Not-for-profits can become more resilient by spending more on fundraising and admin

Should they spend as much as possible on meeting the immediate needs of people who need help? How much of their budget is appropriate to spend on new equipment, skilled managers and everything else required for an organisation to thrive and endure?

To help not-for-profits tackle this quandary, we teamed up with two other business professors, Arian Aflaki and Goker Aydin, to develop a mathematical model to guide nonprofits on how to divvy up their spending to optimise both current performance and future resilience through their spending priorities.

Having observed how charity watchdogs like Charity Navigator rate not-for-profits, our model takes into account that spending more on core programs leads to increased funding for a not-for-profit. In consultation with the Indiana Hoosier Hills Food Bank, we also studied the relationship of administration costs with a nonprofit’s capacity, which comprises the organisation’s infrastructure, equipment, staff and other resources. This capacity is crucial for the not-for-profit’s ability to meet its immediate and future needs.

Building on this, our research challenges the conventional wisdom that not-for-profits should allocate nearly all of their budget to program costs. We found that striking the right balance depends on an organisation’s existing capacity.

Our model indicates that new organisations and groups that are operating on small budgets need to spend a larger share of their revenue on administrative costs than larger, more established not-for-profits. This investment lays a solid foundation for long-term resilience and ensures they are better equipped to serve their beneficiaries.

As not-for-profits grow and establish some level of capacity, the emphasis should then shift to fundraising. That approach allows them to gather the funding necessary to maximise their existing capabilities. Importantly, the share of spending for administration or fundraising should align with the organisation’s anticipated future needs.

For instance, if a not-for-profit expects to take on larger projects or greater responsibilities in the future, it would be prudent to increase administrative spending now to prepare for those challenges.

Why it matters

Administrative costs, also known as overhead, encompass salaries, training, infrastructure, equipment and upkeep.

Donors and grantmakers often pressure not-for-profits to devote as much of their budgets as possible to providing services, generally known as a not-for-profit’s program. Many funders even set admin and fundraising caps in grant agreements. These well-meaning practices can compel nonprofits to scrimp in ways that make them less effective.

After years of investing too little money in, say, computers and professional development, not-for-profits eventually have to pivot and devote more money to those neglected needs. Once their financial health is no longer shaky, those groups tend to cave again to their donors’ concerns, cutting their budgets for fundraising and administrative activities.

Scholars of not-for-profit management have sounded the alarm about this “starvation cycle,” for two decades. But there are some signs that this loop might be breaking.

Big donors like the Ford Foundation are now dedicating 20%-25% of their grants to cover overhead – or even providing their support with no strings attached, recognising that for a not-for-profit to be successful it needs to be well managed. Meanwhile, organisations that rate not-for-profits, like Charity Navigator, are starting to broaden their criteria to look at an organisation’s overall well-being and impact, not just how they minimise spending on administration and fundraising.

Rather than neglect urgent spending priorities, some not-for-profits resort to misclassifying certain expenses. That is, they pay for administrative work with money designated as program related in their budgets. This strategy makes financial distress less likely but interferes with transparency and can undermine budget discipline.

What isn’t known

In the future, we plan to collaborate with charity watchdogs to gain their insights on how our evaluation recommendations could be applied to reflect each organisation’s specific capabilities and goals. This will help us understand any limitations and make necessary adjustments for broader use.

The Research Brief is a short take on interesting academic work.

Telesilla Kotsi, Assistant Professor of Operations and Business Analytics, The Ohio State University and Alfonso J. Pedraza Martinez, Professor of IT, Analytics, and Operations, University of Notre Dame

This article is republished from The Conversation under a Creative Commons license. Read the original article.