As a funder and non-profit board member I certainly agree that GAAP accounting is not enough to guide a non-profit. Not only is there no distinction between equity (as in a capacity building grant) and other revenue, but GAAP calls for the “revenue” to be booked as restricted all in the year it was received, so that if it is a multiyear grant, the results are just confusing.
However, I noticed this comment and had to respond.
“Reporting grants as revenue, unfortunately, has the potential to
compel business leaders to go and find more “grant revenue”
instead of concentrating their efforts on generating real revenue.”
For many non-profits, grants are real revenue, and always will be. While funders would all *feel* happier if grantees had a sustainability strategy other than getting other grants, in the real world many do not and can not. Earned revenue is possible in some contexts, but not in others. Individual donations are possible, but they are just grants without the paperwork. Government contracts used to be the best “take out” mechanism for proven programs, but that is harder and harder. In our sector the lack of a business model doesn’t always mean that a grant was a mistake.
Non-profit sustainability is not just a matter of accounting but of having reasonable expectations based on the realities of a sector (e.g., education vs. healthcare vs. workforce vs. the arts). We all need to be more thoughtful about how we import concepts from the for profit, investment sector. I would love to be a swashbuckling non-profit VC with all the glam and perks, but sometimes the reality just isn’t like that.
Fascinating approach to non-profit metrics, and thoughtful reader comment as well. It seems like this approach would push non-profits to at least break even on an operating basis, but seek “equity” for capital expenditures. Whether this is attainable for all non-profits, it’s at least a good target to aim for.
As the CEO of a 27-year old social enterprise, I found myself feeling dismayed as I read Mr. Lederhos’ article. I think it represents a mindset that is challenging to all social enterprises and attempts to solve the wrong problem. In our operations grants fund the program activities that, combined with the work experience gained in our social enterprise, help our clients overcome barriers to employment.
I believe each human services organization should be working to put itself out of business; finally and effectively solving the problem that it set out to solve. At that time grants would no longer be required and funders could move on to other problems.
However, expecting that sales revenue from the social enterprise could entirely cover its costs, including the additional costs incurred delivering on its mission is unrealistic. I’d propose instead to silo business expenses to get a true view of business performance and view the grants as revenue to cover the cost of programming that wouldn’t be necessary if the company were not a social enterprise.
Good concept; in theory any business should be paying its own way - but as Tamra has pointed out, the Social Impact component can be missed in this approach. If the ability for the business to pay its own way isn’t balanced against the social return, then it is hard to see how it is a successful social enterprise. Both the Grant “equity” and revenue need to be linked to your measurement of social outcomes to really determine whether you have an effective social enterprise. Otherwise you will drive managers to prioritise the business interests over the social return, and if you do that, then what’s the point?
This is an interesting article, which raises some good points as to how over-simplified financial information can obscure reality. I am not sure whether the proposed solution (reporting grants as equity) is necessary. I would suggest the following approaches: (1) making sure that grants and sales are clearly reported so that they can be disaggregated in the financial statements (if the proceeds are used for different purposes, you could consider reporting them as different segments); (2) reporting the enterprise’s budget, including grants and sales, and a comparison between the budget and the results (International Public Sector Accounting Standards have some good guidelines on this); and (3) explaining the financial information, and the implications of the grants and revenue, in the notes to the financial statements.
The Proposal by Mark L is very confusing as it misses the whole essence of running a social enterprise. I concur with Mark J with a further clarification that where there is “Revenue” then a segmented report should be provided (without wasting too much time and effort !!!) to provide the user of the financials with an indication of the performance of the commercial aspect of the enterprise. Other than that Impact is the greatest measure !
I appreciate the thought behind this article; however, since “equity” is not an element of a nonprofit’s financials, maybe there’s a workaround without producing another set of statements. Grant revenue could be recognized over the “useful life” of the project it supports. For example, if a grant is supposed to be “seed money” to get a social enterprise started, it could be recognized on a pro rata basis throughout the start-up phase and until the enterprise might reasonably be expected to become self-supporting. For example, that might be three to five years.
As a recovering non-profit CEO who is now leading a tech venture that’s currently operating in a tax-disregarded entity, I can relate only too well to Mark Lederhos’ observations. Non-profit accounting is complex, to say the least. During our transition to a for-profit public benefit corporation, grants are acting as operating capital, and are non-dilutive equity. Producing financials that mainstream investors can follow is a challenge, and we landed on treating a significant grant partially as revenue, and partially as a seed investment.
Grants are odd in that they sometimes act like equity, sometimes like revenue, and most often as restricted assets that are recognized over the course of the program or project. Not every social enterprise should or could endeavor to operate on the strength of earned income alone, nor is it as simple as treating all grants as equity.
A good practice for leaders of social enterprises is to ask, and for their investors / funders to question, what stage of its life the enterprise is in, and how it is using grants to achieve its goals. If you are in a steady-state, where grants serve as operating support, subsidy, or programmatic funding, they should be treated as revenue. If you are using grants to seed or grow an enterprise to the next level of impact, they are a lot more equity-like, and in the best way: the “investors” don’t want to participate in the financial upside of the business.
En nuestra sociedad como personas comunes y corrientes, nos queda una gran deuda con “hacer ajustes sociales”-...Ello implica, que, desde el Gobierno apunten temas relevantes e importantes hacia una nueva generación de Lideres y conceptos asociados a nuestra Era…La mayor parte de los que se reúnen a discutir estos temas son gente que NO CONOCE el real abandono de las personas con escasos recursos, mas bien lo ven desde afuera en estadísticas burocráticas. Hay que incrementar la desigualdad Social con la EDUCACIÓN DE LAS PERSONAS, eso conlleva a todo, y ajustaremos la brecha que nos separa de la pobreza…Es mi aporte.
I really appreciate the comments made on this article. I was remiss in not making it clear that there are many different types of social enterprises and non-profit organizations and it is not necessarily useful to measure all of them through this sort of lens. Defining what a social enterprise is in different contexts is probably an entire article unto itself. Context is always important and this tool is not appropriate for all situations.
At HPN, the majority of the social enterprises that we incubate and grow are B2B firms that serve affordable housing developers, CDFIs and housing counseling agencies. It is our aim to make these enterprises self-sustaining and eventually profitable so that we can use the surplus to support our mission. We acknowledge that we are unique in our business model and that not every non-profit organization can utilize the approach I have outlined. As Chris Langston stated quite rightly, “Non-profit sustainability is not just a matter of accounting but of having reasonable expectations based on the realities of a sector (e.g., education vs. healthcare vs. workforce vs. the arts).”
Further, I want to underscore that all of the non-profit entities that I have been exposed to at HPN are financially disciplined and driven to perform. I am simply putting forth another way to look at financial performance for a particular class of social enterprises that can broaden a manager’s perspective. In fact, at HPN, our social enterprises are each capitalized differently; only in the cases where we can raise grant revenues do we utilize this approach. For many of our enterprises if we cannot raise grant funds, we raise equity from the participating non-profits and their capital can be returned through the success of the company.
While this is a generic concept, it should also be noted that HPN has been operating with a sustaining revenue model orientation for more than a decade. In fact, the snapshot financial ratios used as an illustration of this concept show a business concern that would be the envy of many private sector early stage enterprises. The fact that this business is achieving this kind of financial performance while simultaneously serving its social mission is a great example showing that the elusive double bottom line can be achieved.
Hi Mark—appreciate these further details, and it sounds like HPN is operating a successful model made more effective by the use of the financial ratios you described. I am curious if you are also tracking on impact and / or outcomes? If so, it would be interesting to learn more about your ROIs.
Thank you. The content you shared is very informative keep on sharing like this. I found some relevant content on the following link. https://erp.gold/what-are-financial-reports/
COMMENTS
BY Chris Langston
ON October 18, 2016 12:04 PM
As a funder and non-profit board member I certainly agree that GAAP accounting is not enough to guide a non-profit. Not only is there no distinction between equity (as in a capacity building grant) and other revenue, but GAAP calls for the “revenue” to be booked as restricted all in the year it was received, so that if it is a multiyear grant, the results are just confusing.
However, I noticed this comment and had to respond.
“Reporting grants as revenue, unfortunately, has the potential to
compel business leaders to go and find more “grant revenue”
instead of concentrating their efforts on generating real revenue.”
For many non-profits, grants are real revenue, and always will be. While funders would all *feel* happier if grantees had a sustainability strategy other than getting other grants, in the real world many do not and can not. Earned revenue is possible in some contexts, but not in others. Individual donations are possible, but they are just grants without the paperwork. Government contracts used to be the best “take out” mechanism for proven programs, but that is harder and harder. In our sector the lack of a business model doesn’t always mean that a grant was a mistake.
Non-profit sustainability is not just a matter of accounting but of having reasonable expectations based on the realities of a sector (e.g., education vs. healthcare vs. workforce vs. the arts). We all need to be more thoughtful about how we import concepts from the for profit, investment sector. I would love to be a swashbuckling non-profit VC with all the glam and perks, but sometimes the reality just isn’t like that.
BY Matthew Spaur
ON October 18, 2016 08:44 PM
Fascinating approach to non-profit metrics, and thoughtful reader comment as well. It seems like this approach would push non-profits to at least break even on an operating basis, but seek “equity” for capital expenditures. Whether this is attainable for all non-profits, it’s at least a good target to aim for.
BY Tamra Ryan
ON October 20, 2016 03:25 PM
As the CEO of a 27-year old social enterprise, I found myself feeling dismayed as I read Mr. Lederhos’ article. I think it represents a mindset that is challenging to all social enterprises and attempts to solve the wrong problem. In our operations grants fund the program activities that, combined with the work experience gained in our social enterprise, help our clients overcome barriers to employment.
I believe each human services organization should be working to put itself out of business; finally and effectively solving the problem that it set out to solve. At that time grants would no longer be required and funders could move on to other problems.
However, expecting that sales revenue from the social enterprise could entirely cover its costs, including the additional costs incurred delivering on its mission is unrealistic. I’d propose instead to silo business expenses to get a true view of business performance and view the grants as revenue to cover the cost of programming that wouldn’t be necessary if the company were not a social enterprise.
BY Andrew F
ON October 20, 2016 04:22 PM
Good concept; in theory any business should be paying its own way - but as Tamra has pointed out, the Social Impact component can be missed in this approach. If the ability for the business to pay its own way isn’t balanced against the social return, then it is hard to see how it is a successful social enterprise. Both the Grant “equity” and revenue need to be linked to your measurement of social outcomes to really determine whether you have an effective social enterprise. Otherwise you will drive managers to prioritise the business interests over the social return, and if you do that, then what’s the point?
BY Mark Jerome
ON October 20, 2016 07:04 PM
This is an interesting article, which raises some good points as to how over-simplified financial information can obscure reality. I am not sure whether the proposed solution (reporting grants as equity) is necessary. I would suggest the following approaches: (1) making sure that grants and sales are clearly reported so that they can be disaggregated in the financial statements (if the proceeds are used for different purposes, you could consider reporting them as different segments); (2) reporting the enterprise’s budget, including grants and sales, and a comparison between the budget and the results (International Public Sector Accounting Standards have some good guidelines on this); and (3) explaining the financial information, and the implications of the grants and revenue, in the notes to the financial statements.
BY Aubrey Chalira Phiri
ON October 21, 2016 12:32 PM
The Proposal by Mark L is very confusing as it misses the whole essence of running a social enterprise. I concur with Mark J with a further clarification that where there is “Revenue” then a segmented report should be provided (without wasting too much time and effort !!!) to provide the user of the financials with an indication of the performance of the commercial aspect of the enterprise. Other than that Impact is the greatest measure !
BY dweiss, Counterpart CFO
ON October 23, 2016 12:13 PM
I appreciate the thought behind this article; however, since “equity” is not an element of a nonprofit’s financials, maybe there’s a workaround without producing another set of statements. Grant revenue could be recognized over the “useful life” of the project it supports. For example, if a grant is supposed to be “seed money” to get a social enterprise started, it could be recognized on a pro rata basis throughout the start-up phase and until the enterprise might reasonably be expected to become self-supporting. For example, that might be three to five years.
BY Astrid Scholz
ON October 27, 2016 10:23 AM
As a recovering non-profit CEO who is now leading a tech venture that’s currently operating in a tax-disregarded entity, I can relate only too well to Mark Lederhos’ observations. Non-profit accounting is complex, to say the least. During our transition to a for-profit public benefit corporation, grants are acting as operating capital, and are non-dilutive equity. Producing financials that mainstream investors can follow is a challenge, and we landed on treating a significant grant partially as revenue, and partially as a seed investment.
Grants are odd in that they sometimes act like equity, sometimes like revenue, and most often as restricted assets that are recognized over the course of the program or project. Not every social enterprise should or could endeavor to operate on the strength of earned income alone, nor is it as simple as treating all grants as equity.
A good practice for leaders of social enterprises is to ask, and for their investors / funders to question, what stage of its life the enterprise is in, and how it is using grants to achieve its goals. If you are in a steady-state, where grants serve as operating support, subsidy, or programmatic funding, they should be treated as revenue. If you are using grants to seed or grow an enterprise to the next level of impact, they are a lot more equity-like, and in the best way: the “investors” don’t want to participate in the financial upside of the business.
BY ANA MARIA
ON October 27, 2016 11:49 AM
En nuestra sociedad como personas comunes y corrientes, nos queda una gran deuda con “hacer ajustes sociales”-...Ello implica, que, desde el Gobierno apunten temas relevantes e importantes hacia una nueva generación de Lideres y conceptos asociados a nuestra Era…La mayor parte de los que se reúnen a discutir estos temas son gente que NO CONOCE el real abandono de las personas con escasos recursos, mas bien lo ven desde afuera en estadísticas burocráticas. Hay que incrementar la desigualdad Social con la EDUCACIÓN DE LAS PERSONAS, eso conlleva a todo, y ajustaremos la brecha que nos separa de la pobreza…Es mi aporte.
BY Mark Lederhos
ON October 28, 2016 01:55 PM
I really appreciate the comments made on this article. I was remiss in not making it clear that there are many different types of social enterprises and non-profit organizations and it is not necessarily useful to measure all of them through this sort of lens. Defining what a social enterprise is in different contexts is probably an entire article unto itself. Context is always important and this tool is not appropriate for all situations.
At HPN, the majority of the social enterprises that we incubate and grow are B2B firms that serve affordable housing developers, CDFIs and housing counseling agencies. It is our aim to make these enterprises self-sustaining and eventually profitable so that we can use the surplus to support our mission. We acknowledge that we are unique in our business model and that not every non-profit organization can utilize the approach I have outlined. As Chris Langston stated quite rightly, “Non-profit sustainability is not just a matter of accounting but of having reasonable expectations based on the realities of a sector (e.g., education vs. healthcare vs. workforce vs. the arts).”
Further, I want to underscore that all of the non-profit entities that I have been exposed to at HPN are financially disciplined and driven to perform. I am simply putting forth another way to look at financial performance for a particular class of social enterprises that can broaden a manager’s perspective. In fact, at HPN, our social enterprises are each capitalized differently; only in the cases where we can raise grant revenues do we utilize this approach. For many of our enterprises if we cannot raise grant funds, we raise equity from the participating non-profits and their capital can be returned through the success of the company.
While this is a generic concept, it should also be noted that HPN has been operating with a sustaining revenue model orientation for more than a decade. In fact, the snapshot financial ratios used as an illustration of this concept show a business concern that would be the envy of many private sector early stage enterprises. The fact that this business is achieving this kind of financial performance while simultaneously serving its social mission is a great example showing that the elusive double bottom line can be achieved.
BY Astrid Scholz
ON October 31, 2016 04:42 PM
Hi Mark—appreciate these further details, and it sounds like HPN is operating a successful model made more effective by the use of the financial ratios you described. I am curious if you are also tracking on impact and / or outcomes? If so, it would be interesting to learn more about your ROIs.
BY David Pearson
ON January 9, 2017 11:56 PM
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https://erp.gold/what-are-financial-reports-anyway/
BY David Pearson
ON January 11, 2017 04:05 AM
Thank you. The content you shared is very informative keep on sharing like this. I found some relevant content on the following link.
https://erp.gold/what-are-financial-reports/