the burgeoning biotechnology industry just across the river in east Cambridge, among uses that have been bruited about in local media. But no announcements on any such plans have been made. Attention has focused on the decision about redesigning, deferring, or mothballing the large science complex across Western Avenue from Harvard Business School, where construction is scheduled to pause, at least, in the next few months.)
The Way Forward
Smith understandably focused on the current year and the reshaping of FAS necessary to rein in the still large operating deficit projected for next year. Accordingly, he offered no hints about succeeding fiscal years.
Stanford and Yale have recently indicated that they will make major reductions in endowment distributions this year and next, and then both institutions project only flat distributions for succeeding years, extending into fiscal years 2012 or 2013 at least. Those two universities, with investment strategies and performance similar to Harvard's, are, respectively, less and more reliant on endowment funding than Harvard as a whole, but both are much less reliant on endowment funding than FAS is (an estimated 56 percent of revenue in fiscal year 2009).
Alongside the uncertain prospects for revenue derived from the endowment, the dean, his financial staff, and the working groups will have to consider likely growth in future expenses: for financial aid and faculty and staff compensation, to cite just two significant items. For the moment, the most threatening financial problems facing FAS have been whittled down. But in setting FAS on a sustainable path later in the decade, continued momentum in fundraising, the future performance of the endowment, and faculty success in winning research grants in a very competitive environment--alongside effective implementation of the cost reductions announced so far and those yet to be identified--all loom large.
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