Top 5 financial questions for not-for-profits and how to answer them

Many of us within the creative industries are also embedded in the not-for-profit world. You might be on the board of an NFP, or on staff or maybe even providing funding for them.

Knowing how these organisations are faring financially is vitally important – particularly if you’re a board member, because you have a responsibility to not trade while insolvent. Unfortunately, knowing how to assess an organisation’s finances is something many people without accounting degrees struggle with.

In a Generate survey about financial literacy, only 33% of respondents said they could determine an organisation’s financial health. Only 18% said they could apply financial ratios, the commonly used tools to assess how well an organisation is doing financially.

At the Institute of Community Directors’ Board Builder Conference I presented on this topic and talked about five essential questions to ask if you’re working out how financially secure a NFP is. These are five questions which anyone can master and which can start to decode an organisation’s finances. They’re not the only questions you should ask, but they are a way to get into a conversation which might save your NFP’s bacon. Not to mention yours! Of course, I’m not just going to leave you with the questions. We’ve got answers too, and hopefully you’ll find these simple rules of thumb easy enough to use, even after a short glance at an organisation’s financial reports.

Is this organisation about to go bust?

Let’s face it – this is the one we all want to know the answer to. And with good reason; no one wants to be the staff member/board member/funder who presided over an NFP that had to shut its door.

To answer this question, head to the balance sheet and look at the net assets figure. First test? We want this to be positive, not negative. Then look at the profit and loss statement and find the organisation’s total expenditure.

(Net assets ÷ total expenditure) x 100 gives you the organisation’s financial reserves as a percentage of annual expenditure. Basically, how big a financially buffer the organisation has. 10% is good. 20% is great.

Does it have enough money to pay its debts?

It’s critically important to know about short term debts and where the money is coming from to pay them. Both the numbers you need to answer this question are on the balance sheet.

Current assets ÷ current liabilities will give you a number which indicates how easily the organisation can meet its short term debts. 1.5 for instance, shows that for every dollar the organisation owes, it has $1.50 to pay for it. 0.25 shows that that for every dollar the organisation owes, it only has 25c to pay for it. You know which way you want this ratio to come out!

How much cash does this organisation have?

Cash is king, right? The more cash an organisation has, the better right? Generally speaking, yes. But things are a little more complicated in the NFP world. You want to look at the levels of cash at bank (found on the balance sheet), but you also want to look at how much of that cash is earmarked for future activities. So take that cash figure and subtract any income received in advance (also on the balance sheet). ‘Income received in advance’ includes items like government grants, subscription income, donations tied to certain outcomes… anything where the money can’t be spent yet, because it has a future obligation attached to it.

How dependent is this organisation on government funding?

This is an easy formula to master, and can be applied after a quick glance at the profit & loss statement. Just go (government grants ÷ total revenue) x 100. You’ll get a percentage showing how dependent on government funding your organisation is. The higher the percentage, the higher the risk to your organisation should that funding cease.

What’s a good percentage to aim for? Well, a diverse range of income streams is usually a sign of financial stability for an organisation, so I think less than 50% is a good target. But it depends on your industry. Many organisations in the health and wellbeing space would have much higher percentages than that. It’s a question of risk and corresponding strategies to mitigate that risk, which are key questions for board members. Of course, you can apply the same formula to test dependence on other income streams; donations, sponsorship, philanthropy and so on.

How efficient is this organisation’s fundraising?

Many NFPs invest a lot of time and resources into fundraising. How can you tell if all that effort is well spent? Use this formula: (Fundraising expenses ÷ fundraising revenue) x 100. The resulting percentage will tell you how much bang you’re getting for your fundraising buck. The lower the better, but I think 20%’s a good number to aim for. Again, your industry norms come into play.

You can apply the same formula to a range of expenses, like marketing, project expenses and so on. You’re basically comparing how much revenue you generated from a set cost.

Man, can’t someone do all this for me?

Sure. Not someone as much as something; an automated financial dashboard program. There are lots out there, but Futrli is one which is customisable, so you can set it up with these ratios and others you set up specifically for your needs. It will also read directly from Xero, so your data is always up to date. A great timesaver for busy CEOs and boards.

If you'd like someone to take over the accounting and reporting for your NFP why not get in touch? We work with plenty of NFPs and would love to help.

Special thanks to our good friend, David Sharpe of Sharpe Advisory, for writing this article.