Schneiderman’s financial analysis of Cooper Union*

 

Eric Schneiderman’s analysis of Cooper Union’s finances is riddled with errors. His analysis understates the longevity, magnitude and structural nature of a quarter-century of deficit financing. It fails to recognize the decades-long depletion of assets used to cover these deficits, well before the time period upon which he focuses. Finally, his report minimizes the urgency of the financial problem, thereby making the problem worse.

 

Preface*

 

This critique of Mr. Schneiderman's report is offered for several reasons: 1) His report contains false allegations by an elected politician against citizens acting in good faith and within the law; it must be rebutted for the record and as a matter of justice; 2) it contains factual inaccuracies about the finances of Cooper Union; it must be refuted in the interest of scientific truth, which Peter Cooper held up as the highest epistemic standard when evidence is at odds with belief; and 3) for a financial plan to be in the best future interests of an institution, it must be grounded in fact rather than myth or politics; fiduciary duty requires that these facts be made known. Facts are stubborn things, and catch up eventually.

 

Schneiderman's financial history of Cooper Union prior to 2011

 

Mr. Schneiderman's financial history of Cooper Union skips over critical periods. This becomes clear when you plot data from publicly available audited financial statements, which employ Generally Accepted Accounting Practices (GAAP). These data are available from several sources. First, audited financial statements from more than a decade prior were posted on-line early in my presidency, and updated annually. Second, Robert Spencer (from Huron Consulting Group) presented to constituents in 2013-2014 a technical historical analysis based on the audited data. Third, the audited historical data were summarized in my State of Cooper Union report of 2014. A slideshow of the State of Cooper Union report was presented at alumni gatherings around the country during the spring of 2015. (Various points in the present critique of Schneiderman's report are supported with links to relevant slides from that slideshow).

 

Among the most egregious errors is Mr. Schneiderman's characterization of the 1990s (which he lumps together with the 1980s) as a period during which “Cooper Union’s income from investments and the Chrysler Building were sufficient to maintain general fiscal stability, notwithstanding occasional years of deficit spending”.

 

That couldn't be further from the truth. In the early 1990s, a deficit opened up that never has closed. (The apparently balanced budged in 2002 was an artifact of revenues received after the close date of the previous fiscal year). Expressed as a percentage of expenses, deficits in the 1990s reached as high as roughly 30% in 1996.

 

Cooper Union “managed to avoid any existential crisis until recently”, Mr. Schneiderman stated. Not true. The crack in the financial foundation was known in the 1990s. In 1994, Cooper Union Vice President Robert Hawks told the The New York Times (November 6) that the financial situation would reach “crisis proportions within five years”.  “There is little reason to believe that the income will even keep pace with the cost of living for the foreseeable future”, The Times observed.

 

In his State of Cooper Union report in 1995, President Iselin spoke of an “approaching danger of gale force”, explaining that real estate values “have plunged and with them the College’s revenues”. A “mounting operating deficit”, he wrote, “threatens the College’s long-standing capacity to excel”. He emphasized that the deficit was “undeniably structural in nature”.

 

In 2000, The Chronicle of Higher Education reported that between 1990 and 2000, Cooper’s endowment dropped from almost the top 100 in the nation to barely in the top 200.

 

Mr. Schneiderman omits a period that was among the most urgent ever: from 2000-2003. For much of Cooper's history, unrestricted investment funds have served as a reserve that defrayed budget deficits. Being an unrestricted pool of funds, it was not bound by the 5% endowment spending rule. But the burn rate during the 1990s left the unrestricted pool so depleted it could no longer recover through market appreciation alone. Between 2000 and 2003, the unrestricted investment pool was in free fall and in danger of invading the restricted endowment (the corpus). In non-profit practice, that would have been a catastrophe. The free fall was arrested between 2003 and 2007 only by selling property on the periphery of campus and borrowing heavily.

 

Contrary to his claim that there was no existential crisis until recently, consider this. In 2002, seven members of the Engineering faculty addressed a memo to the Cooper community with the subject heading, “Re-arranging Deck Chairs on the Titanic”. Citing Cooper’s “dire financial straights”, they complained of “institutional hand-wringing” and the “failure to rapidly implement effective measures for the institution’s survival”, and demanded that determined measures “be imposed immediately”. Their first proposal was: “Move to a tuition model”! Incredibly, when tuition was implemented as a last resort, one of the signatories sued the instutition for doing precisely what he had advised.

 

Beyond 2011

 

I arrived as president of Cooper Union in July of 2011. The official operating deficit was $8.2 million, and the stated value of the endowment (which included Chrysler) gave little reason to expect that insolvency might be imminent.

 

Within months, I uncovered three terrible truths. First, the burn rate was around $16 million, at least twice the official deficit.; this was because the interest on the $175 million loan had not been included in the operating budget. The audited financial statement for FY2011, approved the following year, shows that it was the largest deficit in decades, perhaps ever. In inflation-adjusted 2014 dollars, it was roughly $24 million. Our fiduciary responsibility required that we exercise strong leadership and take urgent action, in spite of the inevitable disruption.

 

Second, the unrestricted investment pool was projected to collapse to zero in two to three years, under almost any market assumption (echoing the situation in 2000-2003). This meant that freshmen in 2011 might not graduate. Once again, fiduciary duty compelled strong leadership and urgent action, even in the face of opposition.

 

Third, the $22.5 million step-up in Chrysler rent scheduled for 2018 was not going to cure the ailment, because the rents are not scheduled to keep up with inflation beyond that date. Between the 2018 step-up in rents and the next one (2028), Chrysler income (including tax equivalency payments) is projected to increase by less than 2% annually, well below the historical average growth in the CPI. An educational institution cannot conquer inflation indefinitely.

 

A stark conclusion follows from the fact that revenues will not keep up with inflation after the 2018 step-up. While the step-up may balance the budget that year (the first balanced budget in 28 years, but possibly the last), the balance cannot be sustained. Furthermore, budget cutting or downsizing alone cannot solve the sustainability problem. If revenue growth falls short of inflation, budget cuts would be overwhelmed sooner or later, requiring new cuts, year after year, eventually hollowing out the institution.

 

The structural problem is not the discrepancy between the base revenues and expenses at any given point in time. Rather, it is the discrepancy between the slopes of the revenue and inflation curves over time.

 

This structural problem was diagnosed by Cooper Union Presidents Humphreys and White, and has been the singular cause of Cooper's deficits ever since, yet missed entirely by the State's designated fiduciary-in-chief. In his Financial Report, 1969-1970, President John White wrote:

 

"In 1969-70, total revenue from investments [primarily Chrysler] provided three-quarters of the amount needed to pay for educational and general expenditures. As recently as 1967-68 it provided 87% .... Under the long-term lease of that property, increases of this major source of revenue ... are well below the average rise in educational and general costs".

 

From President White's diagnosis in 1970 until the implementation of our Financial Sustainability Plan in 2013, there has never been a sustainable plan, for the very same reason. Only in the 1980s were deficits mitigated (just barely), thanks to a soaring real estate market. But if the budget is in balance only during exuberant times, it is by definition unsustainable.

 

Mr. Schneiderman states correctly that "From at least his first day as President, July 1, 2011, President Bharucha possessed sufficient information to know that the 2006 loan plan had failed, that the school's finances faced an imminent crisis."

 

However, his very next sentence is astonishing in its misrepresentation of the facts: "For the next four months President Bharucha did not publicly communicate any concerns about the condition of Cooper Union's finances". The truth is that during those four months, I disclosed the full extent of everything I knew, to multiple groups of alumni, faculty and students, as well as key public officials. Indeed, I disclosed the harsh reality to the Executive Committee of the CUAA within my first two weeks. The record shows multiple communications to the Cooper community to sign-up for or dial into sessions at which finances were to be discussed. My entire presidency was focused on confronting the financial situation head-on, with no gloss. Had I not acted as swiftly as I did (ironically, Schneiderman criticized the swiftness), Cooper Union would likely have become insolvent in 2014, and the Class of 2015 might not have graduated.

 

On the issue of expense savings, Mr. Schneiderman asserts that my administration's plan did not include any "one-time, top-level actual reductions in expenses." False. Audited financial statements show a dramatic and immediate turnaround in the deficit trajectory from the outset of my administration, even before any tuition was charged. The deficit trajectory reversed direction the very first fiscal year of my administration (FY2012). Over the first two years (FY2012 and FY2013), the only two for which audited financial statements have been posted, the total deficit reduction was $14.8 million. In these first two years, expenses declined, after years of rapid growth. Relative to the 4.5% growth projected in the prior plan, expense savings totaled $12.4 million over these two years. Even relative to the actual inflation factor of 2.5% used in our labor contracts over that period, we achieved total expense savings of $8.1 million. One-time budget cuts were implemented during my very first year, largely according to the recommendations of an Expense Reduction Task Force consisting of alumni, faculty, students, staff and administrators - a monumental effort by many people, yet completely ignored by Mr. Schneiderman.

 

Nowhere is Mr. Schneiderman's analysis more fallacious than in his discussion of financial assumptions. Arguing that the inflation assumption of the [Financial Sustainability Plan, a.k.a. Tuition Plan] was too low, he said: "If expenses grow at the school's historical average rate, approximately 7.5% annually, actual outlays would be about twice what the [Financial Sustainability Plan] anticipates by the time of the second Chrysler Building rent reset in 2028". In other words, our plan falls short because it does not assume a 7.5% annual growth rate in expenses. Insisting that Cooper adopt a 7.5% annual expense growth assumption is somewhere between absurd and ridiculous.

 

First, Mr. Schneiderman's assumption of 7.5% annual growth in expenses out to 2028 would lead to bankruptcy - tuition or no tuition. Second, nobody who actually understands, has managed, and keeps abreast of higher education finance would see such an assumption as anything but outlandish. Third, to suggest that an institution could be tuition-free assuming a  7.5% annual growth rate is voodoo economics.

 

Most imporantly, actual data show that his 7.5% scenario is not just a straw man: it is counterfactual! Expense growth has been negative for each year of my administration for which audited financial data have been published to date. Even with new investments in admissions and new programs, actual expenses and deficits have come in at or under  the projections of the Financial Sustainability Plan.

 

"OAG has found no evidence that the Board identified or analyzed these assumptions when discussing the [Financial Sustainability Plan] or its predescessor programs". If he had sought such evidence, it would have been readily available. The Working Group report states that: "Financial sustainability, as defined by the Finance Committee of the Board of Trustees, must be required for both the Tuition Plan and the Working Group Plan". The definition of sustainability referenced in the report was in the official charge to the Working Group. The charge states that the "Trustee Finance Committee has established the following minimum criteria for a sustainable financial model", and goes on to list a set of assumptions. These were the same assumptions used in the Financial Sustainability Plan/Tuition Plan, which had undergone rigorous vetting by the Board months earlier. The long-term assumption used for inflation was 3% for all costs other than debt service and healthcare.

 

The Cooper Union administration consulted the Charities Bureau (under Mr. Schneiderman) thrice, prior to and during our decision-making about tuition, without any expression of concern on the part of the Bureau. Yet after the lawsuit was filed, Mr. Schneiderman swooped down. When asked why he intervened, after his office had three times expressed no concern and offered no contrary advice, an Assistant AG claimed that he was unaware of any of our earlier consultations with his office.

 

The Cooper Union leadership was never given the opportunity to respond to Mr. Schnedierman's report. Nor did his office seek clarification on any of the statements that are disputed in this critique. On several occasions, when some of his statements were challenged on factual grounds, during oral presentations by an Assistant AG, the response was: "That is the view of our office". In other words, the AG's intervention was driven not by facts but by a pre-determined scenario.

 

On the central issue of whether instituting tuition was necessary, Mr. Schneiderman acknowledges that "the current circumstances of Cooper Union preclude ... immediately returning to a tuition-free model". In other words, tuition is immediately necessary, which implies that it could not reasonably have been delayed. And while he seeks to discredit our Financial Sustainability Plan/Tuition Plan (mostly on spurious grounds), he neverthless leaves in place its centerpiece: 50% tuition-scholarhips, with strong need-based financial aid to close the gap in tuition and living expenses for those who can't afford it. And while he quarells with the swift time-table on which we instituted tuition, the three years of continued strategizing that he calls for is made possible only because our plan enabled us to swerve away from a looming fiscal cliff that would likely have been reached in 2014. Our plan was sound and well considered. It has maintained Cooper's standards of student excellence and has dramatically increased socio-economic access. 

 

What were Mr. Schneiderman's motives for supplanting a rigorous quantitative analysis of Cooper's finanial history with one that contorts into a villain narrative? I shall pass on that question. What is clear is that his report was more of a hatchet job than an impartial, fact-finding investigation.

 

Revised May 31, 2016

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* Information in this document about Cooper Union is limited to factual information that is publicly available. A number of hyperlinks are provided to publicly available sources. Where opinion is expressed about matters at Cooper Union, it is limited to what has already been expressed publicly during the events at Cooper Union, and should be prefaced by, "It has previously been stated that...". Where opinions are expressed about Eric Schneiderman or his report, they constitute the exercise of free expression of a citizen about a politician.

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