This is the 2nd article in a two-part series of posts regarding Unitization. Check out the first installment in the series: The Basics of Unitization.
In our first blog in the two-part series on unitization, The Basics of Unitization, we covered the definition of unitization and the key components of a unitized pool: units and unit value. Our 2nd installment will look at unitization models and which model might be a good fit for your organization.
Unitization models are the operation manuals for a unitized pool. They define the processing sequence for activity in the pool. Two common unitization models are Beginning of Month and End of Month. Let’s see how these two models work.
Beginning of Month
First: Activity (i.e., gifts, transfers, distributions) buys/sells units based upon the prior period ending unit value.
Second: Investment earnings are allocated across the endowment funds in the pool. The adjusted units (after current period activity) are used to determine the share percentage used for the earnings allocation.
End of Month
First: Investment earnings are allocated across the endowment funds in the pool. Earnings are allocated based upon the prior period ending fund share percentage. A new unit value results from this allocation.
Second: Activity (i.e., gifts, transfers, distributions) buys/sells units at the end of the period based upon the new unit value.
These two models provide different answers for the following questions:
What unit value will be used to determine the number of units bought and sold?
Beginning of Month: The prior period ending unit value.
End of Month: The current period ending unit value.
When do new gifts receive an allocation of investment earnings?
Beginning of Month: During the same period they are added to the pool.
End of Month: During the subsequent period.
Which model is the best fit for your organization?
One area to review in the determination of the best model is cash flow. How frequently do you transfer cash from endowment activity to & from your investment portfolio? If you do not wire gifts on a monthly basis, End of Month might be a better fit. Another area to consider is posting frequency. How often do you update your endowment pool? Monthly, quarterly? If you update values on a quarterly basis, Beginning of Month may be a better option. Under a quarterly posting process, the End of Month model would result in a significant lag between a new gift being recorded and the receipt of an investment earnings allocation.
There is a lot more that can be discussed regarding unitization, but we hope that our two-part blog series has been helpful in your basic understanding of this concept. If you have more questions please do not hesitate to reach out to us at support@fundriver.com. We would be happy to help! Another great resource that takes a deeper dive into this topic is our pre-recorded webinar, Introduction to Endowment Accounting Part II. It takes a closer look at unitization and gives you a better understanding of how it all works!