Balancing the Mission Checkbook

Continuing a theme from last week, during this year-end fundraising season I’ve come across quite a few “tips” for donors about how to select charities to support. Universally, every list includes advice to review the portion of expenses devoted to program compared to administration and fundraising. The responsible advisors generally suggest that program expenses represent at least 70% of the dollars. While I wish that we could move away from using this ratio as a primary measure, I agree that program expenses should dominate any budget. I have a problem, though, when the advice goes further and characterizes administrative and fundraising costs as a poor use of resources. This is especially important when, at the same time, we see more and more opinion pieces that demand greater openness and measurement of impact and effectiveness. The Wall Street Journal published one the other day, December 10th. The writer chastises charities for failing to disclose and share information about their financial activities and the impact of their work. She suggests better use of websites, annual reports, and evaluation and measurement systems and reports, all of which I wholeheartedly support. However, these critics need to understand that you can’t have it both ways. If donors and the public want nonprofit organizations to be accountable, transparent, well managed and governed, then we need to spend some money to build and maintain staff and systems to accomplish these important goals – and these costs are administrative costs.

In the same issue of the Wall Street Journal was an accompanying article, “Checking on Charities,” which offers advice about how to evaluate a charity, including the comment “Let’s start with how much the charity spends on its work.” Communication and disclosure activities would not be considered by our accountants to be part of our “work,” so when we build good systems for measuring and communicating impact, then we will spend more on administration, not less. I fear that we could feel a backlash as the expense ratio inches up.

Part of the problem probably lies in definitions. An outside donor likely has his or her own idea or impression of what is considered “administration,” but the actual expense classifications are dictated by FASB (Financial Accounting Standards Board) and IRS rules. Nonprofits Assistance Fund has prepared a short summary of these rules, Overhead Costs. As an example, here are some of the expenses we classify as administrative at Nonprofits Assistance Fund:

• Completing the financial audit and 990
• Organizational communication, including annual report and website
• Planning evaluations
• Consultants to create a system to monitor evaluation results and impact
• Submitting information to the state attorney general, Guidestar, and other watchdog agencies

We are committed to strong infrastructure and greater disclosure and accountability, and our administrative expense percentage has increased as a result. We also do great work in the community. We can certainly do a better job to educate our donors on the value of our administrative costs and how these best practices allow us to do our “real work” most effectively. And I do worry about the impact of the contradictory clamor.

Are you also concerned about this double bind – do you hear more demand for disclosure and information at the same time that administrative costs are criticized?

Instead of New Year’s resolutions, my first entry for 2007 is a list of ten common mistakes (with comments) that nonprofits make in managing their financial life. This list is excerpted from a terrific paper submitted by one of my students, Nick Eoloff, in a Financial Management for Nonprofits class at Hamline University. I thank Nick for giving me permission to share his paper.

Ten Mistakes Nonprofits Make in Financial Management:

1. All your eggs in one basket – Pay attention to your reliance on any particular source of revenue, in particular government contracts.
2. Cash flow analysis done annually – You can’t know everything at the beginning of the year. Management cash flow never stops.
3. Financials that are opaque – Nonprofit financial reports can be complex and difficult but that’s not an excuse for board members that don’t understand them or poor communication about your financial situation.
4. Inflexible – Things always change – go with it.
5. Little to no overhead – Some organizations still believe that infrastructure and overhead are not a good use of resources. This decision never turns out well.
6. Low operating reserves – Everyone wants to have operating reserves but the only way to build them to by planning and managing surplus budgets.
7. Never leverage – Using loans and credit lines to build the organization and grab opportunities is smart management.
8. No long term plan – Strategic plans are great, but how much better if they include a basic financial plan for three or five years.
9. Preparing financial projections, but never reading them – See above.
10. The auditor’s notes don’t mean much – Make sure you read all the pages of your audit report. I know they don’t look interesting, but you’ll be surprised at how informative they are.

For a complete copy of Nick Eoloff’s paper with more description and references, click here. Use this list as the start of your New Year’s resolutions for better financial management.