A number of relief organizations that are providing South Asia earthquake-tsunamis aid are highlighting what we call efficiency ratios on their websites. All of these ratios compare administrative and/or fundraising expenses to total revenues, or some variation thereof. You are suppose to believe that the charity in question is more efficient as the percentage of administrative and/or fundraising expenses declines as a percent of total revenues. Don't...
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buy into that logic. Here are the problems with it:
A. No Uniform Chart of Accounts. Charities don't use a uniform list of accounts so comparisons between organizations are meaningless because revenue and expense classification is not consistent across organizations.
B. Different Fundraising Patterns. One charity may have particularly high fundraising expenses for a given year because it is in the middle of a capital drive while another charity may have completed a capital drive two or three years ago. To make sort of meaningful comparison, you should do a five or ten year average to eliminate the effect of timing differences.
C. Broad Discretion When Making Allocations. Ask any accountant about allocation formulas. Management has a great deal of discretion when it comes to designing these formulas. One organization may decide to classify the salary of its general counsel as management expenses. Another may attempt to allocate it to specific programs. Apply those sorts of variations across multiple revenue and expense accounts and you don't have apples and oranges when you make comparisons--more likely you have apples and an elephant.
D. Administrative Expenses Buy Something of Value. Higher administrative expenses may actually be a good thing. Sure, you want all your money to go to feed and clothed those people you saw on the news last night, but if half of your money is stolen because the organization has poor internal controls, then maybe you would have been better off giving money to the organization that had slightly higher administrative expenses, but which has zero thefts. This is particularly important when an organization is making grants to other organizations.
E. Variation in Operations. Some of the relief organizations have people on the ground in the disaster area. Others simply collect goods (e.g., in-kind contributions from pharmaceutical companies) and ship them to the disaster area. Still others contract with local non-profits in the disaster area. Each type of organization provides legitimate and vital services, but each will have an entirely different cost structure, making efficiency comparisons very difficult and suspect.
E. Indirect vs. Direct Aid. If you look at information taken from the Form 990 IRS filings for each charity, you will notice that charities are required to distinguish between expenses they incur in accomplishing their mission and grants they make to others who actually perform services “on the ground.” see, Form 990, Part III. This distinction has important implications for those of you who focus on administrative expenses. We have seen many relief organizations post their administrative expenses/revenue ratio prominently on their web sites. The numbers generally ranged between 2% to 9% (administrative expenses to total revenue), with the implication being that the remaining money (less fundraising expenses) funds THE MISSION.
But where a U.S.relief organization is making grants of 80% of its total expenditures to foreign organizations, does that 9% number take into account the administrative expenses incurred by each of the local grantee organizations? If not, possibly 20% or 30% of your contribution may be covering direct and indirect administrative costs. While we haven’t gathered any empirical evidence, we suspect that the local agencies may have higher administrative/revenue ratios because they will tend to be smaller, thereby lacking some economies of scale. Our point: You need to ask questions about these indirect administrative expenses if this is important to you.
We prepared the following calculations based on the most recent FORM 990s (IRS annual tax return for charities) filed by the named organizations and posted on the Guidestar website.
Organization Efficiency Ratio Grants/Total Program Expenditures
Action Against Hunger 10.86% 0%
American Friends Service Comm* 8.48% 0%
American Jewish Distri. Comm. 6.55% 8.99%
American Jewish World Service 6.35% 56.57%
American Red Cross 5.79% 10.91%
Americares .36% 96.95%
Care 4.15% 16.12%
Catholic Relief Services* 1.97% 19.21%
Direct Relief International .43% 97.99%
Doctors Without Borders 1.67% 90.65%
International Medical Corps 4.81% 0%
Lutheran World Service 4.52% 83.80%
Mercy Corps 5.97% 47.74%
Operation USA 1.47% .65%
OXFAM America 5.45% 53.83%
Save the Children 3.29% 21.24%
U.S. Fund for UNICEF 3.45% 97.84%
Efficiency Ratio = Management Expenses(Line 14) Expenses Line 12) as a Percent of Total Revenue (Line 14). References are to Form 990.
Grants/Total Program Services = Grants to Other Organizations (Part III) as a Percent of Program Services (Line 13). References are to Form 990.
* Data Taken from Annual Report because the Organization Doesn't File a Form 990.
OUR EXPECTATIONS: Our hypothesis was that as the percentage of grants to other organizations went up, the percentage of management expenses to total revenue would go down. However, we thought that the decline in management expenses should be less than would we would have initially assumed because it does take money and people to effectively monitor other organizations. In some cases, the numbers supported our hypothesis. Take a look at Americares and Direct relief International, for example. However, in other cases, the numbers don't make a lot of sense. Take
American Jewish World Service, which looks inefficient but probably isn't.
To test our analysis further, we ran a linear regression analysis and it showed that the correlation between the two numbers is by and large, statistically insignificant (R Squared as .2562, reflecting a weak correlation).
This analysis should further demonstrate why the efficiency percentages being tossed around by relief organizations are very suspect. If you use these numbers, use them as a starting point to focus your questions. There will be many cases where there will be a logical explanation for what initially appears to be a poorly run relief organization. You would be must better served reviewing our prior post showing exactly what each relief organization is doing with the money it collects.
LESSON FOR ORGANIZATIONS: In our Guide, Avoiding Trouble While Doing Good, a Guide for the Nonprofit Director and Officer, we note that the Form 990 is the public face of the organization. If any of the above organizations don’t like the way we portrayed them, they have no one to blame but themselves. People are looking at Form 990s because these forms are now widely available. Every organization should devote sufficient time to the preparation of its Form 990 so that the form clearly states the facts, eliminating any potential interpretative questions. Every organization produces its own Form 990, and every organization should be willing to live with what it produces.
LESSONS FOR DONORS: As should be clear by now, you should do your homework before making a contribution to any charitable organization. If you are not permitted to earmark your contribution, make sure that you want to fund the other types of relief services provided by the organization that you have decided to fund.
Don’t get too hung up on administrative and fundraising expense ratios. Remember, if you worked for a relief agency and had a family to support, you would want to be paid. It costs money to administer programs and target relief, particularly when an organization has to be concerned about theft of supplies and money. To the extent you do focus on administrative expenses, be sure to distinguish between those organizations that provide direct relief and those that use local recipient organizations. You should be asking questions about whether the administrative expense calculations for the relief organization also include the administrative expenses incurred by grantees.
Be wary of newly-formed charities. We wrote a post several months ago on what to consider when starting a new charity. That post has received a large number of hits since the South Asia earthquake-tsunamis. Undoubtedly, some of the people wanting to start a new charity are well intentioned. However, we suspect that many of these new charities will not get off the ground, but will consume monetary resources that should go to organizations experienced in providing relief. And then there will be the scam artists who start new charities to steal money from the public.
If you do decide to make a contribution, make it with cash (church collection plate--even then, use a check), a check, or a credit card. Do not send goods to a relief organization. In kind donations (unless they are coming from a large corporation such as a pharmaceutical company), create logistical problems for relief organizations. Furthermore, relief organizations prefer to buy goods and services locally because local purchases help damaged economies recover and provide culturally appropriate goods. Someone in Sri Lanka doesn't need your old winter coat.
FOREGOING IS NOT AND SHOULD NOT BE TAKEN AS LEGAL ADVICE. IF LEGAL
ADVICE IS REQUIRED, THE NON-PROFIT OR OTHER PARTY IN QUESTION SHOULD
SEEK THE ADVICE OF QUALIFIED LEGAL COUNSEL. |
If you liked this post, please visit http://www.charitygovernance.com for a description of our Guide/Tutorial for non-profit directors and officers entitled “Avoiding Trouble While Doing Good: A Guide for the Non-Profit Director and Officer.”
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