Tuesday, May 13, 2008

Tax-Free Hedge Fund

Massachusetts is thinking (imagine Cape Cod twirling around like a propeller on a beanie) of imposing a tax on college endowments. Jim Manzi, via the Yglesias book promoting machine, points out that Harvard is really a tax-free hedge fund:

If you think of Harvard as a corporation, it had an income statement in FY 2007 with about $2.2 billion of revenues (tuition, sponsored research contracts, and so on) and about $3.2 billion of expenses, and therefore had to move about $1 billion from the endowment to make up the difference in order to run at basically break-even. In other words, it’s a big institution, but hey, it doesn’t make any money and has to survive on the kindness of donors, even if these donations are channeled through an endowment.

But if you look at what was happening on the balance sheet, or, rather the black box that is the endowment:

[i]f you just think about how much cash went into the shoebox and how much came out of it, a more accurate accounting for Harvard for FY 2007 would, in rough numbers, be a lot more like the following:

Receipts = $2 billion of operating revenue + $7.3 billion of investment income + $0.6 billion of gifts to the endowment = ~$10 billion.

Operating costs = ~$3 billion.

Profit = $10 billion – $3 billion = ~$7 billion.

This explains why Harvard’s net assets increased about $7 billion in 2007, from about $35 billion to about $42 billion.

Viewed purely in terms of economics, Harvard is really a $40 billion tax-free hedge fund with a very large marketing and PR arm called Harvard University that has the job of raising the investment capital and protecting the fund’s preferential tax treatment.

I had an epiphany reading about Princeton's endowment when I realized they could fund everybody's undergraduate tuition into perpetuity by the money thrown off from their endowment. Or they could make a tithing deal available. You can get a full boat, but that means giving X percent of your earnings for the rest of your life.

And that made me realize that it's all about the endowment. Everything. They want genders about even so most of the kids can have fond memories of college sex. They have sports teams to create lifelong bonds. Campuses create a sense of permanent community that are designed for nostalgia. The Ivies take legacies at a higher rate because they are more likely to contribute--a multigenerational commitment is best of all. Harvard allows you to have a Harvard.edu mail address for the rest of your life.

This is all marketing for the hedge fund.