Are Cooper Union’s finances fixable?

By Felix Salmon
May 11, 2013
James Stewart has an important column on Cooper Union today: if you read it carefully, it hints at how much further Cooper might yet fall from its founding mission of providing free education.

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James Stewart has an important column on Cooper Union today: if you read it carefully, it hints at how much further Cooper might yet fall from its founding mission of providing free education. Cooper’s trustees are press-shy these days, but Stewart snagged an on-the-record interview with one of the most important ones: John Michaelson, the chair of the investment committee.

Stewart chides Michaelson for his reliance on hedge funds, which have not served the Cooper endowment well. In the 2012 fiscal year, for instance, Cooper’s returns on its managed endowment were negative: they were down 5%, in a period where a standard mix of 60% stocks and 40% bonds would have returned a positive 8%. And with more than $100 million in hedge fund investments in 2008, Cooper was paying more than $2 million a year in hedge fund management fees alone, never mind performance fees. That’s the kind of money the college desperately needs for operational expenses.

Still, overall, Stewart is far too gentle on Michaelson, who was pictured grinning next to former president George Campbell in a highly-mendacious 2009 WSJ article extolling the performance of the Cooper endowment. Here’s how Stewart characterizes the endowment’s performance:

Compared with many universities, Cooper Union did a good job managing its endowment through the recent financial crisis. As recently as 2009, the school maintains, it ranked first among all American universities for endowment performance.

In reality, as Stewart never really explains, that “endowment performance” was entirely fictional — it was magicked out of thin air when Michaelson revalued the land under the Chrysler building upwards in order to mask a torrid performance from the rest of the endowment.

On top of that, Cooper levered up its endowment at exactly the wrong time, borrowing $34 million at an interest rate of 5.875% and investing it in the endowment, where it promptly evaporated during the financial crisis. Michaelson tries to explain this away by saying that the borrowed money was kept in cash, while it was the rest of the endowment which lost money. But if you look at the endowment that way, then, as Stewart points out, hedge funds accounted for more than 60% of the funds Michaelson was managing. That’s an insane ratio, especially given that Michaelson was quoted in the WSJ as being “especially critical” of the Yale Model of investing in illiquid alternative asset classes.

Stewart also goes easy on the trustees — Michaelson foremost among them — for making their single biggest mistake: borrowing $166 million to build the grandiose New Academic Building. “Hardly anyone disputes Cooper Union’s need for new engineering facilities,” he writes — and he’s hilariously, egregiously wrong about that. Virtually everyone outside the Board of Trustees disputed Cooper’s need for new engineering facilities — even a large chunk of the engineering faculty, which had the most to gain from the new building. The “need”, it’s now abundantly clear, was not a real need at all; instead, it was a device, an excuse to make the decision to construct the new building seem reasonable, even necessary.

Stewart essentially says that Cooper did need to build something new, it just didn’t need to build something quite as grand and expensive as it ended up with. But he’s deeply and importantly wrong about that. Here’s the thing about mortgages: they’re not just free money, they’re something you need to pay off, over time. And in order to do that, you need income. When Cooper Union’s trustees, including Michaelson, took out a $175 million 30-year fixed-rate mortgage at 5.875%, they knew exactly how much money Cooper would need to repay that mortgage every year.

And they had no idea where that money was going to come from.

This — much more than any endowment mismanagement — was the colossal, fatal error made by Cooper’s trustees. There are generally two ways of paying down a mortgage: either you go to work and earn money you then use to pay the mortgage, or else you rent out the building itself and use the income it generates to cover the mortgage payments. Neither route was available to Cooper: all of its income, and then some, was needed to run the school, which meant that there was nothing left over to pay the mortgage. And with the exception of a tiny coffee shop on the ground floor, Cooper isn’t renting out any of the new building.

At the end of Stewart’s piece, Michaelson makes a very important admission:

Mr. Michaelson conceded that the school could have continued to invade the endowment to cover deficits and would have survived until 2018, when the higher payments from the Chrysler lease kick in. “But what kind of school would you have had by then?”

The answer, of course, is a free one; if this really was an option, then the trustees owe the Cooper community a serious, detailed explanation of how and why they ended up making the decision to charge.

But the real answer is that while the higher payments from the Chrysler lease would be enough to cover the operating costs of a small, excellent college, they would not be enough to cover Cooper’s operating costs and the mortgage payments on the new building. Michaelson is making it sound, here, as though he decided to charge tuition for the sake of the school. In fact, he decided to charge tuition because that’s the only way that the school can pay off the monster loan he took out with no conception of how he could ever pay it off.

What’s Michaelson’s explanation of where he thought the money for the mortgage payments was going to come from? He doesn’t seem to have one, but the closest thing that Stewart finds is a deluded “if you build it, they will come” mindset:

Trustees told me that the college’s development consultants told them that a signature building with a marquee architect — in this case, Thom Mayne of Morphosis Architects — would attract a large donor eager to have his or her name on a trophy building.

But no such donor materialized, and experts I consulted said Cooper Union had it backward — the first step is to attract the donor, who then is involved in choosing the architect and designing the building. “I’ve never heard of a case where you build the building first and hope a donor comes along,” said Kenneth E. Redd, director of research and policy analysis for the National Association of College and University Business Officers.

Passing the buck like this to anonymous “development consultants” is just despicable. It was the board which borrowed $175 million without being able to pay it back, not the development consultants. And what’s more, it was the board which locked in a fixed 5.875% interest rate for the next 30 years, which isn’t the kind of thing you do if you’re basically just borrowing money on a short-term basis before a deep-pocketed donor comes along to pay off the mortgage in full.

And in any case, according to what we now know, once the building had been constructed and no beneficient billionaire had materialized to pay for it, Cooper was financially doomed: it had no ability to pay off the monster mortgage. If that was the case, then why on earth was Michaelson telling the WSJ — after the New Academic Building was finished — that Cooper’s financial condition was positively rosy?

All of this, however, is stuff we already knew, pretty much. The scariest part of Stewart’s article comes with another quote from Michaelson, where he grumbles about the fact that most of Cooper’s income comes from the Chrysler Building. (The land under the Chrysler Building was bequeathed to the college by Peter Cooper.)

Stewart quotes Michaelson as saying that having 84% of the endowment in a single asset “is against everything I stand for”. He then does a lot of back-of-the-envelope calculations designed to show that maybe Cooper should sell the land under the Chrysler Building, and intimates that the main reason Cooper hasn’t done so is the board’s “nostalgic attachment” to the asset.

On its face, this is completely crazy. The land under the Chrysler Building is worth substantially more to Cooper Union than it is to anybody else, because under a deal that Cooper Union struck with New York City, the college receives more than $18 million per year in something called payments in lieu of taxes, or PILOTs. That’s the amount of money that the building would normally generate in property-tax payments for the city; instead, those payments end up going straight to Cooper Union, and New York City gets no property tax revenues at all from the iconic skyscraper.

If Cooper sold the land under the Chrysler Building, all those property tax payments would revert to New York City, rather than the new owner, and a substantial revenue stream would be effectively destroyed, rather than sold. I don’t know what the net present value is of the Chrysler Building’s PILOTs, but it’s got to be somewhere in the region of half a billion dollars, if not more. It makes no sense whatsoever to give that up for nothing.

So why is Stewart taking this cockamamie talk seriously, and why is Michaelson talking with a straight face about selling the land under the Chrysler Building? The answer, I fear, is that Cooper Union, in deciding to charge tuition, has given New York City more than enough ammunition to tear up the deal whereby Cooper gets the Chrysler Building’s PILOTs.

Cooper Union says that the current occupation of the president’s office “has created a poisonous and dangerous atmosphere that can potentially destroy the school forever”. No one in the administration is going to come out and say explicitly what that means, so let me translate it into English for you: they’re saying that the more noise Cooper’s students make in protest at the tuition decision, the more likely it is that New York City is going to decide that it wants its property-tax revenues back, and that Cooper Union, without free tuition, is not a worthy enough cause to justify an effective $18 million per year public subsidy.

If Cooper loses its PILOT payments, then that really would be financially devastating for the college, and it would at that point be effectively forced to liquidate the Chrysler asset, whether it wanted to or not. It seems to me that Michaelson is using Stewart to help lay the groundwork for such an eventuality, and is trying to make the case that selling the Chrysler Building land is not such a dreadful thing to do after all.

I don’t buy it. But looking at what Michaelson says in Stewart’s piece, I can’t help but wonder whether maybe there is a solution here after all. The problem, remember, is that Cooper can’t sell the Chrysler Building land because if it were to do so, the new buyer wouldn’t receive those massive PILOT payments. But what if the purchaser of the land were another important civic institution? Could Cooper Union, working with the Bloomberg administration, work out a deal whereby the Chrysler Building land — with its PILOTs intact — could get sold to Trinity Church, or one of New York’s big non-profit hospitals, or even possibly the Bloomberg Foundation? New York has no shortage of massively-endowed foundations and non-profit organizations which have the wherewithal to buy such an asset; many of them might be interested in it.

It’s not clear why New York City would have any particular desire to go along with such a deal, unless they could by doing so claim to have managed to preserve Cooper Union as a tuition-free college embodying Peter Cooper’s founding principles. In other words, Cooper’s board of trustees would have to go back on their decision to start charging tuition. But the proceeds from selling the Chrysler Building land would be more than enough to pay off the mortgage on the New Academic Building; and at that point, the trustees would just have to work out how many students they could afford to teach on the income from the money left over. Cooper Union would continue to exist, it would continue to be free, and Mike Bloomberg would end up capping his tenure as mayor by saving a noble institution from the brink of disaster. I think Jamshed Bharucha should put in a call, even if he has to do so from his home phone.

14 comments

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As a alumnus, I would like to see Cooper survive, preferably in tuition free form. However, I’m leery of the idea of selling off the Chrysler Building site, if only because the school has had a history of disposing of assets to fund itself. Green Camp, the site of the luxury high rise on Astor Place, the old Engineering Building, etc. Dispose of the Chrysler Building, and what is left to sell at the next financial crisis — the “New Academic Building” or even the Foundation Building? Past history does not predict future performance, as they say, but the track record certainly isn’t good.

Posted by FrankWortner | Report as abusive

Oh, and how cute, Mayor Bloomberg will be giving the 2013 Commencement Address for Cooper Union: http://cooper.edu/about/news/mayor-bloom berg-deliver-2013-commencement-address

Maybe he can deliver the bad news then.

Posted by chrisrusak | Report as abusive

Thank you for this excellent article, which raises broader implications applicable to the crisis at several universities adopting the corporate for-profit model of management, including real estate expansion and financial speculation, falling back on raising (or in this case, imposing) tuition fees. Recent events at NYU raise similar issues: lack of fiscal transparency, a pharaonic real estate expansion plan that most faculty (39 departments so far issued resolutions against it, including the Stern School of Business; votes of no confidence were passed by Arts and Science, Gallatin, Steinhardt, Tisch Asia and Tisch School of the Arts is voting next week) do not think the university needs. And in NYU’s case, the situation is even more terrifying, since the expansion is not just in the Village but global. Also notable is that NYU planned to use a large portion of the so-called 2031 plan for retail/income generating purposes. The role of trustees is also crucial, are any board members at these universities potentially earning money from these risky financial investments/new building projects? Only an investigation by the NY Attorney General can prove or disprove such doubts. In addition to this there are the reports of millions of dollars loaned or given to administrators and for-profit range salaries paid to them and to Dr. Sexton. I do not know if Cooper Union is also guilty of such practices. Thanks for your coverage of these vital issues that will affect students for generations to come.

Posted by petitemaoiste | Report as abusive

Thank You. Thank You. Thank You. This is why the Cooper Community is so upset. I applaud the students for not accepting the situation as is and forcing the President and Board of Trustees to “air their dirty laundry”. While the current President of Cooper Union walked into this financial mess he has handled the situation wrong from the beginning. He said he and the Board looked for feedback from the faculty and Cooper Community, looking at all possibilities, but the reality is that they kept much from the community and had every intention of implementing tuition from day one of Bharucha’s hire. In the name of saving the school they are destroying it. Thank you for your in depth reporting. I only wish that other news reporting avenues would do the same.

Posted by CPCP | Report as abusive

Nice piece on a stellar institution in a very unnecessarily sad situation.

Besides the ways mentioned of getting the ship righted as discussed in this article, I’d also:

1st) get rid of the President and current Board members asap
2nd) start tapping the shoulders of the alumni to pony up some cash, and get that stream started coming down the pipe

Posted by Twinkbait | Report as abusive

Absolutely, the alumni should start contributing. Coopers Union is 150 years old — it has easily 50 years of alumni still working who received a valuable gift when they were young and have a moral obligation to pay that gift forward (with interest).

If the alumni are unwilling to pony up, then the school has already failed. TANSTAAFL.

Posted by TFF | Report as abusive

Not at all to argue with your very sad analysis, but when you said “torrid”, didn’t you mean “horrid”?

Posted by samadamsthedog | Report as abusive

Many great points but perhaps I’m missing something—the takeaways of this article seem to be:

1. Selling off the Chrysler building is a terrible idea. It would deprive the school of a huge and RELIABLE source of income, plus the school wouldn’t get the right price.

2. Selling off the Chrysler building (for the right price) is the only way to save the school.

If the school liquidated this treasure of an asset and paid off its mortgage, what’s the school’s income? The PILOTS pay for most of the school’s operating expenses. You conclude “the trustees would just have to work out how many students they could afford to teach on the income from the money left over.” What evidence is there that the trustees could handle such a task, or that even the best financial manager could turn these “leftovers” into a long-term source of income sufficient to sustain a free college? I don’t see how selling off the Chrysler building—even for a fair price—is anything but a very short-sighted solution to the school’s financial woes.

Posted by rinagoldfield | Report as abusive

I think you meant “torpid performance,” not “torrid.”

Posted by twodox | Report as abusive

I too hope that The Cooper Union will find a way to avoid tuition, but it seems ever more unlikely.

In the past almost 2 years the school had endless meetings about the financial crisis and possible solutions. While I do agree that the Board of Trustees probably went in believing it was the only solution, any effort to present or discuss alternatives was disrupted by the “no tuition ever” contingent. Claims of “no transparency” are frequently code for “you aren’t doing what I told you to do.” The board is probably corrupt. The president is not good at thinking on his feet. The occupying students have romantic-nostalgic (and ultimately conservative)notions about the world, and non-profits, work. Nobody is behaving particularly well.

Posted by sallyn | Report as abusive

Felix,
Thank you for your careful, compassionate post about Cooper Union. I have been inspired by the legacy of Peter Cooper for so many years, of free tuition for students of the school, and it makes my heart ache to learn further details of the endowment’s mismanagement.

There is no reason, none, for 60% of the school’s (non-real estate?) assets to be invested with hedge funds. The loan, the new building, all of it, seems to have happened as though there were no board of directors at all.

I cannot see any benefit to selling the leasehold on the Chrysler Building. The current board and managers of Cooper Union haven’t demonstrated much ability to manage the school’s finances to-date. They don’t seem regretful, repentant now, so it is unlikely that they would change their irresponsible ways going forward. Nor is the “Mayor Bloomberg foundation as savior scenario” good, even if he were inclined to pursue such. I’m not implying anything improper about his integrity! Only expressing concern that there is too much responsibility for New York City, its governance and economic dependencies concentrated in the financial sector already, with Bloomberg L.P. being a large part of that. If Mayor Bloomberg had had fiduciary responsibility for Cooper Union, I doubt that the school would be in the situation it is in now! But he isn’t the answer. Appeals to alumni for funds, or selling off, at a minimum, renting out that wasteful new building would be a better place to start.

Also, consider the possibility that there may be restrictions associated with the land under the Chrysler Building bequeathed to Cooper Union by Peter Cooper. The founding documents of the school would need to be reviewed carefully. Even if permissible, I don’t think that selling off that asset, that wonderful income stream for Cooper Union, would be a good thing to do.

Posted by EllieK | Report as abusive

I watched the “debate” between Salmon and Mark Epstein in which Epstein gave hazy answers to direct questions and was unbearably smug and condescending. With leaders like this, why would anyone want to support the school?

As an alum, I can attest that Cooper’s fundraising efforts have been weak at best. But these problems harken back to over 20 years ago when the school built the dorm against the will and good sense of much of the alumni, faculty and student body. The president and board were completely dismissive of all differing points of view and barreled ahead with their plans. Now it is clear that this was also a poor financial decision that has contributed to Cooper’s woes.

Salmon’s assessment of Cooper’s problems but also of their strengths is remarkably insightful. Thanks for a critical viewpoint.

Posted by Cooperalum | Report as abusive

Enlightening. Great and necessary clarification. To bad it’s needed. Thank you, thank you.

ML, CU A’76

Posted by unreceivedogma | Report as abusive

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Posted by traducator daneza | Report as abusive