Today’s “overhead ratio” sparring match: Nonprofit Quarterly versus Nonprofit Quarterly.

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For today’s lineup we have Claire Knowlton arguing charities should be funded for the full cost of their operations (including building cash reserves, additional reserves for new opportunities, and repaying debt) in order to remain healthy versus Ruth McCambridge and Alexis Buchanan body slamming Wounded Warrior Project because one line item on the 990 is more than what a couple of media reporters decided it should have been.

Let’s check out the NPQ versus NPQ match:

In this corner…

1/25 – Claire Knowlton at Nonprofit Quarterly – Why Funding Overhead Is Not the Real Issue: The Case to Cover Full Costs – In order to be able to continue delivering services to clients, charities need to be healthy enough that they can pay all their bills and have the ability to respond to opportunities.

Author suggests grants to charities should cover all of their costs, not just the immediate program under discussion in a proposal. Author introduces a new term, full cost, which is:

Day-to-day operating expenses + working capital + reserves + fixed asset additions + debt principal repayment = full costs

Perhaps grants should cover a portion of each cost. Article walks through each component.

Without working capital to cover normal cash flow fluctuations, regular bills stack up. Without effective equipment, efficiency drops. When funders only allow direct program costs, barely sufficient to cover a program’s immediate costs, the drag of debt payments can take an organization under, removing important services to the community.

Employer micromanagement of  your personal budget – Author draws a wonderful word picture wondering what it would look like if your employer treated your salary the same way funders treat charities.

While looking for work, you heard from insiders that your potential employer has never hired anyone who spent more than 20% of the salary on rent. To get your rent costs down, you get a room over the 24-hour bowling alley. Since haircuts don’t have a direct impact on productivity, your employer won’t allow any of your salary to be spent getting your hair done. (You do know someone who will cut your hair for free, right? All of our other employees have found someone to volunteer!) As a result, you are always tired and look disheveled.

In addition, your evaluations and raises are determined based on whether any of the line items in your personal budget have variances over 10%. How much you help your organization achieve its objectives is not a part of the discussion.

Author introduces the “doom loop” that develops when NPOs cannot cover the full costs. It becomes a reinforcing cycle that further constricts an organization’s functioning.

Allocating expenses is difficult – Article illustrates the subjectivity of allocating expenses by describing how an arts organization struggled to handle their ceramics exhibit. Check out the article for their efforts to deal with subjectivity.

Here’s where that subjectivity leaves us:

While overhead is most commonly thought of as the expenses presented as management and general and fundraising functions on Form 990s or audited financial statements, the accounting guidance to determine which expenses belong to which function is so vague that reasonable people make wildly different determinations about how to allocate expenses across functions. What ends up classified as overhead is so open to interpretation, even manipulation, that we cannot provide a useful or consistent definition.

When handled with integrity, as in the situation described in the article, allocating expenses is difficult, subjective, and time-consuming. When handled without integrity, there is tremendous opportunity for manipulation.

Let’s don’t even start talking about the subjectivity of valuing GIK and the resulting impact on ‘overhead’.

I hope this article will become as well read as “The Starvation Cycle”

In the other corner…

2/1 – Ruth McCambridge and Alexis Buchanan at Nonprofit Quarterly – Wounded Warrior Project: The Fundraising Factory Issue – Article repeats, without one word of analysis, the headline claims from CBS and The New York Times. Article mentions WWP disagrees with the reporting but does not provide any detail of their objections or analysis of the points raised by WWP.

Article does not touch the issue of whether the conference costs are only for staff events or whether a large portion is for program participants.

Article does link WWP to William Aramony’s leadership at United Way and the Red Cross repurposing donations after 9/11. Oh, the discussion of WWP objecting to the coverage is mentioned after explaining that Mr. Aramony went to jail for a salary that is roughly comparable to what was mentioned earlier in the article as Mr. Nardizzi’s compensation.

So we have one article arguing that charities should have enough money to fully fund their operations and be able to respond to new opportunities. (See WWP’s dream to set up a $500M trust to fund ongoing care for vets). The other article reviews the amount spent on rent and haircuts concluding that after setting up a retroactive budget too much has been spent on rooms and meals at conferences.

Just a bit more analysis

I have not done a deep analysis of the WWP financial statements or the critical news coverage.

With every moment of additional study, I am left more confused by the visible financial analysis.

For example, the CBS coverage says the conference spending of $26M is approximately the same amount that WWP spends on combat stress recovery. That is identified in the article as the organization’s largest program.

Yet a few minutes of reading reveals the organization’s consolidated statement of functional expenses show the combat stress recovery program has costs of $39.97M on a GAAP basis. Back out the donated media time of $10.5M and the costs are $29.5M on a tax basis. So if the comparison is on a tax basis instead of the financial statements, then the conference cost natural expense and combat stress recovery program expense are roughly comparable. Seems to me a more accurate comparison would be to the audited financial statements. (I will leave for another day fleshing out the idea that comparing one natural expense to total functional expense of one program is not just comparing apples to oranges. It is more like comparing the economic value of apples to a grocer’s cost of operating the produce section.)

Two other things to keep in mind when assessing that comparison.

First, the financial statements reflect the organization tracks its costs for 16 different programs. Sixteen. Keep in mind that I don’t get out much, but that is a lot more detailed breakout of programs that I have seen in any other charity.

Second, the alumni association program has $53.3M of expenses on a GAAP basis, which is far larger than the amount of conferences. Back out the $13.5M of donated media time and there is still $39.8M of costs on a tax basis. Even the 990 shows the alumni association is the largest program. Why did the coverage claim combat stress is the largest program? I don’t understand.

Oh, while you’re looking at the costs in the alumni association column, notice that there is $10.1M of costs for meetings and events. That supports the assertion by WWP that the vast majority of conference costs are for clients participating in programs. I don’t think there will be much debate that such costs are to be considered program.

Move to the second page of the statement of functional expenses and you’ll see that meeting and event costs allocated to the 16 program services are $24.4M out of a total of $26.1M. Assuming the allocation is correct, which is always a major assumption, that means 93.5% of meeting and event costs are program services.

I am having increasing difficulty understanding the validity of the stated criticisms of WWP. Ironically, I see several places in the tax return and financial statements where a person could criticize WWP or at least challenge them for an explanation. Yet there has been no discussion of any of those matters. I will leave it for you to do your own analysis to find those issues.

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