Faced with a constant stream of requests, funders have developed multifarious ways of working out which charities to give money to. But whilst they rely on different approaches in order to manage this process, part of the criteria will invariably focus on the financials of the charity – and rightly so.
Many charities survive on a hand to mouth basis, dipping into reserves, economising on everything and still managing to deliver excellent services. Funders need to see the potential in charities that fit this description and support them through tough times. I’ve worked with funders who do just that and others who run a mile. As a former charity treasurer, I urge funders to take the time to talk to charities and listen to their account of the financial processes and plans for a bigger and better run charity in the future.
Of course, it isn’t always that simple, which is why we’ve written a guide to charity financial analysis. Keeping account: a guide to charity financial analysis recommends asking four key questions when assessing a charity’s financials. Is the charity financially sound? Are their good processes for financial management? Are financial resources used efficiently? What are the unit costs of activities?
The report also highlights areas where we think funders could take a more enlightened approach. The first of these focusses on overheads. Some funders set an arbitrary limit on the amount that can be spent on overheads per programme, which sends the message that charities should not be investing in good systems, processes, staff and training. Truth is, overhead costs are not a predictor of what a charity can achieve, but quite simply a necessary part of running a charity effectively. Charities that trim these functions to the bone – often to seem attractive to funders – might struggle to run their operations well. And so funders should be prepared to either directly fund or provide grants for overheads, or, when assessing budgets, be willing to allow charities to price for full cost recovery.
Funders should also be more flexible in the area of reserves. Charities need reserves; the level that each charity requires will vary depending on its activities and the nature of the contracts it undertakes. It’s too easy to randomly fund those with reserves less then X and not fund those with reserves greater than Y. Funders must look for the charity’s reserves policy in its annual report, which should explain the rationale behind the level of reserves held. It might make sense to have larger reserves if saving for a significant investment, but if a charity consistently fails to spend its income on mission by a significant margin, doubts will be raised.
And finally, funders should try and avoid placing extra burden on charities, especially in relation to cash flow. Funders need a good understanding of the cash flow position of potential grantees, which requires a look at the management accounts, and should not add risk to charities by paying in arrears or paying late. It’s well worth the extra effort since cash flow problems sink many a small charity.
A charity’s finances are hugely important – but, of course, it goes without saying that there are other areas to focus on too when analysing a charity, such as activities, results and leadership, outlined in our Little Blue Book.
Abigail Rotheroe is a consultant at NPC.