Questions and Answers about the Endowment and Budget
1. How has the global and U.S. economic downturn affected Amherst College?
As an institution that depends to a great extent on revenue generated by its endowment, Amherst College has been profoundly affected by the recent decline in the value of virtually all asset classes, including equities, real estate, oil and timber. Although it continues to outpace market indexes and has for many years, we estimate that the endowment declined in value by 25 percent from July 1, 2008, to March 31, 2009, with another 5 percent estimated decline as the fiscal year and accounting are complete, bringing us to approximately $1.25 billion.
With two more months to go before the end of the college’s fiscal year, financial conditions continue to be very difficult, creating liquidity pressures on the endowment and the financial operations of the college. The endowment’s outstanding prior performance and substantial gifts to the college allowed an increasing amount of money to go to the operating budget of the college. The proportion of the operating budget being funded by the endowment has grown dramatically as well, from 22 percent 10 years ago to 35 percent this year. If debt service being paid this year is added, that figure rises to 40 percent. The budget’s increased dependency on the performance of the endowment and financial markets is the primary reason why this change in the market environment has had such a significant impact on us.
2. Why can’t the college just draw down on the endowment to meet current challenges? $1.25 billion is still a larger endowment than most other colleges of our size.
In order for the endowment to be able to continue to provide the significant revenue for the operating budget, it is important that we do not spend more than we can earn on a long term basis. The dramatic downturn in the market value of the endowment this year means that, as a percentage (the spend rate), the amount drawn to fund operations and debt will rise substantially, well over the 5 percent limit that prudent investment management would allow. The notion of intergenerational equity is at play here—protecting the real value of the endowment for future generations while at the same time making sure it produces income to meet the operating budget of the college today. To do that, the college aims for an investment return that provides enough for the spend rate of the college as well as for inflation.
For planning purposes, the target endowment investment return that we think is needed to meet this balance of intergenerational equity is 6.8 percent per year. The college will not achieve that level of investment return this year, and perhaps not for the next two years, given the economy. While no one has a crystal ball, it is important from a planning perspective to make some rational assumptions regarding the endowment’s return going forward. And they are:
a. This fiscal year, the endowment will be down 30 percent. While this is lower than the year-to-date return noted above, the volatility in the markets and the difficulty in valuing the non-marketable investments in the endowment make this assumption very reasonable at this time.
b. The next year (Fiscal Year 2009/10) will be flat, or 0 percent.
c. The following year it will be up 5 percent and for subsequent years it will earn a 6.8 percent return.
Under these assumptions, if the college makes no changes in the other assumptions in the projected budgets, the college essentially would run itself out of business, which cannot happen. The round of belt tightening that already has begun is not enough to change the picture. Our goal is to bring the spend rate to somewhere around 5 percent within the next 10 years, while coming up with a strategic vision for the college’s long term viability that protects our core values of academic excellence, accessibility and affordability to the greatest extent possible.
3. What if the assumptions being made about the endowment’s rate of return are not accurate?
The college needs to settle on a set of scenarios to use for planning purposes, while at the same time being cognizant that those assumptions not only likely will be wrong, but almost certainly will be wrong. As assumptions prove to be erroneous, they will be adjusted up or down accordingly. However, it’s preferable to plan for a sober scenario while hoping for a much more robust positive scenario.
4. What is the ABC, what is its mandate, how will it go about doing its work, and what will the result be of any recommendations that it makes?
The Advisory Budget Committee, or ABC, is charged with reviewing, discussing and recommending to the trustees steps that should be taken to address the college’s budget problems. The ABC will likely focus on the three largest pieces of the budget, weighing the relative merits of compensation levels, staff levels and financial aid programs, taking into consideration the recommendations of the college’s three standing committees (Committee of Six, Committee on Educational Policy and Committee on Priorities and Resources), as well as input from a group of department managers and other members of the college community. See members of the Advisory Budget Committee and the charge to the committee.
5. What cuts have already been implemented and what cuts are being planned to help deal with the budget problem?
The college took immediate action to save as much as possible in this year’s budget (Fiscal Year 2008/09) and reduced next year's budget by $11 million (Fiscal Year 2009/10), and is looking to add to that number whenever it can. Additionally, the college hopes to achieve a total of $37 million in savings over the following two fiscal years from what had been projected. College departments were asked to save 5 to 10 percent from their originally approved non-personnel budgets this fiscal year (July 1, 2008, to June 30, 2009), and a total of 15 percent in non-personnel cuts from their budgets for the 2009-2010 Fiscal Year. Additionally, the college has frozen most hiring, plans no increases to the salary pools and has scaled back new faculty hires and visiting faculty appointments, while remaining committed to strategic hiring when warranted. Further cuts next year will reduce cuts needed in the longer term.
6. How will the college provide updates on its financial situation?
The College will post all new relevant information related to budget process on the Amherst & the Economy page, and also will continue to hold public forums for faculty, staff and students where new information will be presented and questions welcomed. The college is committed to sharing as much information as possible during this challenging period.
7. The college recently launched a fund-raising campaign. How is the campaign being factored into the college’s budget planning?
All budget projections going forward assume the successful completion of the $425 million Lives of Consequence campaign. As of April 30, we have received $226 million in gifts and pledges. Although specific priorities of the campaign may change as the ABC issues its specific recommendations and trustees act upon them, the campaign will remain fundamentally committed to preserving the core values of Amherst College, which include academic excellence, as well as access and affordability for future generations.