Balancing the Mission Checkbook

There have been years when I hated to see the year end because of all the wonderful, joyful events that had occurred. This year, though, was pretty mixed in terms of the financial health and sustainability of Minnesota’s nonprofits. While there was a lot to celebrate for nonprofits in 2011, there were also challenges which I’ll be happy to leave behind. I can see some silver linings in these clouds, though, in new practices and trends that will lead to better financial health and capacity in 2012.

So in the spirit of year end lists, here are five goodbyes for 2011 – and hopes for 2012:

Goodbye

1. State budget impasse and shutdown: Without a doubt the low point of the year for nonprofits was the long budget battles, anxious uncertainty, and the twenty day state government shutdown. While many services were maintained by court decision, nonprofit leaders had to divert their attention to preparing, information gathering, planning, and navigating appeals and systems to survive.
   Silver lining: Nonprofit leaders learned a lot about contingency planning and budgeting which has led many organizations to begin more substantive scenario planning for 2012.
2. School funding shift: For three years, the state budget has shifted part of the funds for public schools to the next year in an accounting maneuver to close budget gaps. As of July 2011 the shift is up to 40%. The impact of this shift on charter schools is particularly difficult because of limited cash reserves and financing alternatives.
   Silver lining: Nonprofits Assistance Fund made our first significant public policy effort to provide data and analysis on the impact of the shift on charter schools. We look forward to more policy involvement in 2012.
3. Information overload: So much data, information, analysis and opinion to read, hear and see. I’ve been pretty overwhelmed this year by it all, but I can’t seem to stop myself. Between printed media (yes, I still read daily papers), online journals, broadcast and cable media, Facebook, and Twitter, I should be as well informed as humanly possible. When I found myself standing by the steps of the capital at 11 pm on June 30th, though, listening to MPR on a tablet computer and reading tweets on my phone, I realized I had fallen into the well.  I had to learn to “curate” for myself (new buzzword alert).
   Silver lining: We have amazing journalists in Minnesota through nonprofit and for-profit media outlets that make their reporting available. My hope for 2012 is that the economic models for high-quality reporting and ideas gain stability and support from all of us who rely on them.
4. Financial crises and closures: A number of nonprofits in Minnesota ran into severe financial problems in 2011 which resulted in major program contraction or closing their doors. The prolonged recession was a big contributing factor, but not the only factor.
   Silver lining: Some board members have woken up to the need to to ask better questions about both short term financial information and long term structure and sustainability. We hope in 2012 to see better financial governance that goes far beyond micromanaging budget variances.
5. Unemployment: We all know too many people who have been laid off by nonprofits, government agencies and businesses in the last three years.  It’s been a loss to have talented, experienced, committed workers sidelined and spending long months or years searching for work.
   Silver lining: There are glimmers that nonprofits are finally being recognized as employers and “job creators”.  As reported in this Nonprofit Quarterly article the nonprofit sector is generating jobs at a faster rate than the private sector. A new advocacy organization, CForward, was formed to “champion the economic role of nonprofits”. We are hopeful that a variety of incentives and policies will be adapted to support the nonprofit sector as an economic force.

My final goodbye for 2011 is to thank all of the staff, volunteers, and board members of nonprofits everywhere for your commitment and effort to help people, build community, create magic, and bring us all together. My hope for 2012 – that all of your organizations are productive, effective, satisfying – and well-funded – in 2012.

There have been many columns and editorials about the dangers of state governments using budget strategies that are no more than accounting gimmicks. Transfer reserves from one fund to another. Use bond financing for current expenses. Shift payments from one fiscal year to the next. Voila, problem solved. Bill Gates, in this TED Talk on state budgets and education funding, took a jab at these state accounting schemes by observing, “Enron would blush.” He believes that state governments should be required to follow the same accrual Generally Accepted Accounting Principles (GAAP) as businesses and nonprofits. The new governor of Connecticut, Dan Malloy, is implementing his priority campaign pledges to move the state to GAAP standards. I know this sounds incredibly uninteresting to most people, but it’s actually a huge leap. In Connecticut, for example, taking away the accounting sleight of hand of shifts and transfers will add $1.2 billion to the state’s deficit.

I find this all fascinating on a policy level, and I’m happy to talk about these kinds of questions over a glass of wine (yes, I know how to have fun).  What happens, though, when theory about state policy meets daily reality at nonprofits that deliver public services? It’s not theoretical anymore. In Minnesota we have a very real case study as a result of an accounting shift for the state public education budget. Charter schools, a type of public school, have been scrambling for two years to manage the cash flow crisis caused by one of the shifts. State aid to public schools is paid beginning in July in even amounts over the year based on the number of students enrolled and attending school.  The state started “shifting” some of the education aid payments to future years to reduce the budget hole. What had been a 10% shift, called the holdback, has been increased twice in the last two years to help address the state’s budget problems. In the 2009-2010 school year 27% of state aid was deferred to the next year. For the current school year the shift is 30% of state aid.  Because of the state’s continuing budget difficulties, the payment shift seems likely to stay in place for years to come.

Earlier this year Nonprofit Assistance Fund, Minnesota Association of Charter Schools and Charter School Partners conducted a survey of Minnesota’s charter schools to understand how charter schools responded to the funding shift, including the availability of credit, the cost of borrowing, and impact on school operations and education services.  This week we released a report on the results of the survey to bring attention to this clash of policy theory and cash flow reality.

Highlights

• Charter schools have used every tool available to them to manage their cash flow, including internal fund balance reserves, renegotiating lease terms, budget cuts, loans from commercial banks, nonprofit loan funds, outside supporters and affiliates, and sale of receivables.
• Given that traditional school districts have taxing authority and a state guarantee of any loan, districts can typically receive loans with a 1% or less interest rate. Charter schools, who do not have these financing mechanisms in place, have faced obstacles to accessing credit and must pay between 6% to as high as 23% in loan fees (includes interest, fees and legal expenses).
• A gross inequity exists between traditional school districts and charter schools as to how the holdback impacts their respected operations.
• A 30% holdback is unsustainable for many charter schools in Minnesota and unless this is addressed, solid, high-performing charters will be at risk of ongoing financial instability.

Recommendations to reduce the inequity

The report recommends three possible policy changes that could address the inequity and help resolve cash-flow gap financing issues for charter schools, including:

1. Reduce the holdback for charter schools from 30% to 15%.
2. Provide a state-backed, low-interest loan pool.
3. Improve access to private capital (market rate loans) via a state-authorized ‘written assignment’ to banks.

You can read the release and the State Education Funding Shift Has a Disparate Impact on Minnesota Charter Schools report here.

This is just one case of the impact of state accounting schemes. There are many others all over the country. The solution isn’t simply a matter of GAAP accounting. If not through accounting, Minnesota, Connecticut, and 46 other states still have a hole to fill. It’s important to remember that theory quickly becomes reality when it hits the ground.

I am so glad that I’m not the director of a Minnesota charter school. Imagine working in a small segment of the nonprofit sector, comprised of 150 organizations, and opening the paper to regularly find a headline announcing that your field is “out of control” or in “rough waters.” Meanwhile, you go to work every day to lead the teachers at your school and together work to educate the students whose families have chosen to enroll at your school. I wouldn’t appreciate, much less enjoy, the attention. Every report brings with it questions about whether our hypothetical school director is among those with the problems described in the news. Whatever the current condition of this individual school, they end up tainted a bit by the sheer volume of news.

In just the past week, our hypothetical charter school director has seen these reports:

• State charter schools program is ‘out of control’, reports the Star Tribune in an investigative article about the use of bonds for financing of 18 buildings for charter schools.
• The Pioneer Press reported Strapped St. Paul charter school to close midyear on the decision by the board of directors of Skills for Tomorrow school to close at the semester break because of declining enrollment.
• Last week, in Payment shift makes rough waters for charter schools Minnesota Public Radio provided background and examples of the impact on charter schools of the state’s new deferred payment schedule for all public school payments.

While each news story is accurate, it does not paint an accurate overall picture. The individual schools don’t have the chance to explain all of their plans, budgets, and curriculum philosophy to the community. I have a deep enough understanding of charter schools to respond to each with the comment that “it’s more complicated than that.” I don’t want to gloss over some very real issues with finance, leadership and governance at some charter schools, but I am trying to figure out why this small group of nonprofits is such a magnet for news, investigation, and opinion.

As some background, Minnesota was the first state in the nation to create “charter schools.” Today Minnesota has about 150 operating charter schools, with roughly half in the Twin Cities Metro area, and the remainder in Greater Minnesota. Together, these schools serve about 33,000 students. Charter schools are true public schools. They are created by state law, are funded by government, and are subject to most state laws governing public education. They cannot charge tuition and they cannot discriminate in admissions. They are subject to state graduation requirements and the mandates of the federal No Child Left Behind legislation. Structurally, charter schools are both nonprofit corporations and independent school districts.

This structure presents complexities that affect both governance and financial management. As I detailed in a previous entry, Charter school myths and realities, the reality is that the management quality of most charter schools in Minnesota is on par with the management of nonprofit organizations overall. The vast majority of charter school directors and teachers are hardworking, mission-focused, committed educators, and I thank them for their work.

For such a small group of organizations, charter schools attract an awful lot of attention, scrutiny, and criticism. As a community, we feel strongly about education and about the use of taxes and public funds. Charter schools are right in the middle of both.  The field needs to find a way to communicate their value to the community – unless they like opening the paper every day to read another report about problems.

We passed a milestone this week at Nonprofits Assistance Fund when we approved our 50th loan to a Minnesota charter school. We work with nonprofits in every field of service, but when I tell people that we work with charter schools I often get responses like, “Isn’t that really risky?” or “I’ve heard that charter schools have really weak financial management. Can they pay the loan back?”

Our experience with charter schools has been interesting, and largely positive. We have made 50 loans totaling $5.7 million to charter schools in the last eight years. So far, we have written off $5,000. That’s all we’ve lost. I say that our experience has been interesting, though, because at least half of the schools we’ve worked with were facing pretty serious financial problems when we made the loan. That would suggest that I might agree with the comments that schools aren’t well managed. But I don’t agree – I think that’s the myth. Nonprofits Assistance Fund’s mission is to build financially healthy nonprofits and we often work with organizations at a time when a bank is not able to approve a loan within bank lending policies. We take some extra risk and then work closely with the nonprofit, schools in this case, to help them improve. I attribute our success in lending to schools to the combination of the school leaders’ commitment and determination to make the school succeed and Nonprofits Assistance Fund’s expertise in school finance and financial management. The fact that most of the schools have emerged from their financial problems is the positive part of our experience and the reality of charter school management.

The reality is that the management quality of most charter schools in Minnesota is on par with the management of nonprofit organizations overall. It’s hard work to start a new enterprise, and charter schools tend to start and grow pretty quickly. Ask a small business owner what it’s like to manage rapid growth – they’ll tell you that it’s challenging. Most of the serious problems with schools have been in the first few years of operation, and charter schools are a new industry. Minnesota was the first state to authorize charter schools, and the first schools opened just 15 years ago. There has been an unusual amount of attention given to financial problems in charter schools because they operate with public money (since they are public schools). You can learn all about Minnesota’s charter schools from the Minnesota Association of Charter Schools. Minnesota has 131 charter schools in operation and at least another 19 approved to open in the next year or two. Combined, they serve 23,500 students by offering a variety of approaches to curriculum and teaching and learning environments. Since each child has individual needs, charter schools offer an option for families. There has been positive news about schools as well, highlighting the educational innovations for which these schools were created. A bigger question for charter schools will be the long-term measure of their success in raising student achievement and engaging with families and communities. Reports are a mix so far, but this is a young field with a very big job.

You can also read about Metro Deaf School, one of the charter schools we’ve had the pleasure of working with.