|
|
|
Week 7: Financial Structure of Universities While most university conversations appear to focus on issues of academic substance--program content, research results, curriculum issues, for example--almost every discussion carries a subtext about money. Universities use special words to describe the money questions. They talk about "resources" or "program support" when what they actually mean is "money." Part of this reluctance to talk directly and clearly about money comes from the organizational model of the undergraduate college.  In an undergraduate college, students take courses in the humanities, social sciences, and sciences. Their majors differ from physics to fine arts, or from American literature to political science. At the same time, all instruction in the college has the same price per credit hour (or per semester), although financial aid can reduce the net cost to individual students. The instructional price is the same regardless of the cost of the programs or courses. In this model, the college distributes money not in relation to what individual departments earn from teaching specific individual students, but primarily in relation to the cost of the academic design of the curriculum. As a result, the big issue for money is indirect: if a guild's academic specialties are central to the college's academic design, the college will pay for it. The guilds, recognizing this, spend their time arguing about the academic design. This makes the conversation sound philosophical and academic, but it is actually a conversation about the distribution of money. Faculty, too, prefer to think of their work as mostly unconnected to money, although they have strong opinions about the need to support a living wage. The disdain expressed by many academic people towards the issue of money is inconsistently expressed. Most faculty do not think that the university should be driven by financial issues and detest the notion of the university as "business," but most faculty also think that the university's money should be spent on their priorities for "support." Indeed, the faculty believe that the institution should find the necessary resources (money) and the faculty should have a major voice in the decisions about the internal distribution of the money, often without assuming any obligation to increase the university's ability to earn money. These attitudes operate in the abstract, for in real time and with real people, faculty are as carefully clear about money as anyone else. Faculty know what things cost, they know what the university pays other professors like themselves, they know what it costs to attract a graduate student, they know how much it will take to set up a research laboratory. What they often do not know and frequently choose to ignore is the structure of the university's finances. This ignorance is variable and often encouraged by administrators. If the faculty do not understand the financial structure of the university they will surely criticize everything the administration does, but administrators will find it relatively easy to deflect this poorly informed criticism. Contributing to this state of useful confusion, universities organize their finances in ways that follow individual funds, or pots of money, and not the income and expenses of the university. This fund accounting causes great damage to university understanding because it obscures the income and expenses associated with university work, and makes it difficult to understand the underlying financial structure of the institution and its programs. Fund accounting exists because universities, as not-for-profit organizations, do not need to tell their owners how much profit they make each year. Instead, universities need to tell the various organizations and individuals who pay their expenses how the institution used the dollars that came from each identifiable source. For example, if a donor gives money to support student scholarships, the university must put that money in a uniquely identifiable fund. Then, each year, the accountants review that specific fund to determine whether or not the university spent the donor's money on student scholarships. If the university spent the money on scholarships, it has satisfied the fund accounting requirements. If the university has a fund for salaries, it must spend them on salaries; if it has a fund for purchasing equipment, it must spend this money on equipment. At the end of the day, the accountants can demonstrate that the institution followed all the rules that defined all its funds, and that it spent the money available in each fund on things for which the fund exists. This is all good. What's missing is any system for understanding the relationship between the spending of money and the achievement of the university's goals. Did the scholarships bring in better students? Did the equipment help faculty get grants or help students learn? It also makes it difficult to understand the cost of the various things the university does. Often a given activity will spend money from several funds, but calculating the true cost of the activity becomes a challenge since the accounting is organized by fund not by the activity. Although fund accounting does not prevent universities from understanding their finances, it does not require them to do so. Furthermore, because universities do not make a profit and do not sell shares in the marketplace, it is difficult to identify standardized measures of income and expenses. Indeed, the key requirement of a university financial system is that the expenses must not exceed the income. Take the example of teaching and research. Every major research university does both teaching and research. It is of considerable interest to know how much the university spends on teaching and how much it spends on research. If we look at the financial statements for most universities we will see a number that appears to indicate how much the university spends on instruction. We might feel comfortable and even do some analysis based on the belief that this number accurately represents teaching expenses. We would be wrong to do so. The rules used to allocate an expenditure to teaching or research or advising or some other function are implemented by the university's financial officers accurately, but the rule misleads. If the department of history spent $100,000 from its operating fund and tells the accountants that it spent $55,000 of that $100,000 on teaching, they will classify the full $100,000 as a teaching expenditure on the grounds that the majority of the expense from the History department fund is on teaching. This, of course, distorts our understanding greatly, for if we add up these expenditures across the university, we are likely to greatly underestimate the cost of research and overestimate the cost of teaching. Another peculiarity in public universities is that significant portions of the money spent on university activities may not appear in the university's books or may appear in separate reports. For example, some public university foundations that hold the endowment and annual giving accounts exist as separate agencies, and the substantial sums they spend supporting faculty salaries or fellowships or other university expenses may be made outside the university's books and therefore not appear in an accounting. In public universities, as well, some functions such as intercollegiate athletics may not be fully included in the university's reports; and other activities such as legal services, some financial services, and even campus planning services may not appear as costs to the university because they take place at a state level office. Many universities do not have a clear understanding of capital costs. They may not take depreciation of their physical plant into account, and instead simply pay for unavoidable renovations and repairs out of current income, deferring other accumulating maintenance to another day. Private and public universities may use different methods for accounting for the value of space and equipment, and these differences render many comparisons of university finance difficult. These practices also make analyses of a university's assets difficult. Universities do not usually sell their buildings, and they use various accounting techniques to record the declining value of the buildings over time. For old buildings, many of which are on university campuses, this depreciation of a building's value does not really tell what the building is worth either in terms of what it would cost to replace it or what it would cost to renovate it back up to current standards. For this reason, campuses can find themselves with unanticipated requirements for building renovation, repair, or replacement that can deliver an unpleasant shock to their financial position. The starting point for all conversations about university finance is a complete accounting for all money used for university work whatever its source. This all-funds accounting, which might appear obvious at first inspection, is sometimes difficult to achieve at public although less so at private institutions. The more complex and sophisticated the university, the more difficult the construction of an all-funds budget or financial statement will be. In public universities, the regulatory and political structures that surround institutions force the invention of many creative and complicated mechanisms to hold dollars that do not come from state treasuries or from tax based sources. To evade regulatory controls, public universities can construct independent foundations, separate from the university's public accounts, from which they pay for necessary expenses that do not fit into a state agency format. These payments from foundation accounts or physician fee funds (to take two significant examples) make a large contribution to paying the university's academic and other expenses, but prove difficult to fold into an all-funds university budget. Further complicating this picture, many state legislatures view any expenditures of funds for universities that do not flow through the bureaucratic processes of state government as suspect. In such hostile states, universities that operate effectively and efficiently with clear accounts run the risk of increased state interference. Ignorance and confusion are a form of protection in these environments. Nonetheless, good management requires an understanding of the university's finances. The key artifact for this is the global (or all-funds) budget that ignores the funds and simply identifies the sources and uses of ALL the money that supports the university's work. If a university understands where it earns its money and how it spends its money (all of it), then the institution can work to get the most academic value from the dollars spent. Of particular importance to everyone engaged in higher education is an understanding of the major sources of funding for universities. Tuition and fees, state and federal financial aid, state subsidies, gifts and grants, sales of goods and services, research grants and contracts, federal subsidies, income from endowment, and annual giving all contribute the money that makes the university possible. The structure of university finances varies, with some institutions having a higher proportion of their funding from tuition, or endowment income, or a state subsidy than others. Not only does the structure vary among institutions, but it also varies by ownership. Public and private universities, while they receive money from the same sources, receive their funding in different proportions by funding source. In the constant effort to acquire more money for the improvement and expansion of the university's work, an understanding of the structure of university finance becomes critical. If tuition represents a small fraction of the university's funding, but endowment income and annual giving represent a large portion, then the university's focus on increasing revenue needs to be where the benefits are the largest. If the state pays for enrollment by formula and allocates more money for more students or credit hours, then increasing enrollment may lead to increased income. However, this only succeeds if the amount the state pays for each new student or student credit hour is more than the cost of delivering the additional instruction and maintaining that extra student. A university's decision about growing enrollment requires an understanding of the costs as well as the income associated with student credit hours. Many reasons explain the size of public universities, but one of them is the ability of the university to earn more from a state subsidy plus tuition and fees for each student than it costs to teach and maintain that student. Big is better under these conditions. Private universities that cannot count on high state subsidies per student may have a disincentive to grow. If the cost of maintaining a new student exceeds the discounted tuition the student generates (as is almost always the case), then additional students do not create new revenue for the private institution. Moreover, if the high tuition paid reflects the consumer's belief that small size adds value to education, increased growth, even if marginally profitable may well deflate the institution's perceived value to its customers. Although institutional size in both public and private institutions responds to many issues, the fundamental calculation turns on the relationship between the marginal cost of adding a new student and the net new income that student generates. In public universities over the last decades, the revenue from annual state appropriations has generally declined, both as a percentage of the university's budget and in real dollar amounts. Legislators have sought to provide incentives to improve what they regard as the university's performance with incentives for high graduation rates, high salaries for graduating students, more enrollment from under represented groups, and the like. These incentives have significant effects on university revenue. Finally, compounding these challenges, institutions compete for students in a local, regional, national, and international marketplaces. This competition seeks to increase the total revenue generated from net tuition+fees, and as a result often creates an incentive for public universities to recruit out of state students who pay higher net fees even after accounting for various scholarships and other discounts. This effort to enhance revenue can prompt unhappy responses from legislators who see that in-state students may be crowded out by higher paying out of state students as the institution seeks revenue to sustain its operations in the face of declining state support. For the purposes of discussion, we might ask these questions:
© 2018 |