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07/01/92

CONTACT: Stanford University News Service (415) 723-2558

Trustees approve deficit financing program

STANFORD -- Stanford University trustees have approved a program to meet projected multiyear budget deficits through borrowing, increased reliance on endowment earnings and other means, rather than continuing to draw from unrestricted reserves.

The program will go into effect on Sept. 1, the start of Stanford's 1992-93 fiscal year. It is designed to produce up to $125 million to finance deficits for the current and next two fiscal years, said Chief Financial Officer Peter Van Etten.

Van Etten estimates that deficits for the university and Medical School may total $125 million over three years: $48 million in 1991-92; $44 million in 1992-93; and $33 million in 1993-94.

The program will meet these deficits through $45 million in borrowing, at least $44 million from endowment earnings, $15 million from reserves and $21 from a variety of other sources.

The program, which supplements extensive budget-cutting in recent years, should preclude any major new rounds of budget-cutting in the near term, he said.

Van Etten said the financing program would "provide the breathing room needed to implement the budget cuts we identified in January - $43 million over the next three years - in phases instead of immediately. That gives us important stability in preserving academic programs and jobs."

The new financing program also will cover myriad one-time expenses and will enable university administrators to protect university reserves, he said.

More than $70 million of the money generated by the program is earmarked for one-time expenses, including a staff early retirement program developed as part of the budget-cutting process and one-time expenses associated with the indirect-cost controversy. The latter include accountants, auditors, lawyers and other consultants involved in resolving research-cost issues with the government, as well as new accounting and information systems needed to meet the university's needs and government requirements, Van Etten said.

The new financing program, approved by the trustees June 15, replaces a policy adopted a year earlier, when the board authorized use of up to $100 million in reserves to cover university and Medical School deficits for three years. Since then, the university has used $15 million of those reserves to cover deficits.

The new program includes another $15 million in reserves but is based primarily on two sources of funds - borrowing and increased endowment payout.

The university will take on $45 million in new debt to cover a large portion of the one-time costs. The debt will be repaid over 15 years.

The "payout" rate - the portion of endowment earnings made available for current spending - will increase 2 percent, from 4.75 percent to 6.75 percent, for two years. This change is expected to contribute at least $44 million to the operating budget, Van Etten said.

The remaining $21 million will come from a variety of sources. "We haven't finalized all the plans yet," Van Etten said.

The program lifts the reliance on unrestricted reserves, Van Etten said. Preserving these finite funds provides continuing flexibility, a measure of financial strength.

The payout rate could be temporarily increased, Van Etten said, because the endowment grew far above average during the 1980s, due to favorable market conditions and the skill of the late Stanford treasurer, Rodney Adams. From 1983 to 1991, for example, Stanford earned an average 16 percent return (12 percent when adjusted for inflation), but transferred only an average of 4.3 percent for current spending.

Trustees agreed to change the payout rate only after a study of the issue by a board committee headed by trustee Herbert Dwight. An outside consulting firm conducted an extensive review of endowment and payout practices at Stanford and other universities for the committee. The board said it would review the payout policy again in two years.

Deficit projection history

Deficit projections have changed several times in the past three years, as officials grappled with a wide range of uncertainties, especially those associated with indirect-cost reimbursement.

Three years ago, university officials projected that expenses were outpacing revenues, and responded with a plan to cut $22 million from administrative functions to achieve budget equilibrium. Then the indirect-cost controversy erupted, with the government eventually cutting Stanford's overhead rate from 74 percent to 55.5 percent.

The university reacted with an extensive review of administrative and academic programs, announcing in January a plan to cut $43 million from the non-medical operating budget. Of those cuts, 54 percent are to come in fiscal 1992-93, 35 percent the following year and the remaining 11 percent in 1994-95. The Medical School has embarked on a separate program to balance its budget in five years.

Early on, officials thought the $43 million cut would bring the six non-medical schools and other administrative units close to a balanced budget by 1994-95.

However, in February, President Donald Kennedy warned the Faculty Senate that despite the budget cut, the university still faced a deficit of undefined proportions because of a long list of uncertainties, including indirect-cost recovery, compliance costs, interest rates, research volume, staff benefits and other issues.

Explaining the numbers were "very, very uncertain," Kennedy said that changes in the list of variables could throw off projections in either direction.

Without the cuts, Kennedy said, deficits in future years would be much larger.

As the operating budget cuts are implemented, the deficit will be reduced; and when they are complete, the university will save $43 million every year, not just once, officials pointed out.

At that February senate meeting, Kennedy said that trustees, who had earlier approved use of reserves to cover deficits, were launching a study of how "they might redeploy university assets" to meet problems. The Dwight committee spent the spring developing the recommendations just approved by the full board.

In March, as budget officials continued analyzing the unknowns, then-Provost James N. Rosse projected an ongoing budget-base shortfall of $10 million to $15 million in 1995 and beyond. Now, Van Etten says budget projections for 1995 and beyond are undergoing more review.

Van Etten has promised trustees a report in October containing analysis of a dozen issues that could affect future budget-balancing, including tuition policies, level of research activity and indirect-cost reimbursement, funding requirements for building renovations (particularly those relating to earthquake repairs and seismic bracing), and the effect of drawing down the endowment.

"At the end of the program, we will have financed all those one-time problems, we will have a strong reserve position and we will have implemented the budget cuts," Van Etten said. Although the budget still may not be balanced, "we will have accomplished a great deal in meeting most of the financial challenges we face," he said.

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Projected Deficits (in $ Millions)

One-Time Ongoing Total

1991-92 $ 29 $ 19 $ 48

1992-93 19 25 44

1993-94 22 11

33

TOTAL $ 70 $ 55 $ 125

New Financing Plan (in $ Millions)

Total

Borrowing $ 45

Endowment Payout Rate Increase 44

Reserves 15

Other

21

TOTAL $ 125

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