Treasurer’s Statement

To the Council of the National Academy of Sciences:

This Report of the Treasurer of the National Academy of Sciences presents the financial position and results of operations as well as a review of the endowment, trust, and other long-term investments portfolio activities of our Academy for the year ended December 31, 2017.

Overview

The income that supports the activities of the Academy comes from two major sources: program revenue received from government and other sponsors to pay for the large number of studies and other activities undertaken each year by the National Research Council (NRC), and a much smaller sum that we withdraw from our own endowment under the endowment spending policies adopted by the Council.

Overall, the NRC program level has remained relatively flat over the last few years. The trend of 2011-2017 declines in annual federal funding continues to be partially offset by increases in non-federal funding. Between 2011 and 2017, the share of program work sponsored by the federal government declined by 17% while work sponsored by non-federal sources increased by the same amount. It will be very important for the future of the institution to continue vigorous efforts to diversify its sources of income.

With respect to amounts withdrawn annually from our endowment, a number of restricted funds support specific programs and awards, while a much smaller number of funds provide for unrestricted support of our mission. In today’s changing environment, unrestricted funds are particularly important, allowing NAS and NRC to respond quickly to unexpected events. The General Funds section below describes the annual unrestricted spending.

The Gulf Research Program started in 2013 and, over its mandated 30-year duration, will work to enhance oil system safety and the protection of human health and the environment in the Gulf of Mexico and other U.S. outer continental shelf areas by seeking to improve understanding of the region’s interconnecting human, environmental, and energy systems and fostering application of these insights to benefit Gulf communities, ecosystems, and the Nation. As of December 2017, we have received $385 million of the total $500 million in payments to be received. At the beginning of 2018, we received the final $115 million. The NAS Finance Committee oversees the investment of the funds (with some government-specified restrictions), while the NAS Council oversees the strategic direction of the program. Any investment earnings are required to be spent on furthering the program goals.

NAS Highlights

Endowment, Trust, and Other Long-term Investments Portfolio

As the Chairman of the NAS Finance Committee, I am responsible, along with the other committee members, for the prudent management of the endowment and trust fund. The goal of the endowment is to provide stable support for the Academy’s programs and activities over time. To achieve this goal, the Council, acting on the recommendation of the Finance Committee, has historically authorized spending from the portfolio at a rate designed to maintain the purchasing power of the endowment over time. The current spending rule caps annual spending at 5% of the trailing 12-quarter average market value of the portfolio. The Council limited spending to 4% from 2009 through 2013, increased spending to 4.25% in 2014, and increased it again to 4.5% from 2015 through 2018.

For many years, the NAS endowment investment strategy was based on a diversified mix of traditional equity securities and a significant portion of fixed income investments. This provided returns that supported annual draws of 5% while protecting the endowment’s purchasing power. That strategy can no longer be relied on, as it fails to capture the complexity of today’s financial markets. In order to improve returns, the Finance Committee believes that the investment strategy needs to move further away from traditional equity and fixed income investments and toward alternative investments such as multi-strategy and private equity funds. By wise selection of alternative investments and of managers, the Finance Committee can minimize volatility and achieve risk-adjusted returns which are better than the public equity markets. The process of reallocating assets began in 2016 and will continue until alternative strategies comprise approximately 50% of the portfolio. This change in strategy was formalized in an updated Investment Policy approved by the Council in August 2017. As of December 31, 2017 the portfolio was more closely aligned to Finance Committee goals with the trailing three-year volatility slightly above the target of 50% that of the S&P 500 and alternative investments comprising 43% of the portfolio.

The market value of the portfolio increased net of withdrawals and new contributions from $442.7 million at January 1, 2017 to $506.2 million at December 31, 2017. The market value of the portfolio as of December 31, 2017, was as follows:

• Included in the $506.2 million total market value of the portfolio as of December 31, 2017, are $8.0 million for the Woods Hole Endowment Funds, $90.1 million for the National Academy of Medicine (NAM), and $13.3 million for The National Academies’ Corporation (TNAC). TNAC, which is equally owned by the NAS and the National Academy of Engineering Fund (NAEF), owns and operates the Beckman Center (see note 15 to the financial statements).
• Withdrawals of $13.2 million were made to fund the President’s Committee, NAS General Fund’s activity, and NAS prizes and awards for the current period. Additional withdrawals of $2.5 million were made to fund Woods Hole, NAM, and TNAC activity.

The portfolio returned 14.6% for 2017, which is 2.9% lower than the reference portfolio of 17.5%. The reference portfolio is a purely passive portfolio comprised of the following: S&P 500 Index 30%, Russell 2000 Index 5%, MSCI EAFE Index 28%, MSCI Emerging Market Index 7%, Barclay’s U.S. Capital Aggregate Index 25%, and 3-month Treasury Bills 5%. The portfolio lagged the reference portfolio primarily due to alternative investments in general and hedge funds in particular trailing the strong public market returns. The rest of the portfolio performed in line with the relative indices. It should be noted that the reference portfolio is a “reference” and not a “benchmark” that we wish to achieve: It’s historical volatility is significantly higher than we wish to accept, even at the cost of our foregoing some excess returns in “up” years.

The return percentages for the portfolio as of December 31, 2017, as compared to the reference portfolio were as follows:

NAS Indirect and General Funds Budget

The NAS Indirect and General Funds Budget, which provides support for the activities of the Academy, receives its funding from the NRC indirect cost pools (as a cost reimbursement for allowable expenditures) and a draw from the unrestricted portion of the NAS Endowment. As noted above, the Council has limited spending from the endowment in past years, including the unrestricted portion, approving a spending rate of 4.5% in 2017.

For 2017, funding for the General Funds Budget totaled $10.0 million and expenditures totaled $9.2 million, resulting in a surplus of approximately $822,000. Comparable figures for 2016 were $10.1 million in revenues, $9.5 million in expenditures, resulting in a surplus of approximately $623,000.

The 2017 NAS Indirect and General Funds activity is summarized as follows (in thousands):

Any surplus in the Indirect and General Funds Budget at the end of the year is added to the NAS Reserve; similarly, deficits are funded from the NAS Reserve, which is invested in the NAS Endowment and Trust Pool. The Reserve had a market value of $6.3 million on December 31, 2017, to which the 2017 surplus will be added. The Academy’s goal is to maintain a reserve balance equal to approximately one year’s annual draw from the NAS Unrestricted Endowment. As the balance in the NAS Reserve had grown beyond that amount, during 2017 the NAS Council approved reallocating $1.4 million from the NAS Reserve to the NAS General Endowment. This will increase the annual draw on the NAS General Endowment to support Academy operations. The NAS Council has approved an Endowment draw of 4.5% for 2018 and approved an Indirect and General Funds Budget of $10.0 million for 2018.

Prizes and Awards

Several award funds have existed for more than 100 years, while others were established more recently. The Home Secretary oversees the nomination process that selects award recipients and recommends to the Council (subject to legal and financial review) changes in the award cycle, amounts of the honoraria, and any other administrative changes.

Journal Publications

The Proceedings of the National Academy of Sciences (PNAS) is an integral part of the membership activities of the Academy, and as such, the revenue and expense totals shown below (in thousands) are part of the overall financial results of the total membership activities and the financial structure of the institution as a whole.

Facilities

NAS owns the following facilities:

• Keck Center of the National Academies at 500 Fifth St., NW in Washington, D.C.
• National Academy of Sciences Building at 2101 Constitution Ave., NW in Washington, D.C.
• J. Erik Jonsson Center of the National Academies at 314 Quisset Dr. in Woods Hole, Massachusetts.
• Arnold and Mabel Beckman Center at 100 Academy in Irvine, California (jointly owned with NAEF through TNAC).

NAS leases a facility in Vienna, Virginia for the National Academies Data Center.

Development Office Programs

The generous support of members, friends, and philanthropic organizations helps the Academies address emerging, cutting-edge issues, launch new programs and policy studies, and undertake new initiatives that are at the core of the organization’s mission. Gifts and grants were received for both unrestricted and restricted purposes to fund numerous projects and activities. The selected gifts described below highlight some of the philanthropic support received during 2017:

• In 2017, the Ralph J. and Carol M. Cicerone Endowment for NAS Missions received over $630,000 in new cash and pledge commitments. The Endowment was established in 2015 with a generous gift from the Cicerones. In 2016, the Simons Foundation made a generous $10 million challenge gift to match all gifts made by May 2018. A total of $9.3 million in cash gifts and eligible pledge commitments have been secured towards this challenge gift.

• The NAS annual fund received gifts from members and friends totaling over $592,000. The NAS membership participation rate for all giving was 22%. All members of the NAS Council made a gift to the annual fund − an important benchmark that will help the NAS leverage giving from other donors. Equally important is to increase the overall participation rate among the membership as it is another benchmark that can spur gifts. All gifts to the annual fund, even if they are modest, are greatly appreciated.
• The NAM raised $533,000 from members and friends. The NAM participation rate for all giving increased to 29%.
• The Science and Entertainment Exchange, a program that connects entertainment industry professionals with top scientists and engineers to bring more realistic and positive portrayals of scientists and engineers to film and television received: $500,000 from the Alfred P. Sloan Foundation, $300,000 from the Howard Hughes Medical Institute, $125,000 from Google, Inc., and $100,000 from the Simons Foundation.
• A new interactive, web-based communication initiative, “The Science Behind It” garnered a $500,000 grant from the Carnegie Corporation of New York. The initiative will launch in 2018 and provide brief, understandable, evidence-based answers to questions that curious people have on topics with science at their core.
• The Committee on Human Rights received more than $200,000 from members of the three Academies.
• The NAS and NAM documented $300,000 in future bequest intentions and received $213,500 in IRA charitable distribution gifts. Members continue to explore the IRA rollover and other planned giving opportunities to support the NAS and the NAM.
• The Simons Foundation provided a $150,000 matching challenge grant to help establish an endowment for the Maryam Mirzakhani Prize in Mathematics. The challenge grant will match all gifts, including two-year pledges, made by October 2019. Members and friends of the NAS contributed $81,450 toward the match in 2017. The prize will recognize early-mid career mathematicians who have exhibited excellence in research in the mathematical sciences.

Private gifts and grants are important sources of revenue in assisting the Academies’ in fulfilling its mission. We are deeply grateful for the philanthropic support received from our many friends of the Academies and members.

NRC Highlights

U.S. Government Contracts and Grants

One main source of funding for NRC activities is U.S. government contracts and grants. These activities are conducted in response to requests from a broad range of U.S. government agencies and are primarily funded through cost-reimbursable non-fee contracts and grants.

NAS recognizes revenue on federal contracts and grants as recoverable costs are incurred. Accordingly, revenues will be equal to expenses in each year. The total amount of revenue from contracts with U.S. government agencies in the year ended December 31, 2017, was $212.0 million (see following chart and the Statements of Activities) and in the year ended December 31, 2016, was $216.6 million.

Private/Nonfederal Contracts and Grants

The other main source of funding for NRC activities is private/nonfederal contracts and grants. NAS recognizes revenue on private contracts and grants either as recoverable costs are incurred or at the time the grant is awarded, depending on the nature of the agreement. If revenue is recognized at the time the grant is awarded, the net assets associated with that grant are released from restriction as the costs are incurred. Accordingly, private/nonfederal funding (private contracts and grants revenue plus the net assets released from restriction) will be equal to private/nonfederal expenses in each year. Private sponsors provided for new initiatives and co-sponsored government projects by funding activities (accounted for as programmatic and related indirect expenditures) in the amount of $86.6 million in 2017, compared with $72.3 million in 2016. (See Statements of Activities.)

Indirect Expenses

As in many universities and nonprofit institutions, indirect cost expenditures provide necessary support services for all programs and should be kept in reasonable proportion to program expenditures. Historically, NRC management has maintained a relatively constant relationship between program and support costs, i.e., the growth rate of indirect costs has been approximately equal to the growth rate of direct costs. In 2017, total indirect expenses were $76.9 million compared to an approved budget of $79.4 million. For 2018, the indirect budget is set at $79.1 million to responsibly align indirect costs with projected program revenue.

Related Entities

Many financial transactions take place between the member organizations of the National Academies. The NRC serves as the clearinghouse for these transactions. However, it is important to note that only the financial activity and results of the NAS, NAE, NAM, and NRC are included in these financial statements. The financial activity and results of the National Academy of Engineering Fund (NAEF) and The National Academies’ Corporation (TNAC) are audited and reported separately. Financial information for the NAEF is available on request from the NAE Finance Office; information for TNAC is available from the NAS Controller’s Office.

Overall Financial Condition

The main reason for the increase in net assets during 2017 is the increase in market value of the investment portfolio.

Net assets, or assets minus liabilities, can be a measurement of a not-for-profit organization’s ability to reinvest net income toward its mission while also maintaining reserves and helping protect against inflation. The NAS 2017 results of operations are further described in the financial statements starting on page 53.

Conclusion

I would like to thank the members of the Council, the Committee on Budget and Internal Affairs, the Finance Committee, and the NRC leadership for their continued support. Also, special thanks are extended to the Office of the Chief Financial Officer, led by Mary “Didi” Salmon, our CFO, for help in managing the Endowment and Trust Pool, providing steady oversight of the Academy’s various budgets, and paying careful attention to the Academy’s financial systems, records and reports.

William H. Press
Treasurer

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