Executive summary

There is a persistent myth that the University of California could offset steep reductions in state support by tapping a treasure chest of billions of dollars in unrestricted net assets.

The truth is that all but a fraction of the university's net assets at the end of each fiscal year are committed, and they reside in tens of thousands of funds and accounts, most of which are controlled by UC's campuses. They are akin to money deposited in a personal checking account on the 15th of the month, but committed to paying the next month's mortgage or rent.
 
The myth is perpetuated in part by the accounting term "unrestricted,"  which is often misunderstood to mean uncommitted.

Under generally accepted accounting principles, any funds not subject to externally imposed restrictions on their use must be classified as unrestricted for financial reporting purposes. For example, use of federal contracts and grants is externally restricted to approved research projects, so they are considered restricted funds. Yet substantially all of UC's unrestricted net assets are allocated — or internally restricted — for academic programs, research initiatives, capital projects, scholarships and other purposes from one year to the next.

And, when audited financial statements for the past fiscal year are completed, it's expected that net assets will have fallen substantially. As the chart to the right illustrates, unrestricted net assets on June 30, 2007, totaled $6.5 billion, then dropped to $5.3 billion at the end of June 2008 and will be shown to be well below $4 billion as of June 30, 2009, when the university's financial statements are finalized in the coming month. This precipitous decline of nearly $3 billion in only two years is a result of the drop in state funding support and a growing demand on the university's resources, attributable to the growth in unfunded retiree health care and pension obligations, coupled with investment losses and other factors.

No discussion of unrestricted net assets is complete without a clear understanding of the growing claim on the university's unrestricted net assets represented by unfunded retiree health and pension obligations. Retiree health liabilities are more than $13 billion, and the extent of the unfunded pension liability that will be reported to the Regents in November will be substantial.

Ultimately, it is in the best interest of the university community and those it serves to focus strategically on the dangers posed by these kinds of major financial obligations.

Myths and facts

A "myths and facts" framework is offered here to aid understanding of unrestricted net assets.

Myth: UC has a $5.3 billion reserve fund it can tap to get through the current funding shortfall caused by deep cuts in core support from the state.

Fact: UC does not have billions of dollars in uncommitted funds that it can use to make up for massive reductions in state support. In fact, the next issuance of audited financial statements in November, summarizing the university's financial condition as of June 30, 2009, will show a substantial drop in unrestricted net assets to below $4 billion.

The amount that is reported in the university's financial statements as "unrestricted net assets" — terminology required under generally accepted accounting principles — is money kept in thousands of funds and accounts that each individual campus controls for very specific uses.

Any funds that are not subject to externally imposed restrictions on their use must be classified as unrestricted for financial reporting purposes. The term "unrestricted assets" does not mean uncommitted assets.

In fact, substantially all of these net assets have been committed internally to specific programs and to meet a wide range of needs, such as supporting academic programs and services on a multiple-year basis, research initiatives, approved capital projects, funds already committed ("liened") for authorized equipment purchases and services that have not yet been expended by the end of the fiscal year, or other purposes. In many cases, transferring funds to other uses would be illegal. For example, funds earned and set aside to compensate physicians for patient services they have performed cannot be diverted to add more language courses at a campus.
 
The unrestricted net assets are shown as a single line item in the university's financial statements, but are actually distributed among tens of thousands of financial accounts, both operating and capital. These include more than 10,000 unrestricted fund sources and 48,000 departmental accounts, resulting in more than 76,000 account/fund combinations.

As a routine matter, UC evaluates accounts and funds to make sure dollars are being spent consistent with the university's evolving priorities and needs. If a campus finds it can legally and responsibly transfer money between programs, that decision will be made at the campus level. And campuses will be making these decisions throughout this fiscal crisis.

Myth: UC hasn't touched these monies during the fiscal crisis of the past year

Fact: The university's 2009 financial statements will show a large decrease in unrestricted net assets, from $5.3 billion at the end of the 2007-08 fiscal year to less than $4 billion at the end of the fiscal year that ended June 30, 2009.

Some of the highlights from UC's fiscal closing process to-date include:

• A drop of approximately $300 million in operating cash balances at UC campuses. These accounts — tantamount to UC's "interest bearing checking account" — are used by campuses to meet expenses throughout the year for core instructional needs. These cash balances are depended on for liens covering purchase orders, contracts and requisitions and other multi-year financial commitments.
• The substantial budget cuts from the state — including those in the middle and end of the 2008-09 fiscal year — hit campus programs so late that all available funds had to be tapped to help bridge over to the current fiscal year.
• This drain on available cash has been severely exacerbated by the state's "claw back" of $715 million in monies that, after being sent to UC and substantially spent in fiscal year 2008-09, had to be sent back to Sacramento between July and September 2009 because of state budget cuts, as well as the state's deferral of $750 million in cash payments from the first quarter of fiscal year 2009-10 to the fourth quarter of fiscal year 2009-10, for which UC had to borrow nearly $1 billion in short-term loans in the bond market subsequent to the end of the fiscal year to meet operating obligations.

Myth: These monies are actually just extra funds that the campuses haven't spent during the "good years" and are now hoarding.

Fact: Unrestricted net assets include thousands of funds and accounts. Some of the larger amounts included in the 2009 audit:

• Approximately $1.1 billion invested in the university's endowment. These are monies that annually pay out approximately $50 million to support valuable campus programs, ranging from undergraduate student scholarships, faculty research, alumni fundraising programs and the Education Abroad Program, among other expenditures. Approximately half of these programs are located at campuses, and half controlled by University of California Office of the President. At the President's request, staff is looking into whether there is flexibility to change or reallocate these monies into programs that reflect the changing priorities of the university.
• Almost $700 million collected from students and their families in the form of fee income, housing and parking payments, in undergraduate programs and graduate and professional schools. It is important to note that student and faculty housing and parking are required to be self-supporting, although campuses are afforded flexibility to charge these enterprise operations a fee for ground rent and other services. Rates for housing and parking are set so they are sufficient to meet debt indenture covenants and near-term capital and maintenance requirements.
• Approximately $950 million for construction projects on campuses that have already been started, or are approved by the Regents to begin in the coming year. University policy requires that all funds necessary to complete the design and construction of a capital project be on deposit at the time a contract is awarded so that full funding is available to complete the project once it is underway; in this way, campuses don't have projects partially completed without the funds to finish them. In addition to new facilities and infrastructure, the capital projects address seismic safety upgrades, capital renewal and deferred maintenance.
• Approximately $400 million in operating monies for each of UC's five hospitals to use as their cushion against the substantial variability in their cash flows. It should be noted that, according to the Moody's rating agency, the appropriate amount of cash reserves for hospitals at the rating category currently assigned to UC is 190 days of cash, which equals more than $3 billion. Hospital cash reserves are substantially below that level, but through the strength of the university's systemwide revenue pledge structure that recognizes UC's critical position in California's health care industry, the hospitals have shown that they can operate successfully with a lesser amount.