Balancing the Mission Checkbook

I’m convinced that the reason that people care about the overhead ratio of charities is because we keep telling them that it’s important. I have an announcement to make: I am a donor to quite a few nonprofits, and I don’t care what percentage of their budget is spent for overhead. I think that a lot of donors would agree.

Yet, in another article advising us about charitable giving, 5 Tips on How to Stretch Your Charitable Dollars published in the New York Times online published by the AP and picked up by the New York Times and other newspapers, overhead is (once again) emphasized:

Tip #2: EXAMINE CHARITIES CLOSELY. Do the same due diligence on your donations that you would your investments or your business…
Pay especially close attention to the overhead. Anything above 9 to 14 percent is out of line and signifies that too much money goes to staff or office space and not enough to the beneficiaries, according to Stephanie Risa Stein, managing director of New York-based Philanthropic Capital Advisors LLC.

Here’s my soapbox

I agree that it’s wise to “Do the same due diligence on your donations that you would your investments or your business.” But when I review an investment opportunity, I review based on the expected criteria for a successful business – profitability, market share, and returns. I don’t review their overhead and management costs. So why would overhead be the criteria for a charity?

I’d like to re-write this “tip.”

EXAMINE CHARITIES CLOSELY. Do some due diligence on charities before you donate, just as you would for an investment or business opportunity. Pay especially close attention to how successful the nonprofit has been at achieving its mission. Do they provide information about how effective their programs are and what impact they have on the people and communities that they serve? Do they have a way to measure and communicate progress and/or success?

I put these two types of “due diligence” to the test with five Minnesota nonprofits that I have supported in the past. I looked at the 990s on Guidestar and found that their overhead ratios ranged from 5% to 17%. Then I looked up web sites and annual reports. Here’s what I (a donor) care about:

• St. Stephen’s Human Services provided food and shelter to 6,000 very poor adults and children
• CommonBond Communities houses 7,850 residents in quality affordable housing
• Admission Possible had a 99% success rate in students admitted to college
• Ten Thousand Things presents astounding theater to people in homeless shelters and prisons
• Minnesota Fringe Festival creates connections for audiences and artists that’s the envy of theater communities in many other cities (the 2009 festival starts this Thursday).

Which of these has the “best” overhead ratio?

I don’t care.

I care that they are effective nonprofits that can tell donors what they do and why it matters. Why would a donor rather examine overhead? Before someone jumps on this point, I agree that 90% on fundraising is completely unreasonable, but that kind of organization can’t demonstrate real results anyway. So can we stop using overhead as the primary criteria for donors – please?

One positive comment about this article – Rich Cowles, Executive Director of Charities Review Council is quoted with good advice for donors about budgeting and planning their giving. Nice national recognition of the Council’s good work and solid reputation.

For years I’ve wished that the programs of the Small Business Administration (SBA) were available to nonprofit organizations. The SBA is all about strengthening the country’s economy, and as a business banker the SBA was at the top of my list of resources for entrepreneurs as they started and grew their businesses. When I made the change to work exclusively with nonprofit organizations I was disappointed to lose access to those programs. Nonprofits are businesses, after all, with a significant role in employing people and generating economic activity. Minnesota Council of Nonprofit’s Minnesota Nonprofit Economy Report for 2008 reports that nonprofit employees represent about 10% of the states’ workforce, paying $12 billion in wages.

What I’ve missed most were the Small Business Development Centers that offer workshops and one on one help and the SBA loan programs that provide crucial growth funding. In a way, Nonprofits Assistance Fund and other capacity building organizations have filled this role for nonprofits.

Potential Nonprofit Resources

I’m very glad to know that the beginnings of some new resources for growing strong nonprofits are contained within the Serve America Act, passed in the last week in both a Senate version and House version. The President is expected to sign it next week. The amendment that creates a new program for nonprofit capacity building is summarized here by Independent Sector.

Housed within the Corporation for National and Community Service, the bill authorizes $25 million over five years to provide organizational development assistance to small and mid-size nonprofit organizations, in particular to “strengthen small charities around our country, especially where resources are scarce.”

I’m hopeful that we can get these resources out in the community soon, focused on building strong community organizations that know how to balance mission and management. I’ll keep waiting for an SBA loan program for nonprofit businesses. In the meantime, if you are in Minnesota and need working capital or a line of credit, Nonprofits Assistance Fund’s loan fund is here.

All of us are reading waves of economic information right now – the stimulus, the proposed state and federal budgets – and are trying to sort out which parts have a direct impact on our communities and organizations. Both the stimulus and federal budget are big and bold and pretty overwhelming. There is so much to understand and analyze – thank goodness for some great resources like Minnesota Budget Bites and National Council of Nonprofits. I’m trying to keep up with the general framework and get into specific details when I need to. I hope that all of us who are committed to stronger communities will spend the necessary time to understand what’s needed and work together with the big picture in sight.

Considering the importance, scale and scope of the economic proposals, I am really disappointed that that the number one, highest priority, most important issue for many in the nonprofit world is the proposal contained in the President’s budget that would limit the extent of deductions for charitable contributions for those in the highest tax bracket, reported here in the Chronicle of Philanthropy.

Typical of the outcries in response is a statement from Independent Sector:

Independent Sector believes that this change could be a disincentive to some donors who might further cap their gifts on account of the new limit.

Most of the comments made by our well-known leaders include the phrase “In these hard economic times” and forecast doom if this change comes to pass.

I’m disappointed in this knee jerk reaction that’s just a version of NIMBYism at a time when we really need to pull together and work for the greater common good, which may involve sacrifice. Beyond that disappointment, I’m skeptical that doomsday will come. First of all, the change wouldn’t be effective until 2011, so it won’t impact donors “in this tough economic environment.” And if you really believe that your donors are in it for the tax deduction I think that you need to re-write your case statement. Surveys, like one conducted in 2006 by Center on Philanthropy at Indiana University for Bank of America, report that over 50% of the high net worth people interviewed would not decrease their giving even if there was no tax deduction at all. From what I’ve read, the tax deduction is more likely to impact the timing and form of a gift rather than whether a gift is made. It’s easy to get this form confused with substance. Consider this from Charity Navigator’s blog:

The data that we have seen over the years has shown a big spike in donations through our site during the last several days of the year, especially on December 31st which of course is the last day to make a qualified tax deductible charitable contribution (see our Tax Benefits of Giving article). This data indicates to us that the tax benefits really do motivate people to donate.

This logic needs checking – do the tax benefits “motivate” people to donate, or have we in the nonprofit world trained our donors to give in December regardless of their motivation? The New York Times article Limiting Deductions on Charity Draws Ire quotes several other experts about the relationship between tax deduction and reasons for giving and their confidence that taxes are at the low on the list.

Even if this tax code change would have an impact on total giving, it’s important to focus on the forest, rather than the leaves on the trees. The proposed federal budget blueprint represents a seismic shift in priorities and structure. I agree with blogger John D. Columbo’s comment:

So let’s not turn this into a doomsday scenario, folks. The truth is, if Obama can fix our health care system, charities as a whole (and everyone else, from GM to the local barbershop) are going to be much better off in the long run.

Independent Sector’s statement (quoted above) includes only one other paragraph about the rest of the 140 page blueprint for the federal budget:

The budget outline also calls for winding down spending for the war in Iraq, boosting funding for domestic priorities, and creating a “reserve fund” of $634 billion to cover health care expansion. The President has stated that his outline will cut the deficit in half by 2013.

Well, maybe that doesn’t seem that important to them.

Who needs to be accountable now?

Last December I posted an entry in response to a Wall Street Journal column by Sally Beatty in which I chafed at her observation that charities were not accountable enough about how they used donated funds. She said:

“It’s time to make sure our gifts are being used as intelligently as possible. Instead of showering hard-earned dollars on charities and hoping for the best, we need to demand clear, detailed information on the results of their efforts. We ask the government and public corporations to be transparent and accountable. Charities should meet the same standard.”

It seemed that a lot of business leaders held this same view of nonprofits. It seems like a good time to revisit this notion and ask about whose standards of accountability to use now.

In the past few months we heard about the three page proposal from the Secretary of the Treasury asking for a $700 billion check to intervene in the financial meltdown (that ended up to actually be a blank check). The bailouts have continued, leading columnists like Floyd Norris of the New York Times to shout, Accountability needed with bailouts. Most recently, when executives of the Big Three automakers struck out with a request for their own bailout, House Speaker Nancy Pelosi said:

“It’s all about accountability and viability. Until we can see a plan where the auto industry is held accountable and a plan for viability on how they go into the future — until we see the plan, until they show us the plan, we cannot show them the money.”

Ask any nonprofit executive director or grant writer to guess how far they would get with a foundation or government agency if they submitted a three page request, or if they sat down at a site visit without a detailed project plan, budget, and evaluation outcomes. The answer is, not far.

Here’s a suggestion for how the nonprofit sector can contribute to the bailout – we can teach workshops and classes on accountability for government agencies and public corporations. Maybe it’s a new earned income opportunity.

I’m pretty sure that every nonprofit would love to have enough money that some of the funds can be invested for the future. In the past month, though, nonprofits may have seen their investment portfolios buffeted by the markets. If that wasn’t enough of a concern, this week we read about losses for some local nonprofits from investments related to the Petters Company fraud case. News reports this week in both MinnPost and the Star Tribune describe the negative impact on organizations that may lose millions from investments that were made to provide short-term loans to companies for inventory purchases. As Scott Russell said in the MinnPost article, these cases are “a wake-up call for other nonprofits to review their investment policies and portfolios.”  As an outside observer, it’s easy to say that these investments seem like an unlikely fit for a nonprofit organization, but we don’t know what standards or criteria those boards were using to evaluate and select investments. This is a good time, though, to review some fundamental guidelines for investments by nonprofits.

• Time Horizon – Funds that may be needed within a few months must be invested in highly liquid, safe investments. This is the most common type of investment fund for most nonprofits, composed of operating funds and reserves. In order to be assured that the funds will be available as needed, the investment choice must be readily available. The recent financial news has even raised red flags about some short-term investments – see my earlier post It’s 10 AM, do you know where your cash is?.

• Risk Tolerance – One of the fundamentals of investing is the balance of risk versus return. Investments with a higher return almost always also come with higher risk. The key question for nonprofit leaders and boards is to understand how much risk is involved and to decide if they can accept the risk. As an example, if the funds to be invested represent the balance of a large program grant that will be spent over the next year, then the organization can’t afford to risk the loss of any of the funds. A permanent endowment fund, on the other hand, is usually invested in a diverse portfolio that includes more risk in return for a higher long-term return.

• Responsibility – The nonprofit’s board of directors is responsible for overseeing this balance of risk and return for the health of the organization and any legal requirements. In order to fulfill this responsibility the board must act as prudent and loyal stewards of the organization’s assets. The board may decide to employ professional staff or outside advisers to manage the investments if the amount if large enough.  At minimum, the board needs to adopt and follow an investment policy. I highly recommend a booklet from BoardSource, Minding the Money: An Investment Guide for Nonprofit Board Members.

In this economic environment, every nonprofit needs to take a look at their investments and understand any risks that may have been taken for granted. It’s better to spend some time now and avoid surprises later.

I was explaining audits to a group the other day and one person asked if audits were really worth anything. After all, he said, the big financial companies that are in trouble all have “clean” audits. So what’s an audit really worth  -  beyond meeting a legal requirement?  First, you have to understand what an audit is, and what it isn’t. An audited financial report contains standard financial information, supplemental footnotes, and the all-important opinion letter. The letter expresses a professional opinion on the accuracy of the financial information. The opinion is not an assessment of the financial condition or future prospects of the organization.

To answer the person who doubts the value of an audit, it’s helpful to understand how the auditor forms the opinion that the information is accurate.  In the process of conducting the audit, financial information provided by the organization is scrutinized and verified. Verification relies heavily on the auditor’s ability to determine the value of the assets and liabilities. It’s pretty easy to verify the value of the asset called “checking account balance” or even the asset called “foundation grant receivable.” Consider, though, how the auditor values an asset without such a concrete answer. If the organization owns 100 shares of Target Corp. stock, the value can be checked against the market, but what about assets that don’t have a simple or ready market? This includes assets like privately held companies, real estate projects, and investments in hedge funds. All the auditors can do is use whatever information sources are available. Clearly, the values of mortgage-related assets were based on faulty information and assumptions. Auditors use a lot of judgment and research  -  it’s not absolute. Audits are worthwhile and they are worth the paper they’re printed on, but be aware of their limitations and use them with caution.

If you are interested in understanding the crazy assets that got us here  -  CDOs, CMOs, and credit defaults  -  invest $1 for the podcast of This American Life’s radio show on the topic, “The Giant Pool of Money” from May 2008. Jointly produced with NPR News, the 60 minute report explains how the mortgage business changed with subprime loans, new capital sources, and new, indecipherable investments. Well told through stories and understandable questions, it’s illuminating for all.