Museum TrendsWatch 2020: Financial Capital

This post is the fifth of six installments on the American Alliance of Museums’ TrendsWatch 2020: Financial Sustainability. Read previous posts: Museum TrendsWatch 2020: Financial Sustainability Introduction, Museum TrendsWatch 2020: Earned Income, and Museum TrendsWatch 2020: Charitable Income, and Museum TrendsWatch 2020: Government Income. This post will focus on “capital income” for museums, an income stream that (on average) makes up 11% of revenue for most museums. 

Summary

The financial capital section captures investments that generate income: interest, dividends, and capital gains. It also looks more broadly at how museums use capital, usually for long-term infrastructure or capacity improvements. 

Endowments

The most common sources of financial capital in the museum field are endowments, temporarily restricted endowments, and voluntarily restricted endowments. For museums that have them, an endowment provides 10% of a museum’s operating income. An endowment is typically gifted to a museum by a hyper-wealthy donor. The amount needs to be large enough to generate a percentage of interest a museum can then draw down from annually. In order to make the endowment last for the long-term, it must be invested in the market wisely with only the interest on the principal amount available to be drawn down. The principal needs to remain invested in the market in order to continue generating income. This helps to ensure the value of the endowment doesn’t decline over the years due to inflation. Due to the affluence needed to establish an endowment, only select museums have them. While endowments can be millions or even billions of dollars, a museum can’t immediately access the full amount. This is why museums with large endowments are still furloughing and laying off staff during the coronavirus pandemic.

Challenges

There are risks to both the undercapitalization and the over-reliance on it. As AAM reports, “[u]ndercapitalization can reduce an organization’s willingness to take operational or content-related risks, and can put them at risk of long-term stagnation.” Conversely, raising capital for large expenditures (such as buildings) can be just as bad.  Buildings are easier to raise money for due to the tangible product it creates and the abundance of prestige opportunities (naming rights) for donors. According to Set in Stone authored by The Cultural Policy Center of the University of Chicago, there was a “cultural building boom” from 1994-2008, where the US invested $16-billion in cultural building construction. This same report found that 45% of museum building projects went over budget, visitor attendance to the new buildings were over-projected, and any visitor bump from the new building flatlined within 5-years. 

Opportunities

The opportunities here lie in how to invest, moving away from traditional investments and testing out private equity or alternative investments. There’s also Private Activity Bonds which museums can use to finance capital projects and lower rates and longer maturities. 

Innovations

Tying a museum’s mission to the choices it makes on what to invest in is prompting museums to look at Environmental, Social, and Governance (ESG) investments, Social Responsibility Investing (SRI), and Impact Investing. Museums are also adopting sustainable investment strategies and AAM predicts donors will increasingly wish to make major gifts contingent upon a sustainable investment strategy.

My Recommendation

This section of the TrendsWatch was the hardest for me to write on because endowments are usually only available to museums who have the benefit of a wealthy donor history. Local museums and historical societies—particularly those in rural areas—don’t have the luxury of grappling with endowment challenges, nor do they have the opportunity to innovate upon them. But there is still room for experimentation. My recommendation for those not yet invested in the market is to start. Especially now, with the markets at recession levels. Setting aside even a small sum of a hundred to a few thousand dollars for investment will provide you an opportunity to learn and experiment within the market. If you’re already investing, then take it a step further and test out the innovations AAM suggests (listed above). The more you experiment with investments the more comfortable it will become. If your museum doesn’t already have a financial expert on the Board, it’s time to recruit one. Ask them to assist you with learning how to smartly invest and grow that investment at a reasonable rate that won’t cripple the museum, and one day, may save it.

Conclusion

Of all the TrendsWatch sections this one likely ranks as the income area we know the least about and are the least comfortable with. If that’s true for you, you’re not alone. But, it also means that we need to spend more time learning about our income streams, how they’re derived, how we rely on them, the risks that come with them, and the opportunities that exist. We’re currently in an economic crisis, our second in 12 years. It’s going to be hard, it’s going to be uncomfortable, and it’s taught us that we must be better with our finances. We have to be better at mitigating financial missteps and preparing for economic disasters. Because they have happened and will happen again. Please promise yourself that you will not be caught unprepared.