Back to the Bond Market...
...and other University financial updates
Harvard is in the process of issuing $730 million of tax-exempt revenue bonds and $300 million of taxable revenue bonds. As a result, total debt outstanding will rise from $6.3 billion at the end of the last fiscal year (June 30) to $6.6 billion, according to a rating published on November 1 by Moody’s Investors Service. The proceeds, according to Moody’s, will be used for two principal purposes: to refinance previously issued debt and long-term borrowing under the University’s commercial-paper program; and to finance “various” capital projects—most prominently the wholesale reconstruction of the Fogg Art Museum, now very much under way. Separately, an outstanding question about the Faculty of Arts and Sciences’ efforts to close its budget deficit has been answered, while a further piece of its fiscal puzzle is still pending.
Refinancing in the current low-interest-rate environment might enable Harvard to reduce higher rates incurred earlier, to fix the interest rates on variable-rate obligations that could rise in the future, or both. The University financial report for fiscal 2010 details outstanding bonds and notes payable in footnote 12 (pages 38-40). As noted when the report was released, on October 15, total interest expense increased to $265 million—26 percent higher than in fiscal 2009. Harvard’s debt has risen sharply from $2.85 billion at the end of fiscal 2005, reflecting both an aggressive construction program and the financial strains of late 2008, when the University quickly borrowed $2.5 billion to restore its impaired liquidity, refinance variable-rate debt, and unwind interest-rate swaps on which it had incurred huge losses.
As the Moody’s analysts noted in reaffirming its Aaa rating for the bonds now being issued, and affirming all of its outstanding ratings:
- Liquidity management is critical for the University because of its large portfolio of private investments and variable-rate debt and swaps which can require collateral posting; however the University retains considerable flexibility from its large portfolio of liquid holdings and external bank liquidity facility and has focused on minimizing exposure to potential, unpredicted calls on liquidity and better coordinating liquidity needs of the University and its endowment;
- In the near term, the University has reduced capital spending and is taking significant steps toward centralizing key functions and processes, recognizing the need for more efficient operations in the aftermath of balance sheet weakening and reduced revenue flow from the endowment. Over the longer term this change will likely strengthen the University's credit position.
Among the latter steps, Harvard has:
- suspended construction of the Allston science complex, a debt-funded, $1.4-billion facility that was its largest capital project and single most critical financing challenge;
- created a Financial Management Committee that includes senior central administrators as well as Harvard Management Company’s president and the University Treasurer, to review and coordinate financial oversight and planning generally, and to assure sufficient liquidity (in Moody’s view: “We believe the Harvard Management Company, which oversees the endowment’s investment management, and the University have become increasingly integrated in assessing organizational liquidity needs. The University has established a new committee to assist with integrated risk assessment across the University and HMC. We believe that liquidity within the endowment and outside of the endowment has strengthened over the past two years and provides a strong cushion for expenses and demand debt.”);
- reduced the endowment distribution about 7 percent in fiscal 2010 and a further 12 percent in the current year; and
- recently appointed a new vice president who will both oversee a new University-wide long-term capital-planning process and manage major construction projects.
More generally, Moody’s noted that “the University's future debt service payments are volatile with large bullet payments scheduled for FY 2014 and 2019. Management is evaluating the possibility of paying down debt when those bullets mature as well as refunding opportunities. The University’s primary near-term operating challenge will be adjusting to losses on its endowment and the associated impact on endowment spending.…The University has responded with a number of expenditure reductions and we expect will be able to adjust appropriately.”
Harvard’s three most substantial construction projects are the Fogg renovation (an estimated $400 million), the Law School’s 250,000-square-foot Northwest Corner project, and the $65-million to $70-million renovation of Sherman Fairchild to accommodate stem-cell scientists who were to have gone to Allston.
The Fairchild project is being funded by the central administration, in the wake of the Allston construction halt. The borrowing for the law school’s facility—estimated to cost $220 million to $250 million—has already been put in place, part of a $480-million financing last January. And at least two major gifts for the Fogg project have been publicly disclosed: $45 million from Emily Rauh Pulitzer, A.M. ’63, and about $25 million from David Rockefeller ’36, G ’37, LL.D. ’69. No doubt there has been other philanthropic support, but it seems likely that at least a couple of hundred million dollars of financing remained to be put in place. Hence this borrowing.
When the Faculty of Arts and Sciences (FAS) revealed its fiscal 2010 finances—part of Dean Michael D. Smith’s annual report—one mystery concerned the footnoted “incremental distribution on all endowment funds,” not otherwise explained. It had the effect of boosting revenues $20 million over expectations, as FAS’s distribution from its endowment funds declined only 5 percent ($30 million), rather than a forecast $50-million decrease from fiscal 2009.
It now appears that FAS in fiscal 2010 moved toward taking a higher rate of distributions on all of its several thousand individual endowment funds. Beginning in fiscal 2006, schools were authorized to receive “strategic” distributions (above the then-prevailing usual rate of distributions) in support of high priorities such as financial aid, for which they were otherwise using unrestricted dollars (such as tuition income). Now, the University is moving toward that level of distributions on all endowment funds; those for which the distributions cannot be immediately used per the terms of donor restrictions will be retained in reserves for future use, or re-endowed. For FAS, this adoption of uniform higher distributions in fiscal 2010 was worth the extra $20 million. In the current fiscal year, in keeping with Corporation guidance, it expects endowment distributions to decline 11 percent to 12 percent from the new, fiscal 2010 base of $626 million—clearly better than starting from a $606-million base.
In this respect, FAS’s progress in closing a $220-million gap in unrestricted funds (first projected at the depths of the recession) has reflected both cost reductions and significant gains in revenues compared to the direst forecast. This boost in endowment distributions was clearly a big plus. So was the increase in donors’ unrestricted giving—as Dean Smith has repeatedly, gratefully pointed out. Another, and perhaps even larger, factor was the change in Massachusetts law permitting distributions from capital gifts whose value is “underwater” (below the gift amount) as a result of declines in financial markets.
A final piece of FAS’s financial picture still awaits: no data have yet been released on faculty members’ response to the early-retirement incentive package offered in December 2009. As noted then, 127 senior professors were offered the package—totaling more than one-sixth of FAS’s faculty ranks. Although those eligible had to decide whether to accept the offer by June 30, they had a period to reconsider their election. That has now passed.
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