This report discusses the State of California's fiscal condition and guides the reader through numerous factors that will influence State spending on higher education in the coming fiscal year. It also offers insight and observations on challenging policy decisions the Governor, the Legislature, and higher education leaders face in the coming year. If state revenues continue at the current rate, California higher education should receive a share sufficient to fund its core needs. The challenge will be increasing funding for targeted program improvements and for broader issues, such as student financial aid. The next legislative session will also see the introduction of new initiatives for higher education, likely in the areas of access and affordability. As the 2007-08 State budget moves forward, policymakers will gradually develop priorities for the use of limited state funds and those decisions will be affected by the many challenges summarized in this report. At the Commission's March 2007 meeting, an analysis of the Governor's January budget proposal and the Legislature's budget analysis will be presented. The Commission may then consider adopting positions on specific items in the Governor's budget. (Contains 1 table.)