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OVERTURNING OVERHEAD!

By Ann Lehman, Principal, Zimmerman Lehman, with excerpts form Boards Members Rule: How to Be a Strategic Advocate for Your Nonprofit.

All I can say is wow! All I can say is wow! My jaw dropped when I saw that the use of overhead as a measure of nonprofit accountability and success may soon be history, and I'm even more surprised it did not get more mainstream headlines. In case you missed it, the big three (Charity Navigator, BBB Wise Giving and Guidestar) signed a joint letter recently that says, "The percent of charity expenses that go to administrative and fundraising costs—commonly referred to as "overhead"—is a poor measure of a charity's performance." I honestly cannot believe this. It is something I have been complaining (some might say ranting) about for years. Throughout the nonprofit sector, there have always been wide discrepancies in how this information is reported and I have never ever felt it measured much more than how good you were at reporting your numbers. That being said, these same three organizations for years have helped propel the myth that overhead was the holy grail of nonprofit efficiency and effectiveness.

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Overhead expenses are a poor measure of a nonprofits performance....
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In Zimmerman Lehman’s 2007 Board Manual Board Members Rule, we wrote “While many factors could and should be looked at to ensure prudent financial accountability, the current trend for funders and donors (exacerbated by the media) has been to scrutinize nonprofits’ budgets, specifically regarding the ratio of spending on programs compared to spending on administration and fundraising (i.e., overhead).” And that was the message toned down for publication.

Perhaps it would be useful to review exactly what an overhead expense is.  Here is an excerpt that explains problems that have been encountered in the past, and that will remain problems, with the public until word is spread about this new phenomenon. Using a simple budget:

• Program: these are expenses, such as staff, that pertain to the services or program you offer (e.g., homeless shelter, dance performance, policy work etc.)
• Expense = $75,000
• Administration: these are expenses connected to management of the organization (e.g., executive salary or a portion thereof, board expenses, finance staff)
• Expense = $20,000
• Fundraising: these are expenses incurred in raising funds for the organization (development staff, fundraising letters, etc.)
• Expense = $5,000

An example of how to calculate overhead:

• Program costs               $75,000 plus
• Administration costs       $20,000 plus
• Fundraising costs           $5,000 plus
• Total                              = $100,000

Overhead Percentage:

Administration plus (+) Fundraising divided by (/) Total Costs 
$20,000 + $5,000 / $100,000 = 25%

Twenty-five percent was considered a “normal” amount of overhead to have for a non-profit, but the amounts often range from 10% to 45%, with a number of factors accounting for these variances. While it may sound good, in theory, to have a low overhead within a nonprofit organization’s budget, it can spell trouble. For example, it could mean that too little attention is being paid to the proper management of the organization (e.g., you don’t have sufficient financial staff). Low overhead percentages could also mean the percentages are being reported incorrectly (e.g., many organizations mistakenly or purposely mislabel administrative costs as program expenses) or that you have had only one government contract for years (e.g., it generally does not cost as much to administer one long-term contract as it does to raise funds for several new programs).

Let’s all start the critically important work of alerting the public of the words of the big 3 nonprofit raters, “When we focus solely or predominantly on overhead, we can create what the Stanford Social Innovation Review has called ‘The Nonprofit Starvation Cycle.’ We starve charities of the freedom they need to best serve the people and communities they are trying to serve…. So when you are making your charitable giving decisions, please consider the whole picture. The people and communities served by charities don’t need low overhead, they need high performance.”

WHAT SHOULD WE MEASURE?
Accountability, in Zimmerman Lehman’s view, should include assurance to the community that services and programs are effective. This includes the quality of services, the professional standards you are meeting, and being efficienct. How does your organization measure up using these measures?

• Accountability governance standards
• Transparency - what it means today?
• How does one measure success?
• Value statements and code of ethics
• Nonprofit conflict, whistleblower and document destruction policies.

Copyright 2013 Zimmerman Lehman.

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