We Need a New Business Model for Nonprofit Charities

By | May 10, 2016

Hollywood 001In my tenure as the leader of a community based organization in Southern California, I have seen dozens of small agencies go out of business. Some of these charities performed amazing services for the most needy people in our society. They provided shelter for people living on the streets, counselling for women fleeing abuse, food for the hungry, and support for people lost. They were supposed to be easy causes to raise money for.

One by one, however, these heart-felt, mission-driven nonprofit organizations shut their doors for good. No more food, no more beds, no more counselling.

Why couldn’t they stay in business? Because the business model for operating nonprofit charities is broken.

It used to be that generous people would write checks to their favorite charity. They didn’t have to examine the organization’s 990 tax return, or go onto a charity-tracking website to find out how much money was spent on overhead. They gave because they believed in the mission of the nonprofit group.

Then, some charities took advantage of donors’ trust. They spent donated money unwisely, or embezzled money for personal use.

Rightfully so, donors responded by being more savvy. They decided that charities should only be able to spend on a small amount of overhead. And if that amount got too high (say 15% or 20%), donations dried up.

Today, the success of charities is typically ranked based on how much the group spends on overhead, not on the quality of services or programs. But is evaluating a group’s overhead rate really a good assessment tool?

In my experience, if charities continue to be judged by overhead costs, more will go out of business.

Just imagine being on the Board of Directors of a $1 million per year nonprofit organization. If today’s overhead-perspective guided your charity, then the amount of money that can be spent on overhead would be $100,000 to $150,000 per year (10%-15%).

This overhead budget would have to include the salary of the Executive Director, Finance Director, maybe a Fundraising Development Director, support staff, and the typical administrative costs to keep a building open—rent, electricity, telephone, travel, paper, pencils, and any fundraising costs, like mailings or events.

Such a budget does not add up to $150,000. Unless, as a Board member, you hire Directors who are really low-paid program managers with no expertise in actually running and selling a charity. And, this is why many nonprofits go out of business.

You get what you pay for. Low overhead means low compensation to the staff leaders. Low compensation means low quality leaders who know how to help a person but not run a financially stable organization.

So what type of business model will sustain a charity system that depends on public and private funding? Here are two main ways to keep nonprofits in business:

Understand and Fund All The Costs of Charities, Not Just Programs.

In today’s overhead-perspective, funders like to give their money specifically to programs. They feel better that their money is going directly to “help people”. But if government, foundations, and private donors do not pay for all of the real costs of running a nonprofit group, then that organization will close, and no longer able to provide services.

Someone, or some funding entity, needs to pay for overhead costs. And not only these costs, but also future operational costs. Like, a “rainy day” fund when private donations are below expectations. Or, a deferred maintenance fund, for replacing the roof, the carpet, out-of-date phone or computer system.

For the past decade, one of the many programs at the agency I lead, was a large homeless shelter in Los Angeles. It cost us more than $1 million per year to operate. Only half of that money was paid for by government entities that convinced us in the first place to open up a much needed program for people who were homeless in their neighborhood.

Ten years later, with a total of $5 million investment of our own private funds in this program, as well as the need for $500,000 of deferred maintenance (new kitchen, new bathrooms, new flooring, new plumbing – basically a new overhaul of the facility), we plan to shut down this program.

Funders were willing to pay for the program, but not all of the costs to operate that program. In the long run, only funding programs, but not their operating costs, will result in programs shutting down.

Assess Charities By The Quality of Their Programs and their Results

If you are going to analyze a charity, examine how they run programs, not on how little they spend on overhead costs.

With many of the government contracts we operate, we spend more time with audits on how we spend the money than on whether we have truly helped change the lives of the people we serve. In fact, if our financial spreadsheets are off by even one penny (no exaggeration here), we are not paid until we can justify that one cent. Despite the fact that we had already paid upfront costs to operate the program.

To keep charities alive and operational, funders should decide  what results they want to see based on the dollars paid to that charity. So when they are auditing the organization, they are making sure the services are high quality and the outcomes achieved reflect the contract.

Then, let the agency decide how best to use its contract revenue to fund programs, overhead and other operating costs. Restricted line item budgeting results in more work for both funders and nonprofits, and does not allow the flexibility needed to change course if necessary. It also often results in some of the money being unspent or returned to the funder because it couldn’t be shifted from one area, say supplies, to other more needed expenses, like transportation. Judge programs on the results of the work – not on how much is spent in one area over another.

Here in Los Angeles, both the city and the county are planning to invest millions of dollars into addressing the homelessness crisis. Much of that funding will be distributed via contracts to nonprofit organizations that serve and house people who are homeless.

But if these funding entities continue to use an old contractual paradigm that won’t allow organizations to fund all of their costs, they will only be increasing  the risk of more low-overhead organizations closing their doors to those they serve. And that makes the fight to end homelessness that much harder.

32 Comments

  1. Posted Sep 2, 2016 at 7:33 am | Permalink

    Cool one.

  2. Posted Oct 3, 2016 at 9:44 pm | Permalink

    cool stuff

  3. Posted Nov 7, 2016 at 12:29 am | Permalink

    very nice informative site keep it up.

  4. Derek T Takeuchi
    Posted Nov 24, 2016 at 5:53 am | Permalink

    Fantastic and very much needed raw and honest truth! I am in complete agreement with your perspective and I must add that to punish all non-profits for a few bad apples is just ridiculous. I am in no way arguing that neither corruption nor improper and even unlawful allocation of funds does not exist in a small percentage of charities, however, having been involved as either a donor or a volunteer for over 30 years in countless charitable organizations;

  5. Derek T Takeuchi
    Posted Nov 24, 2016 at 5:55 am | Permalink

    I must honestly say that for the most part, the largest majority of charitable organizations founders, board members and volunteers had a very sincere heart and merely wanted to in some way, from part time volunteers up to the executive directors, merely wanted to make whatever contribution to the cause in which they put their time, money and resources into. I view this in many ways like most social workers or educators. If it were my objective to become wealthy, just as teachers and social workers chose their career based on the contribution they can make towards society, a feel that for the most part most charities do not start their organization with dollar signs in their eyes, but a little glimpse of hope that they can help make a difference. I know that has always been why I got involved.

  6. Derek T. Takeuchi
    Posted Nov 24, 2016 at 5:57 am | Permalink

    Oh no, I had 3 times as much as I just posted. I some how lose it while copying and pasting.

    Derek T. Takeuchi

  7. Derek T. Takeuchi
    Posted Nov 24, 2016 at 7:06 am | Permalink

    May I please reference this article on my website and possibly even on my crowdfunding campaign?

    As previously mentioned for the majority of the last 30 years I have only been a "Donor" or a "Volunteer" however for the last 3 years I have volunteered as the Director of Marketing full time in a 501C3, Non-Profit pertaining to Homelessness. The organization has worked with many different community organizations, shelters and programs assisting with food, clothing and hygiene. (continued in next comment)

  8. Derek T Takeuchi
    Posted Nov 24, 2016 at 7:14 am | Permalink

    The entire time I was involved I took no compensation, though I did contribute a substantial amount of money to assist with the organization. From day one I have dove into deep research and learned about the many complexities as well as constantly new and emerging obstacles such as the topic of having all charities now micro- managed because of a few bad apples. Though my heart was sad as I learned more and I felt I wanted to widen the scope of the assistance we offered. Due to issues and such close monitoring of "what charities specifically did and where their money went, I was told we were bond to what they said we did. (continued in next comment)

  9. Derek T. Takeuchi
    Posted Nov 24, 2016 at 7:23 am | Permalink

    Receiving a no I temporarily accepted that. Though it was not long before my heart was heavy and I asked again. Finally the Founder said it sounds like you are serious about your desire to do more and do not seem to be lacking the passion necessary to execute what he assured me would probably a very long and difficult journey. I said I am prepared to go on that journey. He then shared with me what a fiscal sponsorship was. He said I can pursue the causes in which you have mentioned. He was certainly correct. We agreed over a year ago and I will say the devil has thrown every obstacle he could to stop progress. I am attempting to finish writing a very consolidate summary for a closed campaign on razoo.com right now. Not even sure if they will allow me to participate, though if they do I would like to include a link to our article if that is ok? (continued in next comment)

  10. Derek T. Takeuchi
    Posted Nov 24, 2016 at 7:35 am | Permalink

    The Title of the Campaign "Giving Tuesday" under the title United For The Homeless Campaign. My parent company is Dare to Care for the Homeless. Please let me know ASAP if I can include a link to this article.

    Here is a list of only part of what we hope to help be an advocate to direct to other organizations in the appropriate area and cause. We also hope to add many of what is listed. We are definitely going to include a 3 tier house, heal and empower for out highly and for much too long Veteran homeless population. Another area of emphasis will be on the influence regarding the highly complex area of PTSD. In both if these areas we have nationally and globally recognized experts. One whom has been recognized by the White House Audit team for having one of the most effective programs in our nation after Retired Senior Chief Robert Reid (though he was in service at the time of this acknowledgement and program) who reduced the veteran unemployment from 16.5% to 2.3% in two years in South Carolina. (Continued in next comment)

  11. Derek T. Takeuchi
    Posted Nov 24, 2016 at 7:49 am | Permalink

    Here is part of our list of categories we hope to address and assist with first nationally than globally:
    1) PTSD – All Categories
    2) Recidivism – Rate of convicts and inmates returning to prison, many of which end up homeless
    3) Military and combat related Veteran Victims – All Categories
    4) Addiction / Substance abuse
    5) Mentally Ill
    6) Both addiction/substance abuse and mentally ill – Dual Diagnosis
    7) Abandonment – Adopted or Foster care neglected
    8) Extreme epidemic of child hood poverty and homelessness
    9) Higher quality of early education – to help prevent future victims of homelessness
    10) Scholarship programs for vocational opportunities and higher education for underprivileged & homeless (continued in next comment)

  12. Derek T. Takeuchi
    Posted Nov 24, 2016 at 8:08 am | Permalink

    11) Runaway teens
    12) Rapid re-housing for homeless / preventive programs also
    13) The newest and quickest rising sector of the working poor – Families in which Husband & Wife work full time but cannot afford housing for their families
    14) Homeless itself as well as mass poverty. Treatment for psychological trauma – wide perspective
    15) Programs to assist with reintegration after various lengths of homelessness through the vast spectrum and multitude of various scenarios

    This is not even out complete list! Many have said we are being too ambitious. Our answer is that we are not attempting to conquer this by ourselves. Hence, the name in which we have decided truly represents the fact that we must 'Unite Together" in the most progressive collaborative effort if there is any hope to ever achieve the overwhelming epidemic in which is only growing not only in America but globally! Only the most innovative and literal "REAL MOVEMENT" to attempt to put the word "HUMAN" back into "HUMANITY!"

    We need all of the help, support and fearless voices such as I have seen in this article. Looking forward to your reply!

  13. Elle
    Posted Nov 25, 2016 at 6:17 pm | Permalink

    Cool!

  14. Andy
    Posted Nov 26, 2016 at 11:35 am | Permalink

    Non profits should be managed in the same way as we manage the other companies.
    Thanks!
    Visit business website

  15. Derek T. Takeuchi
    Posted Nov 27, 2016 at 5:49 am | Permalink

    Wow! I a, surprised you didn't publish any of my comments. Well here is our page. This is what I was talking about. Non-profits should not be in competition with each other. I posted a link to this article on my page!
    https://givingtuesday.razoo.com/us/story/01ep7f

  16. Posted Dec 4, 2016 at 9:09 pm | Permalink

    Durante todo o tempo em que estive envolvido, não recebi nenhuma compensação, embora eu contribuísse com uma quantidade substancial de dinheiro para ajudar com a organização. Desde o primeiro dia eu mergulhei em pesquisas profundas e aprendi sobre as muitas complexidades, bem como constantemente novos e emergentes obstáculos, como o tema de ter todas as instituições de caridade agora microgerenciado por causa de algumas maçãs ruins.

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  17. Posted Dec 23, 2016 at 7:45 am | Permalink

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  21. Posted Jan 6, 2017 at 4:03 am | Permalink

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  26. Posted Mar 2, 2017 at 2:19 pm | Permalink

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