What we learn when a nonprofit closes its doors…

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A year after the largest human services provider in New York City suddenly collapsed and closed its doors after 80 years, we can learn valuable lessons through two “post-mortem” reports. The first, by the Human Services Council (the HSC report), performs a detailed autopsy specific to the organization that closed its doors:  the Federal Employment & Guidance Service (FEGS).  The second report, that focuses on financial risk management, (the Risk Management report), provides an analysis of the broader context of why such an important provider of services ranging from mental health and disability services, to housing, homecare, and employment services, for over 120,000 households and individuals, was unable to survive.

What can we learn from these reports? First, no nonprofit is “too big to fail.” FEGS was a $250 million operation employing 1,900 employees that was also subject to over $47 million in loans/liabilities/debts. (When it closed its doors, all 1,900 employees lost their jobs and over 120,000 households and individuals that relied on FEGS’ services were affected – some able to be transferred to other service providers, others not.) Second, many of the symptoms of impending collapse went unnoticed – or under-noticed – by board members, donors, and by the city and state agencies that contracted with FEGS to provide services to those households/individuals. Third, these same symptoms are not unique to FEGS’ situation, or even to large, human services organizations located in New York City. In fact, the Risk Management report highlights how fragile the entire human services sector is, and concludes, consistent with the HSC report, that the same concerns that brought FEGS to its knees are all-too common in organizations of all sizes.

Human services organizations, such as Meals on Wheels, often contract with city or state governments that don’t pay them on time, and/or may pay only a portion of the full cost of the services provided by the nonprofit. The Council report explains, “We cannot continue to take on endless government contracts that do not pay the real costs of service, nor should we…. If contracts and grants do not pay adequate rates or involve significant hurdles such as unfunded mandates or unjustified metrics, the programs cannot be as effective as they could be, and for too long nonprofits have filled the gap. Now, the gap is too large. Providers have to say no, not only to shed light on funding issues, but because these chronic issues eat away at the fabric of the human services delivery system.”

The collapse of FEGS, a raw reminder of the broken government/nonprofit contracting system, is a clear warning to nonprofit board members that they are responsible for a stark choice: Either make sure the nonprofit has enough funding to cover its full costs, or stop accepting under-funded government contracts to provide services that communities and individuals depend on, but will lose if the nonprofit goes under. Board members have a fiduciary duty to ensure that nonprofits have the financial resources needed to operate. This duty requires board members to be aware of a nonprofit’s ongoing costs, as well as the margins between those costs and its income. Unless nonprofits are negotiating for full cost recovery, or intentionally subsidizing programs that lose money with other funds, continuing to operate a leaking bucket leads to only one possible outcome: eventual closure.

The authors of the Risk Management report recommend that all boards should focus more on financial risk management in order to reduce the risk that their nonprofit will end up in a “distressed” financial situation, like FEGS. The authors also recommend steps such as, scenario planning, benchmarking, self-assessments, and setting goals for financial stability. Scenario planning can be as simple as keeping a running list of major risks, indicating the likely financial loss should the “worst case” scenario come to pass. Just as all nonprofits (and boards) should regard leadership transitions as a natural phase of an organization’s life cycle and plan accordingly, “continuity planning” plays a similar role to ensure that operations and activities can go forward as much as possible during a crisis. The report offers this advice about board members: “Organizations serious about risk management must redouble their effort to recruit trustees with a wide range of experience…Trustees cannot participate in intelligent risk management unless they understand important contracts…they also must know the distinction between direct/indirect and allowed/disallowed costs.”

These recommendations may sound like a tall order but there are resources to help your board along the way.  Here are 5 basic financial risk management steps:

  1. Make sure the board is reviewing financial reports on a timely basis, rather than months after the financial status described in the reports.
  2. Make it obvious in financial reports if there is a gap between expenses versus revenue, and make sure board members don't shy away from addressing the gap.
  3. Adopt written financial policies. The Nonprofit Assistance Fund advises: “Developing and adopting a written financial policy is a valuable practice for any nonprofit organization, no matter how small or large. Financial policies clarify the roles, authority, and responsibilities for essential financial management activities and decisions. In the absence of an adopted policy, staff and board members are likely to operate under a set of assumptions that may or may not be accurate and productive.”
  4. If the nonprofit has contracts with government(s), help board members Know Your Rights to reimbursement of indirect costs.
  5. Plan a discussion at an upcoming board meeting about the importance of understanding the nonprofit’s costs #OwnYourOwnCosts

For ongoing education and professional development for staff and board about financial management, investigate the resources available through membership in your local state association of nonprofits

Find Your State Association of Nonprofits

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