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What is an 'Endowment'

An endowment is a financial asset, in the form of a donation made to a non-profit group, institution or individual consisting of investment funds or other property that may or may not have a stated purpose at the bequest of the donor. Most endowments are designed to keep the principal amount intact while using the investment income from dividends for charitable efforts.

BREAKING DOWN 'Endowment'

Endowments provide ongoing benefits for those that receive them by earning a market rate of interest while keeping the core endowment principal intact to fund future years of scholarships or whatever efforts the donor seeks to fund. In some cases, a certain percentage of the assets are allowed to be used each year, so the amount pulled out of the endowment could be a combination of interest income and principal. The ratio of principal to income would change year to year based on prevailing market rates. Endowments can be set up for purposes ranging from higher education to the wellbeing of pets, and can include terms like swimming tests and ice-cream made available at all times.

Types of Endowments

There are four different types of endowments; unrestricted, term, quasi, and restricted. 

  • Term endowments usually stipulate that only after a period of time or a certain event can the principal be expended.
  • Unrestricted endowments assets that can be spent, saved, invested, and distributed at the discretion of the institution receiving the gift.
  • A quasi-endowment is a donation by an individual or institution who give the gift with the intent of having that fund serve a specific purpose. The principal is typically retained while the earnings are expended or distributed per specifications of the donor. These endowments are usually started by the institutions that benefit from them via internal transfers or by using unrestricted endowments already given to the intuition.
  • Restricted Endowments have their principal held in perpetuity, while the earnings from the earnings from the invested assets are expended per the donor’s specification.

Except in a few circumstances, the terms of these endowments cannot be violated. If an institution is near bankruptcy or has declared it, but it still has assets in endowments, a court can issue a doctrine of cy-près so the institution can use those assets to move them to better financial health while using the endowment in a way that reflects the wishes of the donor as closely as possible.

Use of Endowments in Universities and Colleges

Endowments are such an integral part of Western academic institutions that a fair measure of a college or university’s wellbeing can be the size of their endowment. They provide colleges and universities with the ability to fund their operating costs with sources other than tuition, and ensure a level of stability by using them as a potential ‘rainy-day-fund’.

Endowments set up by these institutions or given as gifts by donors have multiple uses. They can ensure the financial health of specific departments, they can establish professorships, and they be awarded to students in the form of scholarships or fellowships as awards for merit or as assistance to students from a background of economic hardship.

‘Chair positions’, or ‘endowed professorships’ are paid with the revenue of an endowment, and free up capital with which institutions can use to hire more faculty, increasing professor to student ratios. These chair positions are considered prestigious and are reserved for senior faculty.Endowments can also be established for specific disciplines, departments, or programs within universities. Smith College, for instance, has an endowment specifically for their botanical gardens, and Harvard has upwards of 10,000 separate endowments.

Management of Endowments

The goal of any group given the task of managing a university's endowments is to sustainably grow the funds by reinvestment of the endowment’s earnings while also contributing to the operating cost of the institution and it’s goals. Older educational institutions like the Ivy League schools in the United States have been successful in building extremely robust funds in party because of continued donation from wealthy graduates and well managed funds. Harvard, Yale, Princeton, Stanford, and MIT have, respectively, $32 Billion, $20 billion, $18.7 billion, $18.6 billion, and $10 billion in their endowments.

Management of an endowment is a discipline unto itself. An outline of considerations made by a management team include; setting objectives, developing a payout policy, building an asset allocation policy, selecting managers, managing risks systematically, cutting costs, and defining responsibilities. 

Criticism and Student Activism

Harvard and other elite higher educational institutions have come under criticism for the size of their endowment. Critics have questioned the utility of large, multi-billion dollar endowments, likening it to hoarding, especially as tuition costs began rising at the end of the 20th century. Large endowments had been though of as rainy day funds for educational institutions, but during the 2008 recession endowments did the opposite, instead many of them cut the payouts on endowments. A study published in the American Economic Review looked closely at the incentives behind this behavior, found that there has been a trend of overemphasis on the health of an endowment instead of that of the institution as a whole by endowment managers. 

It’s not unusual for student activists to look with a critical eye at where their colleges and universities invest their endowment. In 1977 Hampshire College divested from South Africa in protest to apartheid, a move that a large number of educational institutions in the United States followed soon after. Advocating for divestment from industries and countries students find morally compromised is still a common tactic used by student activists.

Private Non-Operating Foundations and Federally Required Payout

Managers of endowments have to deal with the push and pull of interests to make use of assets to forward their causes, or to sustainably grow their respective foundation, institution, or university. Philanthropies, or more specifically private non-operating foundations, a category that includes the majority of grant-making foundations, are required by federal law to pay out 5% of their investment assets on their endowment every year for charitable purposes.

Private operating foundations must pay substantially all (85% or more) of it’s investment income, while community foundations have no requirement.

History

The oldest endowments still active today were established by both Henry the VIII and his relatives. His grandmother, Countess of Richmond established endowed chairs in divinity at both Oxford and Cambridge, while King Henry the VIII established professorships in a variety of disciplines at both Oxford and Cambridge.

Marcus Aurelius established the first recorded endowment for the major schools of philosophy in Athens circa 176 AD.

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