Friday, June 28, 2013

What College Trustees Are For

cross-posted from Dagblog

So it turns out that New York University has bought its president a summer home on Fire Island (h/t Tenured Radical). Or rather, a special foundation associated with New York University has loaned the university president, John Sexton, around a million dollars to buy a beach house, and there seems a real possibility that much of that million-dollar mortgage will eventually be forgiven, so that Sexton won't have to pay it back. NYU has also made similar vacation-home loans to other top administrators and VIP faculty, at least some of them on the same forgive-over-time plan. This represents a brave new financial frontier in higher education. No other university buys its executives second houses. This seems like an obvious story of an out-of-control administration. But more importantly, it's the story of a board of trustees failing to do its job.

A college or university's board of trustees oversees the long-term financial health of the institution. They approve the budget, keep tabs on how the school's endowment funds are being invested, hire and fire the president, monitor debt levels, and decide how much of the school's annual investment returns should be invested in running the school and how much should be reinvested in the markets. It's an absolutely necessary function.

Lately, there has been argument about how far boards' fiduciary authority extends, an argument that involves both genuine gray areas but also examples of poorly-thought-out overreach. Because their central job is financial oversight, trustees tend to be business and legal types. NYU's Board is fairly typical in that (except for two emeritus NYU presidents whose appointments may be honorary) the Board includes no one with a background in education. Barry Diller and Maria Bartiromo aren't necessarily the people you want to ask about how to teach history or which physics researchers to hire. They have (and need) a totally different kind of expertise. In the traditional arrangement, the faculty takes the lead in questions of teaching and scholarship, the administration takes the lead in daily management, and the trustees take the lead in questions of overall financial management. Some boards do seem intent on micromanaging things better left to the other two spheres (as in the recent CUNY mess, or last summer's debacle at the University of Virginia), but no matter how far a particular board believes its brief extends, fiscal oversight is its original core mission. Providing fiscal oversight is the reason any board of trustees exists in the first place. And when a board neglects that duty, bad things happen.

When the trustees don't do their jobs properly, the university administration begins to overspend on things that administrators tend to value: more administrators, higher administrative pay, more spending on big-ticket athletics (which can run up staggering deficits), and higher construction debt. University presidents have strong personal incentives to spend lots of money on large, impressive new buildings; putting up a "signature building" is considered a major achievement, and can help the president move on to a better job. Of course, raising the money for fancy new buildings really is a significant achievement, and a sign of a president's overall fundraising skill. But some university presidents don't want to wait until they've raised the necessary funds before they put up their big new construction project, or they have construction ambitions that are beyond their fund-raising skills. If the trustees don't holds the reins properly, a president can go on a building spree with borrowed money, saddling the institution with tens of millions of dollars in debt that will eventually have to come from other revenue. A healthy board should keep that from happening.

(What faculty generally want, on the other hand, is more money spent on the annual operations of the education side, including on faculty compensation but also on more faculty, more financial aid, and so forth. A university tilted to far toward faculty interests spends too much of the annual return on its endowment on the yearly operating budget and doesn't reinvest enough of those funds for the future.)

NYU doesn't blow its money on a football or basketball team. (It's Division III, which means no athletic scholarships.) It has been doing a lot of new building since Sexton took over, and is planning much more. Exactly what that means depends on the details of the financing. If Sexton has gotten donors to fund most of that construction, he's been doing exactly what the trustees hired him to do. If a lot of that construction has been financed with debt, on the other hand, that would mean the trustees haven't done their duty to the school.

On the question of executive compensation, however, NYU's Board seems to have lost its senses completely. There has already been a long history of controversy over how much NYU was spending on top executives. Buying those executives second homes ends the debate by proving the critics right.

NYU's board chairman, Martin Lipton, has written a letter to the New York Times defending NYU's practices while missing the real point. Lipton argues that the University needs to pay what it takes to attract and keep top talent, who other schools want to hire away from NYU, etc. But it's clear that Lipton doesn't get it. No one objects to paying employees what it takes to keep them. The problem is that NYU is paying certain favored people more than they could conceivably get anywhere else. It is a failure of the Board's fiduciary duty.

To get a few things out of the way: many universities, especially those in expensive real estate markets such as New York City or the San Francisco Bay Area, give their faculty housing assistance. Even some schools in fairly inexpensive areas help their faculty buy homes: for example, chipping in if the faculty buy a house in the neighborhood around campus. (Fair disclosure: none of my employers have given me housing assistance of this kind. Would I take such assistance if it was offered to me? Probably.) But if you're trying to run a world-class college in Manhattan, helping your hires with Manhattan real estate is part of hiring them. That is not crazy.

Also, just about every college provides the college president with a house, whether that's a mansion on campus or another place that the school purchases for the new hire. The college president is the school's most important fundraiser, and she or he needs a big, impressive house to throw functions for guests and donors. The house is part of the job, and the school provides it. That's not crazy, either.

But buying Sexton a beach house is crazy, because it has no market justification. This is excessive compensation because there is no market justification for it. No other school is going to steal John Sexton away by giving him a million-dollar beach house, because no other school buys someone two houses. NYU is compensating Sexton in vast excess of his market value; it's like an NFL team giving the quarterback a private jet and saying they needed to do it to keep him. They don't need to give him a jet, because no one else would give him a jet. NYU doesn't need to give Sexton two houses to keep him, because no one else would ever give him more than one free house.

But it's even worse than that. In a market where no one buys anywhere more than one house, NYU has been buying more than one house for more than one person: not just Sexton but at least one executive VP, the dean of the law school and several law and medical faculty. This suggests that the Board is totally out of its mind. It's giving an unheard-of six-or-seven figure perk, which no one else would give to any employee, to multiple employees. This is like an NFL team giving private jets to the backup quarterback, the wide receivers, and the punter. It doesn't make any sense. Most importantly, it doesn't make any business sense.

It's not even clear who the Trustees think will hire Sexton away from them. The actual market for his services at this point is surprisingly small. There aren't a lot of other universities bidding for his services, because even at actual market rates only a few other universities could afford his services, and most of them likely aren't interested.

There aren't many schools that wouldn't represent a step down from NYU, either in pay or in the desirability of the job itself. In fact, most of the richer and more famous schools pay their presidents less. (Columbia, the Ivy uptown from NYU, does seem to pay its president more; call it the Manhattan premium.) Moreover, several of the filthy-rich schools that could conceivably afford to give Sexton a raise have long traditions of only hiring presidents with a degree from their own school, or prefer to promote from within, or both. Yale and Princeton hired new presidents in the last year; both hired their own provosts. If you take the already-small pool that could afford to give Sexton a raise and that would look like a step up from NYU, and then you subtract the Princetons, Yales, etc., how many places are left? NYU's Trustees are giving Sexton things that no employer gives, for fear that he will leave them for another employer who does not exist.

Business sense is what the Trustees are for. If they're not providing that, they're worse than useless to the university. But at NYU, business sense seems to have given way to business culture. Many of the Trustees themselves are part of a culture of excessive CEO compensation, and their sense of what is "normal" for executive leadership has trumped their ability (or their will) to make a hard-nosed evaluation of actual market prices. That lack of business judgement undermines NYU's financial strength, wasting funds that should have been invested in the institution itself. They are bidding against themselves to retain people who are in little danger of leaving, and they they pay their outrageous auction prices with the University's money.

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