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nff.org ©2017 Nonprofit Finance Fund®
Nonprofit Finance Fund®
Philanthropy California Full Cost Project:Understanding Full Cost
Presented by
Claire KnowltonDirector
San Diego | 213 623 7001November 3, 2017
1nff.org ©2017 Nonprofit Finance Fund®
Nonprofit Finance Fund: Where Money Meets Mission
We unlock the potential of mission-driven organizations through
• Tailored investments
• Strategic advice
• Accessible insights
Guided by our Core Values
NFF envisions a world where capital and expertise come together to create a more just and vibrant society.
NFF’s Values
Responsive-ness
Leading By Doing
Generosity of Spirit
Rigor Without Attitude
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The Theory Behind Today’s Workshops
Technical Cultural
Nonprofits and funders share the same goals, but our
funding system is broken
Philanthropy, nonprofits and government have roles to
play in the solution
Real, lasting change requires meaningful shifts in both
technical and cultural practices
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Today’s Goals
Define the problem
Understand how a full cost funding approach makes
better use of limited philanthropic resource
Identify our role in the solution
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In the for-profit world:
“Rules” of FOR-PROFIT Finance
Customer buys the product►
Price includes the full cost of doing business
►
Overhead and profits are seen as necessary and regular part of the business
►
Direct
Cost
26%
(77¢)
Overhead
& Profit
74%
12-ounce latte = $3.00
Source: Matt Milletto, Vice President of the American Barista & Coffee School
► Investors prioritize return (outcomes) over expense allocation (inputs)
In other words…
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Transactions in the Nonprofit World
Nonprofits fill a market gap to meet needs
without financial return
Transactions are more complex
Recipient can’t pay full price; third parties must
pay the difference leading to two challenges:
Nonprofits must work to secure third party
funding to deliver programs
Third parties have no direct feedback loop to
assess value and quality of nonprofit programs
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There is No Direct Feedback Loop for Donors and Funders
Customer buys the service
Business provides
the service
Customer uses the service
Customer evaluates experience
For-profit transactions are easily assessed
Nonprofit transactions do not connect payer and service
Nonprofit provides
the service
Donor pays for
the service
Recipient uses the service
Nonprofit / Funder interactions try to make up for absent feedback loop
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Reorient the Sector From Compliance to Impact
Nature of nonprofit transactions create inherent lack of
trust creating a broken funding system
Overhead myth
Wasteful compliance demands
Solution: Interrupt and intervene. Outcome/ impact of
services provided is a better accountability measure
Recognize we aren’t there yet. Without adequate
resources, most nonprofits haven’t been able to invest in
the systems and people that measure outcomes
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Nonprofits Need Profits:Understanding Full Cost
Nonprofits need to cover the full cost of delivering mission
Nonprofits have heard “no” for
so long, many don’t calculate or
ask for full cost needs
Failure to fund full costs
undermines health of the sector
and ability to deliver outcomes
Most full cost needs are met by
generating year-over-year
surpluses
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About Expenses
Expenses
Found on the income statement
Include:
Operating and non-operating expenses
Depreciation
Ongoing cost of impact measurement and
some upfront costs of impact measurement
‘Direct’ program expenses
‘Indirect’ / ‘overhead’ expenses
Unfunded expenses
Total Expenses are NOT
Any purchase that is capitalized
Repaying debt
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Defining ‘Unfunded Expenses’
Unfunded Expenses = Expenses that are not currently incurred, but, if covered, would allow the organization to work at their current level in a way that is reasonable and fair.
‘Sweat equity’ – overworking and underpaying staff – is the
most common example, such as:
The gap between current wages and fair wages for the
exact same amount of work.
The cost to hire a 20hr/week assistant that would allow
the ED to reduce her time from 60hr/week to 40hr/week.
Other examples: sub-par supplies, slow internet
Unfunded expenses are NOT
Expenses to expand or do more.
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About Working Capital
Working Capital
Dollars to cover predictable timing of cash
ebbs and flows
Dollars to continue business operations if
receivables are late or bills must be paid
early
Needed by all organizations
Amount needed varies by organization
Easily accessible to management (i.e. in the
checking account, not restricted or strictly
designated)
Connected to cash flow planning/projections
Working Capital is NOT
Dollars to cover lost revenue, unplanned
expenses, or deficits
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About Reserves
Reserves
Dollars used and eventually replenished
Often board designated
Example of intended uses
Operating reserve to protect the organization
from risk by covering short-term deficits
– Lost funding, unexpected expense,
leadership transition
Facilities reserve to maintain building and
equipment, pay for repairs/replacement
R&D reserve to allow for trial and error
– Artistic risk; test new program approach
Investment reserve to generate revenue
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About Reserves (continued)
Reserves
Reserves are need by all, but size and purpose
varies by organization
Accessible to management under certain
conditions
May require board approval to spend
May be held as cash in savings account, or as
investments that can be liquidated in a
reasonable timeframe
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About Debt Principal Repayment
Debt Principal Repayment
Dollars to pay down debt
Debt can be
Line of credit
Mortgage
Loans from board members
Other forms of borrowing
Debt can be a valuable financing tool, but there
must be a plan to repay it
Repayment is commonly financed through year-
to-year surpluses
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About Fixed Asset Additions
Fixed Asset Additions
Purchase of new equipment, buildings,
furniture, land, leaseholder improvements,
etc.
Fixed Asset Additions are NOT
Replacement or simple maintenance of
existing fixed assets
Save for replacement in reserves
Small equipment purchases that won’t be
depreciated
Small purchases are expensed
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About Change Capital
Change Capital
Periodic reinvestment in organization to change
its business model (how it makes and spends
money in service of mission)
Covers up-front costs of change and deficits
until new business model revenue exceeds new
business model expenses
Includes launch/scale of subsidy businesses
to sustain the organization
Typically large, flexible, multi-year funding
from an external source
Change Capital is NOT
Self-funded, organic growth
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How Change Capital Supports Business Repositioning
Start-Up Proof of
Concept
Expansion Sustainable
Operations
$
Recurring Revenue
Expense
Start-Up ExpansionProof of Concept
Fully Funded Operations
Business Model Revenue
Expense
Goal: Generate surpluses for current capital needs, future change and resiliency
Business Model Deficits: Incurred on route to new business model, paid for with change capital
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Defining Two Different Types of Money: Capital & Revenue
There are two flavors of funder money:Capital and Revenue
They play different roles in an enterprise
Capital is for Change (adaptation, growth)
Revenue funds Regular operations
(routine)
Both Capital and Revenue are necessary for mission success
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Revenue
Funds to do what the organization already does
Pays for day-to-day operating expenses and margin to
contribute to other full costs (i.e. working capital, reserves,
debt repayment)
Recurring in nature
Capital
Funds to change what the organization does
Growth (launch or scale a program, expand to new places)
Improving or launching a subsidy business
Buying/renovating space
Significant investment in IT, HR, fiscal, etc.
Retrenchment/downsizing/merger
Episodic in nature
Revenue and Capital Pay for Different Needs
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Builders and Buyers
Buyers provide REVENUE Builders provide CAPITAL
RoleI’m supporting a program that seeks to improve high school graduation rates in the inner city.
I’m providing the funds you need to replicate your program in two more schools.
ExchangeHere’s $25,000. How many after-school sessions will that support next year?
Here’s $2 million. How long until your revenue is able to cover operating expenses in those schools?
SuccessGraduation rates were on target and I’d like to support the same program next year.
Congratulations! You don’t need my money again for a while.
Accountability
StraightforwardDid you do what I paid you to do?
ComplexThis is a journey together, adjusting strategy along the way, to build a enterprise that prompts other people to participate in the buyer role.
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Total ExpensesOperating, non-operating, and unfunded expenses
Working CapitalAccess to cash for day-to-day needs
ReservesSavings, a “rainy day” fund
Debt Principal RepaymentMortgage, line of credit, etc.
Fixed Asset AdditionsMoney to purchase a new building, or computers
Change CapitalResources to adapt, grow, and/or expand
‘Must haves’ for all organizations
Full Cost Needs Vary; Three ‘Must Haves’ Apply to Every Organization
Sometimesneeded by someorganizations
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Common Concerns and Objections
Does this mean I pay more and get less?
We fund programs.
Full cost doesn’t apply
to us.
My foundation has policies
against funding certain things.
Does this mean I give fewer grants?
How am I supposed to calculate the full
cost of my grantees?
What about bad actors?
How will I know our funds are being used as
intended?My grantees don’t measure
outcomes.
23nff.org payforsuccess.org ©2017 Nonprofit Finance Fund®
How to Be a Good Buyer
Due Diligence
Ask for routine documents already produced by the organization: standard plans, reports, budgets, and data/evidence on the organization’s standard schedule
Costs Funded
Fair share of full cost
Fund average price per outcome or output rather than ‘direct expenses + % of indirect expenses’
If your systems require an indirect rate, improve your definition of indirect to other components of full cost
Measuring Success
Measure value to the community served: outcomes are best, outputs can be used if outcomes are not yet measured
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24nff.org payforsuccess.org ©2017 Nonprofit Finance Fund®
How to Be a Good Builder
Due Diligence
Ask for plans for change, who are the other builders, and negotiate upfront on data collection and reporting schedules
Costs Funded
Highest priority full cost needs to achieve agreed upon goals
Measuring Success
Extent to which organization met the agreed upon goals (i.e. expansion, change in programs, ability to generate buy revenue)
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11%
9%
19%
20%
32%
53%
0% 20% 40% 60% 80% 100%
Working capital (cash flow needs)
Felxible capital for change/growth
Acquiring or renovating a facility
Multiyear funding
General operating support
Expanding programs
What Do Nonprofits Feel They Can Discuss With Funders?
Asking Nonprofit Leaders: My NPO can have open dialogue with funders about...
Source: NFF 2014 State of the Sector Survey
Flexible
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40%
47%
51%
65%
70%
85%
11%
9%
19%
20%
32%
53%
0% 20% 40% 60% 80% 100%
Working capital (cash flow needs)
Felxible capital for change/growth
Acquiring or renovating a facility
Multiyear funding
General operating support
Expanding programs
Funders Report More Openness Than Nonprofits Perceive
Asking Nonprofit Leaders: My NPO can have open dialogue with funders about...
Asking Funders: Overall, are you willing to engage in an open dialogue with nonprofits on funding for these purposes?
Source: NFF 2014 State of the Sector SurveySource: Grantmakers for Effective Organizations 2014 Survey
Flexible
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nff.org ©2017 Nonprofit Finance Fund® 27
Claire KnowltonDirector, Advisory [email protected]
Thank you
To learn more about NFF, visit us at nff.org
Nonprofit Finance Fund®
For more information and resources on full costs, visit fullcostproject.org