Leslie Kirwan
Dean for Administration and Finance
Fiscal Year 2010–2011

We are pleased to present here the FAS’s financial results for Fiscal Year 2011, the fiscal year ending June 30, 2011. For purposes of comparison, the results for Fiscal Year 2010 are also displayed. This report follows a standard set in October 2009, when FAS Dean Michael D. Smith presented a financial report to the faculty to help them and other key audiences gain a deeper understanding of the FAS’s financial condition in light of the impacts of the global recession. At that time, the dean committed that future annual reports would be published each October following this new, more timely, and more comprehensive standard.

This report is intended solely to present a managerial view of the FAS’s finances and operations, and to explain how our financial resources changed and how they were used during the year in support of our academic mission. It is important to note that these results are not audited in accordance with generally accepted accounting principles (GAAP), nor should they be confused with the audited financial statements of Harvard University as a whole, which will be published in October 2011.

Overview

From a vantage point early in the fiscal crisis, FY2011 presented the biggest challenge for the FAS. The prospect was that—absent a prompt and effective management response—successive reductions in the endowment distribution in FY2010 and FY2011 could result in a crushing deficit in relation to the FAS budget. Dean Smith quickly crafted a three-year plan of structural, or ongoing, budget solutions beginning immediately in FY2009. The faculty’s success in rapidly implementing that blueprint and continuing on a path of fiscal discipline through FY2011 is reflected in the results reported here. Specifically, the final result of FY2011 operations was a deficit of $16.2 million in the FAS Core, with modestly larger deficits when all fund types and affiliates are included. Based on the results of FY2011, absent unforeseen circumstances, the FAS is on track to close or substantially close the remainder of the deficit by year end of FY2012 as planned.

More important, despite the budgetary reductions needed to achieve this financial result, the faculty has accomplished an impressive amount of mission critical work throughout the three- year recovery period. FAS has been able to make targeted investments in several critical priority areas, including faculty searches, undergraduate and graduate financial aid, research administration, and core facilities, with an ongoing emphasis on environmental conservation measures and greenhouse gas reduction. As envisioned by Dean Smith at the onset of the fiscal crisis, in many ways the FAS has become a stronger, more resilient faculty as a result of the financial recovery plan, positioning us well for possible financial challenges yet to come.

Guide to the Accompanying Financial Statements

The FAS budget is both large (approximately $1.1 billion) and highly decentralized, with significant spending under the direct control of over 150 separate departments, centers, libraries, and museums. The consolidated Statement of Activity presents important categories of revenues and expenses of the FAS as a whole. This view combines what is typically called the “Core” of the FAS, which comprises the faculty, the College, and the Graduate School of Arts and Sciences, together with the other major affiliates of the FAS (i.e., Athletics, the Division of Continuing Education, Dumbarton Oaks, the Harvard College Library, the Museums, and the School of Engineering and Applied Sciences). Given that the Core constitutes about 74 percent of the FAS FY2011 consolidated revenues and nearly 73 percent of FY2011 consolidated expenses, we also present an FY2011 Statement of Activity for just the Core. We include this particular view because it highlights an area of FAS finances (the unrestricted budget of the FAS Core) that has been under particular stress for some time, exacerbated by the significant impacts of the global recession.

Finally, we include a Balance Sheet for the consolidated FAS that presents our major assets and liabilities at the end of FY2010 and FY2011. As noted above, this presentation of the Balance Sheet has not been audited in accordance with generally accepted accounting principles (GAAP), nor should it be compared with the University’s audited financial statements.

FY2011: The Most Challenging Year

When the impending impacts of the global financial crisis on the endowment of Harvard University and the FAS became apparent during FY2009, Dean Smith announced a comprehensive plan of action that spanned three years, FY2009–2011. This phased approach was designed to provide time for the needed adjustments to be made, and was facilitated by reserve balances within the FAS that are available for restrained and strategic use as a funding bridge while other solutions are developed.

Dean Smith reported in FY2009 that the FAS faced an unrestricted deficit of $130 million in FY2010 that was projected to grow to $220 million in FY2011. These projected deficits were driven primarily by endowment distribution declines of 8 percent in FY2010 and an additional 12 percent in FY2011. With FAS’s heavy reliance on endowment income—54 percent of revenues came from the endowment in FY2009—the decline in distributions was far and away the biggest budget challenge, but it was not the only one. The economy’s impact on family incomes increased the demand by our students for assistance from Harvard’s generous financial aid program, resulting in increased costs. The ladder faculty had grown, intentionally, by 134 members or 23 percent over the prior decade. Additionally, the FAS had recently constructed over 1 million square feet of new facilities, substantially increasing expenses for debt service as well as operation and maintenance. Continuing to support these recent new investments made the drop in endowment revenues an even greater challenge.

Through tremendous citizenship, innovation, and hard work during the FY2010 budgeting cycle, the $130 million FY2010 projected deficit was reduced by $110 million; additional efforts over the course of FY2010 closed the remainder of that year’s gap. Many of the solutions which closed the FY2010 budgetary gap were structural in nature, thus contributing to closing the FY2011 gap as well. In developing the FY2011 budget, we were able to close all but $35 million of the previously forecasted unrestricted budget gap of $220 million for the FAS Core. At the outset of FY2011, Dean Smith stated his intention to bring the FAS budget fully into balance through continued hard work by closing the remaining gap over two fiscal years—that is, by the end of FY2012.

FY2011 Results

By following the three-year fiscal recovery plan, the FAS has completed FY2011 with a modest deficit of $16.2 million in the Core unrestricted actual results. On a consolidated basis (that is, including the results in Athletics, the Division of Continuing Education, Dumbarton Oaks, the Harvard College Library, the Museums, and the School of Engineering and Applied Sciences), the unrestricted FAS deficit was $31.4 million, and on an all-funds basis the consolidated bottom line of the FAS was a manageable deficit of $23.2 million. In short, the FAS finished FY2011 on track with the dean’s plan to close approximately half of the remaining structural deficit identified at the beginning of the year. The availability of reserves to bridge this remaining gap over the current fiscal year (FY2012) remains an important part of the approach.

Many elements contributed to this positive outcome in FY2011. They fall into several categories of savings that have been important throughout the three-year recovery plan.

• FAS energy conservation and greenhouse gas emissions reduction efforts, combined with smart and careful building management practices, contributed $7.2 million of savings in FY2011 and $36 million during the three-year period. These achievements are even more significant when one considers the increased square footage of our facilities in recent years.
• Careful control over staffing levels and new position requests has maintained the FAS staff count at approximately 2900 positions, a figure that has been flat since early FY2010. The FAS is down approximately 200 positions since prior to the fiscal crisis. New positions have been approved sparingly and in areas of most strategic need, such as support for sponsored research. Annual compensation increases have been restored following a year without increases in FY2010, but at an average of 2 percent for strong and sustained performance for most faculty and staff, they are still below the levels seen before the fiscal crisis.
• Significant savings across the Core through reductions to controllable non-compensation expenses, such as travel, meals, purchases of goods and services, and other discretionary spending, have contributed to the deficit reduction in every year. Core spending in these areas is down by 13 percent or $6 million compared to FY2008. The implementation of the Harvard Crimson Online Marketplace (HCOM) generated approximately $1 million in savings in FY2011, a partial year. We expect that figure to grow as the implementation is completed in FY2012.
• The use of restricted income, consistent with fund terms, to pay for essential current costs has been a key way in which many departments, centers, and other affiliates have assisted in the recovery.
• In spite of the economic downturn, the generosity and support of Harvard alumni and donors continued, and the FAS was able not only to achieve, but slightly exceed its annual fundraising target. Equally important, our donors responded to the dean’s request to shift donations into unrestricted, general-use giving, providing much-appreciated flexibility in challenging times.

Targeted Investments Continue

The work of the faculty did not stop while these budgetary actions were under way. Some investments in the academic mission of the FAS were too important to wait for a more favorable economic climate, and Dean Smith’s recovery plan made room for a number of targeted investments. For instance, during FY2011, active faculty searches resulted in 39 external offers and 22 successful new hires to date. This robust level of faculty search and hiring demonstrates our ongoing commitment to excellence and the attractiveness of the FAS to the world’s finest faculty. Also during FY2011, 4,134 undergraduate students, or nearly 62 percent, received some level of scholarship grant aid to attend Harvard. Financial aid expenditures rose in FY2011 to $154.5 million, at a time when resources available from the endowment that support the cost of financial aid were substantially diminished. In comparison, financial aid expenses were less than half this total as recently as FY2003. The strength of our financial aid program, and Harvard College’s attractiveness to a diverse and outstanding student body, is reflected in the record year experienced by the FAS for new applicants, which approached 35,000. Additionally, stipend levels for graduate students were increased modestly. During the three-year recovery period (that is, between FY2008 and FY2011), FAS total financial aid grew by $48 million, or 45 percent, remarkable growth in the context of a significant revenue drop during this period.

As always, we aspire to have the finest physical space for teaching and learning, and while major physical expansion efforts have diminished during the fiscal recovery, the FAS was able to direct resources toward a variety of important projects in FY2011. As always, these included various renovation projects to accommodate new and newly promoted faculty and the program of summer maintenance projects that ensure our facilities are properly stewarded. FY2011 saw the completion of a major renovation of the Sherman Fairchild building to accommodate the cross-school Department of Stem Cell and Regenerative Biology, and the commencement of a substantial renovation of Paine Hall that enhances teaching, performance, and practice spaces for Music students and faculty. The FAS also contributed $5 million with the University contributing an additional $5 million to fund Harvard’s $10 million investment in the Massachusetts Green High Performance Computing Center (MGHPCC), a research computing facility being constructed in Holyoke, Massachusetts, by a consortium of five universities (Harvard, MIT, BU, Northeastern, and UMass), the Commonwealth, and private industry. This investment will provide affordable and reliable research computing capacity for the FAS in the future.

FY2011 was a year of progress on Dean Smith’s plans to renew the undergraduate residential House system. Funds were spent on planning, design, and exploratory work on the test project in Old Quincy House, an important step in learning and testing concepts for renewal across the Houses. To get ready for this project and other capital needs, as well as to manage the FAS’s high debt load, we have looked for opportunities to pay for projects with equity and to pay down existing debt where possible. During FY2011, $16 million of capital projects planned in the upcoming fiscal year were funded directly from FY2011 operating funds, and $13 million was used to pay down internal debt, resulting in a reduction in the amount of FY2012 income required for interest payments on our long-term debt.

Balance Sheet View: Continued Rebuilding of FAS Assets

As set forth in the Consolidated Balance Sheet, total net assets for the FAS grew by just under $2 billion during FY2011, from $13.8 billion in FY2010 to $15.8 billion in FY2011. The increase principally reflects growth in long-term investments (primarily endowment), from $12.2 billion at the close of FY2010 to $14.1 billion at the close of FY2011.

In comparison, FAS’s net assets stood at $18.0 billion at the close of FY2008, of which long-term investments represented $16.6 billion. Further, it is recognized that the relatively strong capital market performance in FY2011 that helped drive strong investment returns has been followed by significant market volatility and continued negative economic news nationally and globally, indicating that volatility in the capital markets may exist for the foreseeable future.

The Outlook: FY2012 and Beyond

Following two difficult years of declining revenues, FY2012 provides welcome breathing room for the FAS. An increase of 4 percent in the endowment distribution, coupled with the fiscal discipline achieved in the last three years, will fuel modest growth in the Core and other FAS budgets, and is expected to help achieve the dean’s goal of a structurally balanced budget by year end.

This is great news, but internal and external factors will require effort to ensure balanced budgets in the near future. Ongoing upward pressure on some of our expense categories, coupled with, at best, modest increases to our key revenue sources for the foreseeable future, suggest that sustained fiscal balance will require our continued focus and innovation.

Foremost among the challenges faced by the FAS is ensuring adequate resources to attract and retain outstanding faculty and graduate students. Operating successfully in the market for the finest scholars requires competitive search budgets and authorizations as well as competitive scholarship and aid programs for graduate students. Faculty and graduate students are the intellectual capital underlying our educational and research mission; thus, maintaining and enhancing our world class academic reputation require sufficient funds in these critical areas.

Our generous undergraduate financial aid program enables us to attract the finest and most diverse undergraduate student body in the world. Our dedication to sustaining Harvard’s “best in class” financial aid program remains steadfast, but doing so will exert pressure on the finances of the faculty for years to come, particularly on the unrestricted budget.

The revenue outlook remains constrained. Distributions from our largest source of operating revenue, the endowment, will very likely be modest at best. As a result of the fiscal crisis, the FAS now relies on the endowment to fund 49 percent of our operating budget, down from 54 percent in FY09. Further, the University has adopted a smoothing formula to reduce the volatility of endowment changes. Despite this progress, it is still by far the FAS’s largest revenue source. FAS’s cost structure is relatively fixed, and is expected, in many cases, to inflate at a pace that exceeds anticipated growth in endowment distributions.

A new concern is our sponsored revenue, which currently represents approximately 15 percent of our budget and has been a bright spot during the recovery. While our faculty will always be among the most productive, innovative, and successful in the competition for research funding, we anticipate that the current pressure to reduce the federal deficit may reduce the funding available through the traditional sponsoring agencies. We need to make strategic investments in ways to support our faculty in this shifting environment.

The progress identified in this report would not have been possible without the leadership, creativity, hard work and sacrifice of colleagues throughout the FAS and business partners elsewhere at Harvard. Though continued discipline will be required to maintain these gains, your efforts have positioned the FAS to withstand continuing fiscal challenges and enable key investments in our academic mission.

Respectfully submitted,

Leslie A. Kirwan

Dean for Administration and Finance

Click here to download Appendix: Faculty of Arts and Sciences Managerial Financial Report.