Last Friday, Gene was on Nonprofit Radio discussing examples of good and bad overhead following host Tony Martignetti’s interview with the three signatories to The Overhead Myth letter. The growing rejection of the myth that overhead is a good way to measure a charitable organization’s value is a promising trend. The overhead myth has long contributed to nonprofits under-investing in critical aspects of their organization and operation solely to appease donors and board members who bought into the popular longstanding myth.
This is not to say that overhead ratios are unimportant. But, the numbers should be interpreted within the larger context of how the organization is functioning.
As Gene noted on the program, some types of overhead may be better than others. Good overhead expenses effective and efficiently advance an organization’s ability to further its mission with consideration of intergenerational equity. Higher overhead ratios, relative to comparable organizations or historic figures, may be justifiable where the organization is building structures and systems to increase its effectiveness and/or efficiency, or to resolve problems that have arisen or previously been unaddressed. Bad overhead expenses do not advance an organization’s ability to further its mission or do so only in an inefficient, non-strategic manner. With recognition that there may be exceptions based on an organization’s unique facts and circumstances, here are some examples:
A strong organization ensures that its board, executive, staff, and volunteers are empowered with the information required to do their jobs well. It is far too common for organizational leaders to lack experience in critical areas of governance and management and to allocate insufficient resources for their development. Generally, an organization can only go as far as its leaders take it, so it’s imperative to properly equip such leaders. Investing in the continual education of staff and volunteers will help them perform their duties better, improve recruitment and retention, create opportunities for innovation, and build an attractive organizational culture.
Compensation reflective of the organization’s values
It’s important for organizations to be mission-driven, including in how they determine their compensation structures. Market rates may sometimes be so low as to be below what may be perceived to be a livable wage threshold. Particularly in such cases, organizations should consider whether paying above the market rate is important in espousing its values and ultimately in furtherance of the mission.
A strong organization is guided by sound policies that help improve its operations, prevent costly mistakes, and keep it legally compliant. Examples of important policies for a nonprofit include those covering: conflicts of interest, document retention and destruction, whistleblowers, gift acceptance, expense reimbursements, contract approval, check-signing, internal controls, investments, employment, social media, and intellectual property.
A strong organization recognizes that “an ounce of prevention is worth a pound of cure” and places value on protecting its leaders, employees, and volunteers. Assessing risks with the help of experts through legal, accounting, and program audits may be invaluable in mitigating risks, preventing waste, and finding new areas of efficiency.
Technology (including information technology)
A strong organization invests in tools that help advance its ability to further its mission. Dated technology may be more expensive to maintain, create inefficiencies in productivity, and hinder or prevent expansion. New technology may allow for more effective and/or efficient ways of delivering services, receiving feedback, mobilizing advocacy efforts, measuring and analyzing impact, communicating with donors and other supporters, and finding new donors.
Building engagement and collaboration
A strong organization engages its staff, board, volunteers, allies, and communities. If an organization’s most valuable asset is its people, sufficient investments to recruit and retain the best people for the job are critically important. This relates to compensation, training, communications, workspace, job flexibility, and appreciation among other things. External communications should reflect the values and professionalism of the organization. In budgeting for such efforts, an organization’s leaders must consider the value it places on its public reputation, goodwill and transparency. Such communications may be tremendously important as building blocks for future collaborative efforts, something every organization should be exploring.
Most charitable nonprofits rely on their fundraising activities to provide the resources necessary to provide goods and services to their intended beneficiaries. This requires an investment, but what is a responsible amount to allocate to fundraising is not easily defined. For example, most people would likely have no problem with an organization spending 10 cents in fundraising to earn a dollar. But those same people might take be turned off if the organization spent 90 cents in fundraising to earn a dollar even if it still resulted in a net benefit to the organization. Yet, if the 90% fundraising expense was incurred only in the first year of developing and implementing a new campaign (e.g., $9,000 was spent on developing an Internet fundraising page which resulted in $10,000 in donations), perhaps it’s an entirely reasonable and defensible expenditure, particularly if in a subsequent year a smaller amount of fundraising expense resulted in a much higher amount in donations (e.g., $2,000 was spent on the fundraising page in the second year which resulted in $50,000 in donations).
Certain insider transactions
Insider transactions that are intended to benefit insiders (board members, officers, executives) more than the organization’s beneficiaries may be unlawful. But even when they’re not, and even if such transactions merely give the appearance of benefiting insiders more than beneficiaries, an organization should think carefully and consider alternatives before proceeding.
Extravagant expenses resulting in trivial benefits
What is extravagant? What is trivial? Smart organizations will consider these questions from the perspective of their donors and other stakeholders before spending. For some organizations, business class travel or a $500 daily hotel bill may be acceptable in certain circumstances; for others, it might be considered outrageous and severely harm the organization’s reputation and image.
Expenses that further some cause other than your mission
There are many worthy causes, but a charitable organization is legally bound to advance its own stated mission. Chasing grants is a common reason for mission creep that can result in inappropriate expenditures of resources.
Co-authored with Gene Takagi. Updated February 7, 2016.