Along with the recent economic meltdown has come the question for nonprofits of how organizations can survive or continue to thrive during these challenging times. One answer is to invest in capacity-building activities that are proven to make organizations more effective and sustainable, such as strengthening fundraising activities and focusing on programs that are proven effective. Of all capacity-building activities, however, enhancing your organization’s financial management abilities is likely to be one of the most important, because information about your organization’s financial health is essential in making decisions in other areas, such as fundraising and prioritizing organizational activities. 

In my roles of working as a nonprofit consultant and in making grant-funding decisions at a foundation, I have often been troubled by the state of nonprofit financial management. I have a deep appreciation and understanding of why this is the case within many organizations, but have now seen too many organizations fail or teeter on the brink of failure by sweeping lack of financial management under the rug as a fact of life within the nonprofit sector. While a lack of financial savvy and oversight on the parts of nonprofit leaders, on both the board and staff side, may have been excusable and understandable in the past, the looming economic crisis has significantly increased the likelihood of demise for numerous organizations that are providing critical services within our communities. Therefore, for organizations that do not have strong financial management practices, applying capacity-building resources in this area can help enhance an organization’s prospects for short- and long-term viability. Effective financial management, or lack thereof, could mean life or death for many organizations over the coming years. 

Emerging evidence of negative impacts

So far, national economic conditions seem to be magnifying financial management issues within already troubled organizations. For example, an organization with cash-flow issues that would have normally sought out a loan to make ends meet may now be finding such loans harder to come by. Organizations without sufficient reserves or fundraising challenges are turning toward laying people off and cutting programs to help balance budgets and stay afloat. These early examples help demonstrate the importance of effective financial management in times of crisis and uncertainty. Simply put, organizations are at serious risk of becoming unsustainable if the organization’s leadership, both the board and staff, do not have a very clear and accurate understanding of the organization’s financial health. 

Four basic best practices for stronger financial management

A strong understanding of an organization’s health is critical to short- and long-term viability. For organizations without a history of strong financial management practices, the following four basic practices are a place to start and can help strengthen an organization’s short- and long-term financial viability almost immediately.

Program-based budgets

In order to make effective decisions, an organization’s leaders need to know the true cost of operating programs, fundraising and supporting overhead expenses. A program-based budget, in which revenues and expenses are directly allocated to programs or organizational activities, can help an organization understand the true costs of its activities. In a program-based budget, for example, fundraising expenses are not all lumped together, but instead are tied to the program that the expense benefits. Many organizations do not prepare their budgets in this way, which leaves the organization’s leadership without a powerful management and decision-making tool, because no one within the organization knows what it really costs to operate a program or execute a fundraising activity. Without using this approach to budgeting, it is impossible to know if one program is completely subsidizing another or if overhead expenses are unsustainably high. 

Program-based budgets serve as an excellent planning, decision-making and monitoring tool. After setting up this type of budget, organizations should carefully track revenue and expense allocations according to projections over the course of the year. Analyzing the true costs of running individual programs and conducting other organizational activities, along with promptly and proactively addressing variances, can help to substantially increase an organization’s viability.

Focus on cash flow

Combined with the fact that emergency funding is becoming harder to access, organizations without a strong handle on their cash-flow situations are putting their long-term viability at risk. Therefore, all organizational leaders should have a strong sense of how cash flows in and out of the organization, with a clear distinction between unrestricted, temporarily restricted and permanently restricted funding. Understanding the timing of expenses and revenues gives organizational leaders another important tool to help in making effective and informed decisions about the organization, ranging from strategic priorities to approving individual expenses. Conservatively estimating cash flows at least six months in advance and preparing monthly cash-flow statements should become a basic practice within organizations to help prevent the sudden realization that an organization is running out of funding to cover basic operating expenses, such as rent and salary. 

Be thoughtful about cutting expenses

For many organizations, cutting expenses will be a first reaction to the economic crisis. While reasonable in many cases, cutting expenses within otherwise healthy organizations without thinking strategically can have unforeseen consequences in terms of organizational viability and staff morale. I am familiar with an organization that somewhat arbitrarily decided to cut its large travel budget for the upcoming year because of the perception that travel is often seen as an extraneous cost. In this particular case, travel expenses are essential to achieving programmatic goals for one of the organization’s flagship programs, but such factors were not considered in making the cuts. Similarly, cutting a staff person might result in immediate cost savings, but the same cut might also make it impossible for an organization to maintain its current level of service. For organizations in crisis, considering the organization’s mission priorities and strategic goals should be the key focus in making drastic cuts. Making arbitrary or ill-informed decisions in this kind of situation can bring an organization into deeper crisis, making recovery even more challenging and unlikely. 

Although it seems obvious, it is essential to consider what short- and long-term programmatic or strategic impacts budget cuts will have, in addition to considering the actual financial impact of such decisions. Once the strategic and programmatic impact of cuts is determined and considered, an organization can weigh whether or not the cuts might cause more harm than good. Additionally, when cutting expenses, giving staff members the opportunity to weigh in with ideas about potential cuts can help build morale during difficult times and can lead to better decisions about where to cut, since such individuals often have a better sense of what expenditures are essential to keeping a program running effectively. 

Assess the organization’s business model

Assessing the strengths and weaknesses of an organization’s business model is a critical step in achieving or maintaining financial sustainability. Considering an organization’s level of revenue diversification, critically assessing the financial viability of programs, and considering the strengths and weaknesses of organizations with similar missions and service offerings are all essential to understanding an organization’s prospects for both short- and long-term viability. For some organizations, especially those in precarious financial situations or with duplicative programs, mergers or stronger partnerships should be considered as one means of increasing viability in difficult times. While subsidizing a financially draining program with minimal mission impact might have been acceptable in previous years, continuing to invest in such programs now and into the future could negatively impact the viability of an entire organization. 

Considering these types of difficult questions and implementing these basic practices is of critical importance for all nonprofit organizations because of the challenges we will all face in coming years; considering these questions and implementing these practices now will help organizations get ahead of the curve and survive. With competition for foundation funds tightening, trends in government funding becoming more uncertain and individual donors becoming more financially-strapped, nonprofit organizations without strong internal capacity, especially around financial management, will simply have a more difficult time surviving. With critical information about an organization’s financial health, board and staff members will have the information necessary to make informed decisions about fundraising priorities, programs and allocating scarce resources. Simply put, moving financial management up to the top of the capacity-building priority list is essential to ensuring both short- and long-term viability within the nonprofit sector.

By Sarah Fischler, director of consulting for the Community Resource Center, a nonprofit organization that provides capacity building and technical assistance services to nonprofit organizations throughout Colorado. Contact her at fischler@crcamerica.org.