Churches that contribute money to charities need to first vet the charity to ensure the money is being wisely stewarded. These three metrics can help…
Every year, Forbes ranks the top 100 largest charities in the United States. A local charity in your town won’t be on that list because the charity at the bottom still has a revenue of about $200 million. The biggest have revenues of over $5 billion.
However, you can learn from their evaluation methodology and apply it to charities your church is evaluating. A Forbes article discusses the methodology and provides three objective measures they use for evaluating a charity’s performance.
THREE FINANCIAL CRITERIA
The first financial criterion is what they call Charitable Commitment. It is a measure of how much of the charity’s donations go to the charitable cause compared to management costs, overhead, and fundraising costs.
Forbes cites 65 percent as a minimum from the Better Business Bureau’s Wise Giving Alliance. The higher the percentage here, the better. Organizations that receive a large portion of its donations in the form of goods, services, or time (“in-kind” donations) will usually have larger scores than those that receive most of their donations in cash. One reason for this is that the fair-market value of goods and services tends to be larger than any cash donations people will give. In-kind donations should be consistent with the organization’s mission. A charity that provides food and clothing to the poor, for example, benefits greatly from clothing donations.
The second criterion is Fundraising Efficiency. This criterion measures how much donation money is left over after subtracting the fundraising cost.
For example, if an organization’s fundraising efficiency is 85 percent, that means it costs $15 to raise $100. The math works like this: 1 – (15 ÷ 100) x 100 = 1 – 0.15 x 100 = 0.85 x 100 = 85 percent.
You could invert this figure to come up with a measure of return: $100 ÷ $15 = 6.7. This means the organization generates $6.70 for every dollar they spend on advertising. It may be easier to track and compare fundraising efficiency if you report the figure this way. If the data is kept in a spreadsheet, it also makes it easier to sort and quickly comprehend. People inherently understand “bigger is better,” especially when it comes to fundraising dollars. You want this number to be as high as possible. In the analysis compiled by Forbes, the average was 89 percent, meaning every dollar spent on advertising brought in about nine dollars in donations. The Better Business Bureau uses 65 percent as the low mark. In other words, it expects charities to spend no more than 35 percent of their income on fundraising.
When evaluating the fundraising efficiency ratio, it’s important to understand that different forms of fundraising are more expensive than others, and they also produce different results.
Television or radio fundraising campaigns can be expensive, and most businesses and charities who run them do not implement proper tracking mechanisms so that they can directly link an advertising campaign’s results to its cost. This means they can’t measure how effective their advertising campaigns are.
I don’t think most companies want to know how low of a return their marketing campaigns generate, or else they wouldn’t omit tracking methods. For one, this would not be to the benefit of the marketing companies who promote such campaigns on commission.
Direct-mail campaigns, on the other hands, have historically included feedback methods, such as coupons, so that its sender can measure a campaign’s success. Ask the organization if they are tracking the results of their marketing campaigns and what methods they use, if so.
A general rule: if one organization is tracking marketing campaign returns and another isn’t, then no matter how low the return seems, the organization who is bold and courageous enough to implement tracking is being a better steward of donor money than the one who doesn’t track at all.
If an organization relies almost completely on word-of-mouth, the fundraising efficiency will be almost 100 percent because there will be little to no fundraising cost. This can be a positive or negative. Should the charitable organization be advertising to raise more money so that it can increase its reach and influence? Why isn’t it doing more? This could tell you how motivated the organization’s operators are (very, or not at all). It could also be an indicator that the organization has such a positive reputation that it doesn’t need to advertise to raise money.
You would want to evaluate the fundraising efficiency ratio in conjunction with its total revenue. Big revenue and 100 percent fundraising efficiency could indicate a great reputation (or capture by a sugar-daddy donor). Small revenue and 100 percent fundraising efficiency could imply the organization is not very motivated. Keep the other ratios in mind to get a fuller picture.
The third ratio is Donor Dependency. This ratio measures how dependent a charity is on its donor’s contributions. It is defined as expenses divided by revenues.
A rating of over 100 percent means the charity has more expenses than revenue. The Forbes article gives an example case where a charity’s donor dependency ratio is 86 percent. This means total expenses were 86 percent of revenues, and consequently the organization has 14 percent left over. It can use this leftover to fund more projects.
However, if this ratio is too big, especially year after year, it could be an indicator that the organization isn’t using its charitable revenue to the best of its ability. It is sitting on it for some reason. If it isn’t clear what the reason is, then this is a good question you can pose to the organization.
The Forbes article says the average donor dependency in their list varies from 66 percent to 73 percent. This means the organization saves between 27 to 34 percent of its revenue. Different ratios mean different things:
- Above 100 percent – The organization’s expenses exceed revenue, and therefore it is likely to be highly dependent on donor contributions. This means the donor’s money is more likely to be put to immediate use (just make sure that use is charitable, and not paying salaries).
- Less than 100 percent – its income is greater than expenses and therefore doesn’t need money as badly. Is it begging for money, even though it has plenty? Could be a red flag.
TWO EXAMPLES
Habitat for Humanity is a good example of a charity that applies most of its resources to supporting its cause. According to the Forbes ranking, Habitat for Humanity’s ratios are:
- Charitable commitment = 84 percent
- Fundraising efficiency = 90 percent
- Donor dependency = 78 percent
The Salvation Army is another example to compare:
- Charitable commitment = 82 percent
- Fundraising efficiency = 87 percent
- Donor dependency = 92 percent
You can find the financial information required to calculate these ratios in an organization’s filing of IRS Form 990, mostly in parts VIII (Statement of Revenues) and IX (Statement of Functional Expenses).
WHERE CAN I FIND FINANCIALS FOR NON-PROFITS?
The forms can often be found online at the IRS’s website through its tax-exempt organization search.
You can also find them at third-party organizations like Guidestar and the Nonprofit Explorer by Propublica.
Smaller organizations do not have to file the form if they are below certain IRS revenue and asset requirements. They file an abbreviated form, called the 990-N. Their financials may not be publicly available. Nevertheless, they ought to be forthcoming with the data when you ask them for it.
CONCLUSION
The three financial ratios described in this article can be used as part of an overall assessment program for deacons who need to evaluate local charities.
There are other items to consider, too. These three numbers don’t give the whole picture. But they ought to be calculated if possible. They can also provide a basis for justifying to anyone who asks how and why you recommend the organizations that you do.
It would be ideal to have an accountant who is familiar with non-profit organizations review the finances. They would be able to provide you a more informed assessment of the organization’s financial health. Save his report in the charity’s file in the church.
If challenged on whether you are being a good steward of the church’s money, you will have proof that you are.