TWO ESSAYS ON HIGHER EDUCATION FINANCE I. DO UNIVERSITIES HOARD THEIR ENDOWMENTS? AN ANALYSIS OF HOW SHOCKS TO UNIVERSITY ENDOWMENTS AFFECT PAYOUTS II. TO BORROW OR NOT TO BORROW? AN ANALYSIS OF UNIVERSITY LEVERAGE DECISIONS

Abstract

This thesis consists of two essays that analyze the financial behavior of institutions of higher education. The first essay examines how universities respond to unanticipated changes in the value of their endowments. I focus on the impact of such shocks on endowment payouts, the amount of money from the endowment that supplements the university’s budget each year. I find that payouts in a given year are not altered by contemporaneous shocks. However, payouts in the following year are affected symmetrically by positive and negative shocks. An unexpected 10% increase (decrease) in the value of the endowment leads to an increase (decrease) of 8 to 10% the following year. I show that these findings are consistent with the notion that universities adhere to their payout policies, the goals of which are to smooth university expenditures over time. My results refute the view that universities hoard their endowments by increasing payouts in response to positive shocks much less than they decrease payouts in response to negative shocks. I also examine the impact of endowment shocks on university personnel and compensation decisions. The second essay investigates the decisions of universities to issue debt. Specifically, I test whether the expected value and uncertainty of a university’s nonfinancial income, the income generated by sources other than its endowment, affect its leverage, the ratio of the value of an institution’s liabilities to the value of its assets. I find that leverage is negatively related to both the expected value and the uncertainty of nonfinancial income. On average, increasing the expected value of nonfinancial income by one standard deviation decreases a university’s debt by about $5.1 million, while increasing the uncertainty of nonfinancial income by one standard deviation decreases debt by about $2.7 million. These findings are consistent with the hypothesis that universities follow the pecking order theory of capital structure, which posits that they tend to deplete available internal funds before issuing debt. I also show that the leverage decisions of universities have become less sensitive to expected nonfinancial income but more sensitive to income uncertainty since the Great Recession.