Nonprofit organizations are generally very aware of their percentage of program expenditures to total expenditures. This program efficiency ratio is often used as an indicator of the organization’s effectiveness in its delivery of services, resulting in an assumption that the greater the allocation to program, the better.
This logic doesn’t really work. An organization devoting an extremely high percentage of its resources to program is likely not spending an appropriate amount of time and resources on the activities necessary to keep the nonprofit sustainable. Without fundraising, how will the community and new donors learn about the organization and the work it is doing?
Administrative expenditures provide significant benefit to a nonprofit organization. A minimum level of administrative activity is necessary to keep the nonprofit running, but a healthy sustainable organization invests in its internal controls, its employees, and its future.
Nonprofits can assist donors when making contribution decisions. Describe the mission, relationships, and organizational strength of the enity and how the program efficiency ratio supports operations, growth and sustainability.
Many organizations are aware of their ratio of program service expenditures to total expenditures. And in fact, there are a number of charity rating systems that make recommendations as to the appropriate overhead ratio. This causes some nonprofit entities to manage to that ratio.
Here’s the problem. The idea that charities should put as much money as possible into their program activities without investing in overhead – the management and support of the organization, can cause an organization to have significant difficulties in meeting its mission and goals down the road. There have been a number of examples of organizations struggling to deliver their services because they haven’t invested enough in the infrastructure necessary to support their programs.
Public pressure contributes to this dilemma. There is a perception that it is unreasonable for an organization to put significant money into building and maintaining its infrastructure. Some donors will limit their donations to program-only uses or will not donate at all to organizations that spend more on overhead. In the long run, the nonprofits that are deliberate about building and maintaining their infrastructure will be able to efficiently deliver their programs on a long-term basis and to effectively create new programs to benefit their communities.
Recently I had a great conversation with a board of directors about the story their financial statements are telling. In my mind, the fact that we were having the discussion and that the board was so engaged is indicative of the good work the board is doing for their organization.
Our review of the metrics that are often calculated for nonprofit organizations landed on the percentage of expenditures that are functionally allocated to program, management and general, and fundraising. While this organization’s allocation seemed reasonable and appropriate, there were a number of questions and comments as to whether the allocation to program should be higher. The thought is that this shows the organization in a better light.
Is that true? I suppose that someone uninformed about an organization and its programs and operations could conclude that a nonprofit with a higher percentage of expenditures allocated to program is “doing a better job” with their resources. But to truly understand how a nonprofit is operating, you need to look behind those numbers. Are they in the middle of a fundraising campaign in order to bring new programs on board, and therefore allocating more resources to fundraising? Are they gearing up for significant growth and wisely putting resources into the infrastructure necessary to create and sustain that growth?
Ultimately, board members need to know what the key metrics are for their organization, what story those metrics are telling, and what the reality is behind the numbers.