Presented by: Bruce J. Toews, CPA, MBA, ABD Assoc. Professor of - - PowerPoint PPT Presentation

Presented by: Bruce J. Toews, CPA, MBA, ABD

• Assoc. Professor of Accounting/Finance

Walla Walla University

September 17 & 19, 2013 Brought to you by: A Learning Center for Nonprofits

Sponsored by: The Sherwood Trust & Walla Walla Community College

Schedule:

• Start 11:30am
• 1:30pm -- out of here

CPE for CPAs (sign-in & out) Kudos to:

• A Learning Center for Nonprofits, co-

sponsored by the Sherwood Trust & Walla Walla Community College

Introductions: your name, nonprofit,

position, and any community announcements

• 1. A Challenging Time for Nonprofit Finances
• 2. Fostering Confidence in Your Financial Reports
• 3. A Re-cap of the Statement of Financial Position
• 4. Understanding the Statement of Activities and

Functional Expenses

• 5. Interpreting the Statement of Cash Flows
• 6. Financial Metrics for Nonprofits

According to the 2013 Nonprofit Finance Fund’s annual survey of 6,000 nonprofits:

• For the first time in the survey’s history, more than half

(52%) of nonprofits were unable to meet demand over the last year, and even more (54%) said they won’t be able to meet demand this year

• Last year, one in four nonprofits ran so close to the bone

that it had less than 30-days operating cash-on-hand

• 42% of nonprofits said they would not have financial

resources to thrive and be effective over the next 3 years.

Nonprofits are addressing these challenges by:

• Diversifying sources of revenue
• Seeking efficiency and cost reduction
• Collaborating with other nonprofits
• Embracing advocacy

These actions require, among other things, better financial data analysis, which is a focus of our discussion today.

• 1. A Challenging Time for Nonprofits
• 2. Fostering Confidence in Your Financial Reports
• 3. A Re-cap of the Statement of Financial Position
• 4. Understanding the Statement of Activities and

Functional Expenses

• 5. Interpreting the Statement of Cash Flows
• 6. Financial Metrics for Nonprofits

• 1. Federal requirements
• If a nonprofit expends $500,000 or more of federal funds

annually, or participates in a Combined Federal Campaign > $100,000

• 2. Washington State requirements (eff. 1/1/10)

Average Annual Gross Revenue over last 3 years Requirements Less than $1 million No state audit requirements Greater than $1 million up to $3 million Form 990 prepared /reviewed by CPA, or audited fin. stmt. Greater than $3 million * Audited fin. stmt. by CPA*

* Not required if nonprofit receives < $500K cash contributions or gets a large, one-time windfall donation

• 3. Some grant makers and lenders require audits

Best practices call for some sort of independent evaluation to:

• 1. generate donor/constituent confidence
• 2. demonstrate compliance with proper standards for

accounting and reporting

• 3. prevent or detect fraud, errors, and waste

OPTIONS:

• 1. CPA Audit or Examination
• 2. CPA Review
• 3. Non-CPA options
• 4. Internal steps to enhance accountability,

absent an audit

Service Assurance Advantages/Disadvantages Financial statement audit Reasonable assurance Most thorough form of evaluation, providing highest level of credibility, but also costs the most. CPA performs tests & gathers supporting evidence; internal controls over finances are evaluated. Financial statement review Limited assurance Less thorough than an audit. CPA does minimal testing but asks lots of questions and checks for

• reasonableness. No evaluation of internal controls is
• done. At least half of the cost of an audit but less

assurance provided. Financial statement compilation No assurance CPA compiles financial statements in a proper format; CPA does not perform any tests and provides no assurance about financial statements; CPA is only responsible for obvious, glaring errors

Internal evaluation by financially savvy board or constituency member

• No established standards to follow; no broadly

recognized meaning from such an attempt; therefore, credibility and payback are questionable.

• NOTE: By law, only CPAs can perform financial

statement audits and reviews. A CPA is prohibited by ethics rules from auditing/reviewing the financial statements of a nonprofit for which the CPA is also a board member.

• 1. Carefully prepare Form 990 and make readily available
• 2. Make sure you can answer “yes” to all accountability

questions on Form 990

• Form 990 reviewed by board before filing?
• Board minutes documented?
• Conflict of interest policy?
• Whistleblower policy?
• Records retention policy?
• Employee compensation policy?
• 3. Distribute a thoughtful and well-presented summary

annual report

FORM 990 THRESHOLD FORM Gross receipts normally ≤ $50k 990-N Gross receipts > $50k & < $200k, and total assets < $500k 990-EZ

• r 990

Gross receipts ≥ $200k and/or total assets ≥ $500k 990

• 1. A Challenging Time for Nonprofit Finances
• 2. Fostering Confidence in Your Financial Reports
• 3. A Re-cap of the Statement of Financial Position
• 4. Understanding the Statement of Activities and

Functional Expenses

• 5. Interpreting the Statement of Cash Flows
• 6. Financial Metrics for Nonprofits

 Can also be called Balance Sheet or Statement of Net

Assets, but these names are uncommon

 Snapshot of financial position at a point in time

Assets = Liabilities + Net Assets $20k = $18k + $2k 100% = 90% + 10%

 Left side (assets) shows resources.  Right-side shows who claims the resources, creditors

(liabilities) and/or the nonprofit “owners” (net assets, formerly known as fund balance).

Tells us three important messages:

• 1. Solvency & viability (ability to continue to fulfill its

mission over the long-term)

• 2. Liquidity (ability to pay bills in the short-term)
• 3. Resource Restrictions (purpose or timing constraints on

the use of resources)

Intiman Theatre, Seattle Assets = Liabilities + Net Assets DTA

$1M = $1.8M + -$.8M 100% = 180% + -80% 180%

 The debt-to-asset ratio (DTA) tells us what portion of the assets

must be liquidated to pay all liabilities. The current DTA for small nonprofits who file Form 990-EZ averages around 14%. DTAs significantly higher than this might be of concern.

Tells us about three important things:

• 1. Solvency & viability (ability to continue to fulfill its

mission over the long-term)

• 2. Liquidity (ability to pay bills in the short-term)
• 3. Resource Restrictions (purpose or timing constraints on

the use of resources)

Show liquidity by

• sequencing
• listing liquid

assets first

• listing short-

term liabilities first

• using current / non-

current breakdown (current ratio $47.9k/$13.4k=3.6)

• showing

unrestricted cash separately A Local Nonprofit

Tells us about three important things:

• 1. Solvency & viability (ability to continue to fulfill its

mission over the long-term)

• 2. Liquidity (ability to pay bills in the short-term)
• 3. Resource Restrictions (purpose or timing constraints on

the use of resources)

• 1. A Challenging Time for Nonprofit Finances
• 2. Fostering Confidence in Your Financial Reports
• 3. A Re-cap of the Statement of Financial Position
• 4. Understanding the Statement of Activities

and Functional Expenses

• 5. Interpreting the Statement of Cash Flows
• 6. Financial Metrics for Nonprofits

 Provides information for evaluating the organization’s

performance over a period of time

 Other names: Statement of Revenues, Expenses & Other Changes in Net Assets Statement of Activities and Other Changes in Net Assets Income Statement or Statement of Income & Expense (not

recommended)

Operating Statement (not recommended) Profit/Loss Statement (not recommended)

Common Elements:

Revenues/Expenses - from ongoing central activities Gains/Losses – from peripheral or incidental activities Reclassifications – movements from one class of net assets to

another

OPTION 2 UNRESTRICTED Increase $X Decrease $X

• TEMP. RESTRICTED

Increase $X Decrease $X

• PERM. RESTRICTED

Increase $X Decrease $X TOTAL $X Two Format Options

Activities are segregated into three classes: 1. Unrestricted 2. temporarily restricted 3. permanently restricted

OPTION 1 Unrest. Temp. Restr. Perm. Restr. TOTAL Increases $X $X $X $X Decreases $X $X $X $X Net $X $X $X $X

YWCA of Yakima, FYE 6/30/12

Statement of Activities

Reclassification Revenue Expense Format 1

• 1. Unrestricted Activities:
• No donor-imposed restrictions, other than to support the

general mission of the organization

• Normal operating activity falls in the unrestricted class
• ALL expenses are considered unrestricted activities

Important Point: As used in accounting, “restrictions” can only be created by external

• donors. Internal restrictions do not exist – rather,

these constraints are called board-designated

• 2. Temporarily Restricted Activities have a purpose

restriction or time restriction placed on them by the donor

• Example of purpose restriction: donor gives $1m to a

university to supplement accounting teacher salaries 

• Examples of time restriction:

1) donor gives $1m to Little Theatre now but says funds can’t be used for 2 years OR (2) donor pledges to give $1m at a later time.

• 2. Temporarily Restricted Activities (cont.)

 When restricted funds are spent: a reclassification occurs called “net assets released from restrictions” and the amount is moved from temp. restricted to unrestricted, where it is recorded as an expense. Important Point: When restrictions will be met in the same fiscal year, donation may be initially reported as unrestricted, if this practice is consistent and disclosed in the notes.

PLEDGES

A material pledge should only be recorded as a temporarily restricted revenue if the nonprofit has received a promise to give from the donor that is:

• Voluntary (no duress or coercion)
• Nonreciprocal (donor doesn’t receive commensurate value in return)
• Irrevocable (donors can’t change their minds)
• Collectible (reasonably assured of receiving gifted asset with allowance

set up for estimated uncollectibles)

• Is backed by evidence of donor’s intent (e.g. pledge cards,

correspondence, telephone records)

• Unconditional (no uncertain or future events to occur or barriers to
• vercome before the gifted asset is received)

 Note: GAAP requires discounting of pledges but Sherwood Trust does not.

1. Chari Table specifies in her will that the Kirkman House will receive $1m upon her death. 2. In a letter to his alma mater, Archie Alumnus says that he will give $1m to WWU to build a new performing arts center if it is named after him and he receives an honorary doctorate. 3. Gail Giver returns a pledge card with the promise “to send a $1m to the Lily Rice Center when the Dow rises above 20,000.” 4. Don Donor pledges in writing to give a matching grant of $1m to Fort Walla Walla Museum when an equal amount is raised from other sources. 5. A medical research nonprofit receives a letter from Rich Richey that promises he will pay $1m to study the cause of a disease if the results are published in a medical journal and if he receives the right to any resultant patents.

Samaritan’s Purse, Examples of Temporarily Restricted Net Assets, 12/31/12

Temporarily Restricted Contributions Unrestricted Contributions

Column 1 Plus Column 2 Minus Column 3 Equals Column 4 Column 5 Plus Column 6 Equals Column 7 Balance 1/1/12 Received in 2012 Released to Unrest. in 2012 Balance 12/31/12

• Temp. Rest.

Released in 2012 Unrest. Received TOTAL Support for 2012 FOR OPERATING Individuals 108 40 118 30 118 420 538 Foundations 132 38 108 62 108 140 248 Corporations 2 6 5 3 5 84 89 Government 6 12 18 101 101 Total 248 96 231 113 231 745 976 FOR CAPITAL Foundations 24 6 18 6 6 Government 62 62 62 62 Total 24 62 68 18 68 68 TOTAL 272 158 299 131 299 745 1,044

• 3. Permanently Restricted Activities: donor specifies

that gift principal must be invested forever and only the income earned from the gift can be used

Examples:

• True, perpetual, or permanent endowments
• Revolving loan funds
• Capitalized art collections

American Red Cross, 6/30/12

Statement of Activities

• Expenses are always unrestricted activities
• Expenses can be categorized by
• 1. natural classification (e.g. salaries, utilities, travel, postage) OR
• 2. functional classification (programs A & B, fund raising,

general/administrative).

• GAAP requires functional classification on the Stmt of

Activities but the Sherwood Trust does not.

• In order to capture the cost of replacing facilities,

depreciation expense should be recorded. (Note:

depreciation can be a function, so it does not have to allocated among functions, although this is allowed if desired)

 Allocates naturally-classified expenses among programs and

support services.

 Support services should be further allocated between fund-

raising and management/general expenses.

Programs Support Services Program A Fund-Raising Expenses General &

• Admin. Exp.

Salaries and Wages Expense 100 50 200 Utilities Expense 80 10 150 GAAP requires a Stmt of Functional Expenses for VHWOs. Form 990 requires a Stmt of Functional Expenses. Sherwood Trust asks for a Stmt of Functional Expenses from grant seekers.

Samaritan’s Purse, 12/31/12

Statement of Functional Expense

Assets Liabilities Net Assets Unrestr.

• Temp. Rest.
• Perm. Rest.
• 1. Founders form nonprofit by donating $10 of cash

+10 +10 +10 Revenue

• 2. Paid $2 cash for professional help getting started (incorporate, tax-exemption, etc.)
• 2
• 2
• 2

Expense

• 3. A foundation gave $50 cash for the acquisition of land & building

+50 +50 +50 Revenue

• 4. Land & building are purchased for $50 cash
• 50+50

+50

• 50

Reclass

• 5. Billed parents $14 for room/board and received $12 cash

+2+12 +14 +14 Revenue

• 6. Received $30 cash from a corporation for a scholarship endowment (true endow.)

+30 +30 Revenue +30 Net Asset Detail

Assets Liabilities Net Assets Unrestr.

• Temp. Rest.
• Perm. Rest.
• 7. Paid staff wages/salaries, using $2 cash and $10 from bank credit line
• 2

+10

• 12
• 12

Expense

• 8. Interest income of $4 was received, including $3 from scholarship endowment

+4 +4 +1 +3 Revenue

• 9. Granted $2 of scholarships by applying $2 to receivable balance
• 2
• 2

+2-2

• 2 Expense/Reclass
• 10. Paid $10 cash to settle lawsuit by parent over alleged abuse by counselor
• 10
• 10
• 10

Loss

• 11. An individual donor made a written pledge to give $10 of cash next year

+10 +10 +10 Revenue

• 12. Recording depreciation expense on building, $2
• 2
• 2
• 2

Expense GRAND TOTALS (Stmt of Financial Position) =100 =10 =90 =49 =11 =30 Net Asset Detail

Beginning of Year End of Year ASSETS Cash $0 $42 Pledges Receivable 10 Property & Equipment 48 TOTAL ASSETS $0 $100 LIABILITIES 10 NET ASSETS Unrestricted 49

• Temp. Restricted

11

• Perm. Restricted

30 TOTAL NET ASSETS 90 TOTAL LIAB. & NET ASSETS $0 $100

Unrestricted

• Temp. Restr.
• Perm. Restr.

TOTAL REVENUE Contribution Revenue 10 60 30 100 Sales/Service Revenue 14 14 Interest Revenue 1 3 4 Released Restrictions 52

• 52

TOTAL REVENUE 77 11 118 EXPENSES Salary/Wages Expense

• 12
• 12

Professional Fees

• 2
• 2

Scholarship Expense

• 2
• 2

Depreciation Expense

• 2
• 2

TOTAL EXPENSE

• 18
• 18

NET CHANGE BEFORE LOSS 59 11 30 100 Non-Recurring Loss

• 10
• 10

CHANGE IN NET ASSETS 49 11 30 90

• 1. A Challenging Time for Nonprofit Finances
• 2. Fostering Confidence in Your Financial Reports
• 3. A Re-cap of the Statement of Financial Position
• 4. Understanding the Statement of Activities and

Functional Expenses

• 5. Interpreting the Statement of Cash Flows
• 6. Financial Metrics for Nonprofits

 Required by accounting rules if audited/reviewed by CPA  Not required by Sherwood Trust (but encouraged) Many small nonprofits don’t use a Stmt of Cash Flows or recognize its value. Yet cash flows give an unvarnished look at true operating activities and should not be ignored. Example: WT Grant, the “Wal-mart” of the 1960s and 1970s

 Required by accounting rules if audited/reviewed by CPA  Not required by Sherwood Trust (but encouraged) Many small nonprofits don’t use a Stmt of Cash Flows or recognize its value. Yet cash flows give an unvarnished look at true operating activities and should not be ignored. Example: WT Grant, the “Wal-mart” of the 1960s and 1970s. In 1973, the stock was $71/share, selling at 20 times earnings. A year later, the company was bankrupt and the stock price $0! Although all the years leading up to the bankruptcy were “profitable,” only two years had positive cash flows.

40 20

• 20
• 40
• 100

Millions of Dollars 1968 1966 1970 1972 1974 Working Capital Provided By Operations Net Income Cash Flow Provided by Operations

What went wrong at WT Grant?

 The bankruptcy of W.T. Grant helped launch the

campaign for better disclosure of cash flows.

 A study of 45,000 firms that filed for bankruptcy

showed that 60% had a profitable bottom line, but none had positive operating cash flow.

 In 1987, the FASB finally got around to requiring the

cash flow statement for commercial entities, and finally in 1995 for nonprofits.

1

Operating Activities

Includes cash transactions involving operating assets and liabilities. Examples: donations, sales of goods/services, investment income,

• perating expenses

Should be a positive net figure; otherwise the nonprofit will become insolvent. 2

Investing Activities

Includes cash transactions involving the purchase/sale of property, equipment, and long-term investments Should usually be a negative net figure, as nonprofits invest for the long-term 3

Financing Activities

Includes cash transactions with lenders or donations used for long-term purposes Could be a positive

• r negative net

figure, depending on cash flow needs.

Three sections:

MATCH: 1. Going strong & ensuring strength for tomorrow (normal cash flow) 2. Moving ahead in faith . . . somebody believes in you for the long-term and is backing it up with bucks 3. Making cash-hungry creditors happy 4. Hoarding cash, maybe for future expansion or acquisition. 5. Poor health and getting ready to die (hemorrhaging cash, selling investments, paying off debts, liquidation)

NONPROFIT: A B C D E Operating

• 100

+300 +300

• 300

+300 Investing

• 200
• 200

+200 +400 +100 Financing +300

• 100
• 500
• 100

+200 Net Incr (Decr) +600

Statement of Cash Flows

American Cancer Society 8/31/12

OPERATING ACTIVITES Cash from Contributions +10 Cash from Sales/Service +12 Cash from Interest +4 Cash paid for Expenses

• 14

Cash from Operating Activities +12 INVESTING ACTIVITES Cash Paid for Land/Building

• 50

FINANCING ACTIVITIES Cash Received for Scholarship Endowment +30 Cash Received for Land/Building +50 Cash from Financing Activities +80 NET CHANGE IN CASH +42 Beginning Cash Balance Ending Cash Balance +42

• 1. A Challenging Time for Nonprofit Finances
• 2. Fostering Confidence in Your Financial Reports
• 3. A Re-cap of the Statement of Financial Position
• 4. Understanding the Statement of Activities and

Function Expenses

• 5. Interpreting the Statement of Cash Flows
• 6. Financial Metrics for Nonprofits

“What gets measured, gets done. What gets rewarded gets done well.” – Unknown “We have more information now than we can use, but less knowledge and understanding … The true measure of any society is not what it knows but what it does with what it knows.” – Warren Bennis “It is a very fundamental principle indeed that knowledge is always gained by the orderly loss of information. That is, by condensing, abstracting, and indexing the great buzzing confusion of information in the world around us into a form that we can appreciate and comprehend.” – FASB 117 Determine what is important for your nonprofit and routinely

• Compare to budget
• Compare to previous periods
• Compare to industry

benchmarks

Metrics

Days of Operating Cash (cash & S/T

investments) divided by (annual cash operating expenses/365)

• A red flag if below 90 days (ideally 180 days) but . . .
• A 2009 study of 230k NPs found an average of 75 days

20 40 60 80 100 120 Mar June Sept Dec

2013 2012

E.g. of a neg. trend

Net Cash Flow from Operating Activities

• A red flag if negative for several periods in a row (e.g. ACS

and JCP)

Operating Cash Flow to Current Debt Ratio

(cash from operating activities divided by current liabilities)

• A red flag if negative or if trending below 0.40
• Ranch for Troubled Youth 12/10 = 1.2 OK

Donor Dependency Ratio (expenses divided by

total contribution revenue)

How reliant are we on donations to survive? Varies by type of NP

• National Average 84%

Trend of Income Stream Sources

Charity 2012 Ratio % Charity 2012 Ratio % Salvation Army 124% YMCA 68% United Way 100% Goodwill Industries 61% Boys Scouts of America 92%

• St. Jude’s Children Hospital

41%

Multi-Year Summary of Operating Activities

CHANGES IN UNRESTRICTED NET ASSETS Operating Activities 2012 2011 2010 2009 2008 External Support (Contributions & Grants) Individuals 538 419 321 290 250 Foundations 148 323 294 354 410 Corporations 89 71 65 63 51 Government 101 213 125 124 129 Total External Support 876 1,026 805 831 840 Revenues Fee & Service Income 451 405 401 412 371 Membership Income 82 77 72 65 60 Endowment Return – Oper. (per spending policy) 18 19 17 16 16 Investment Income 5 6 5 4 4 Other Income 28 30 27 25 30 Total Revenues 584 537 522 522 481 Total External Support & Revenues 1,460 1,563 1,327 1,353 1,321 Expenses Personnel 984 940 931 836 825 Occupancy 181 177 175 162 160 General & Administrative 164 160 151 150 145 Marketing & Promotion 115 130 105 102 97 Program Materials & Other Costs 45 34 39 41 39 Depreciation 61 57 48 45 43 Total Expenses 1,550 1,498 1,449 1,336 1,309 Change in Net Assets from Operating Activities (90) 65 (122) 17 12

Fund-raising Cost Ratio (fund-raising costs

divided by total revenue) How much did it cost to raise

each dollar of external support?

• National Average 9% (> 25% is questionable).

Varies among industries and sizes of

• rganizations

Charity 2012 Ratio % Charity 2012 Ratio % Americares 1% Habitat for Humanity 18% Samaritan’s Purse 7% Paralyzed Vets of America 23% United Way 9% American Diabetes Assoc. 29%

Program Output Ratio (program expense

divided by total expense)

Of each dollar spent, how much was spent on the charitable purpose?

• National Average 81% (< 65-70% is questionable)

Charity 2012 Ratio % Charity 2012 Ratio % Medical Teams Intern. 98% Salvation Army 82% American Red Cross 92% Paralyzed Vets of America 74% Samaritan’s Purse 88% American Cancer Society 72%

American Cancer Society 2012 Statement of Activities ($ amounts in millions)

INCOME External Support $ 908 Program and Other Revenues 46 Total Revenue 954 EXPENSES Program Expenses 713 Management & General 59 Fundraising 218 Total Expenses 990 Change in Operating Net Assets

• 36

Evaluate ACS:

Donor dependency? Fundraising efficiency? Program efficiency?

*http://www.blueavocado.org/content/nonprofit-dashboard-and- signal-light-boards

A Dashboard Example*

A Finance Dashboard Example

WARNING WATCH OK Ranch for Troubled Youth 1 FINANCE Industry Average Target Range /Budget Current Period YTD Last Period YTD Previous Periods LIQUIDITY: Days of unrestricted cash 100 100 65 85 etc Operating Cash to Current Debt Ratio 0.5 >0.40 0.30 0.35 etc Receivable Period (days) 30 <30 25 27 etc LONG-TERM SOLVENCY: Total debt-to-asset ratio 0.14 <0.14 0.15 0.14 etc FUNDING: Individuals n/a >500 538 419 etc Foundations n/a >200 148 323 etc Corporations n/a >70 89 71 etc Government n/a >200 101 213 etc Sales/Service Income n/a >400 421 405 etc Investment Income n/a >20 30 20 etc TOTAL n/a >1390 1327 1451 etc Donor Dependency Ratio 0.84 < 0.80 0.75 0.78 etc Fund-raising Cost Ratio 0.10 <0.12 0.11 0.1 etc

A Dashboard Example (cont.)

WARNING WATCH OK

Ranch for Troubled Youth 1 FINANCE (cont.) Industry Benchmar k Target Range /Budget Current Period YTD Last Period YTD Previous Periods PROGRAM EFFICIENCY Program Output Ratio 0.81 >80 0.83 0.82 etc Expenses: Personnel n/a <870 896 852 etc Occupancy n/a <170 173 169 etc General & Administrative n/a <150 156 152 etc Marketing & Promotion n/a <160 145 160 etc Program Materials & Other Costs n/a <15 23 12 etc Depreciation n/a <50 53 49 etc Total Expenses n/a <1415 1446 1,394 etc Et Cetera (customize to your organization, based on your unique mission and metrics)

 Charity Navigator, www.charitynavigator.org  American Institute of Philanthropy, www.charitywatch.org  MinistryWatch.com www.ministrywatch.com  Better Business Bureau Wise Giving Alliance, www.give.org  GuideStar, www.guidestar.org  Independent Sector, www.independentsector.org  National Association of State Charity Officials, www.nasconet.org  National Center for Charity Statistics, www.nccs.urban.org  Forbes, http://www.forbes.com/top-charities/list/

Bruce Toews, CPA/MBA/ABD Tel 509-527-2376

bruce.toews@wallawalla.edu