Assessing the Financial Health of Your Nonprofit Organization
As a first-time executive director, my main concern was whether I could adequately assess the health of the nonprofit I was responsible for overseeing. Over the last year, I have worked with a fantastic accounting agency that has helped me learn and understand our financials better. I do not want to understate how important it is to get professional help when it comes to accounting, especially if you are a one-person development shop.
What financial documents should you be requesting?
Balance Sheet aka Statement of Financial Position
Profit & Loss aka Income Statement aka Statement of Activities
Budget V. Actual
Ratio/Trend Analysis aka Financial Statement Analysis
Financial Ratios to be mindful of when reading financials:
Current Ratio – Measures an organization's ability to pay off its short-term liabilities with its short-term assets. Calculation: Take your "Current Assets" and divide by "Current Liabilities."
Quick Ratio – Measures an organization's ability to pay off its short-term liabilities with its short-term assets. Calculation: Take your "Current Assets," subtract "Inventory," and deduct "Prepaid Expenses," and then take that number and divide by your "Current Liabilities."
Days Cash on Hand – Measures the number of days of operating expenses that an organization could pay with the current cash available. Calculation: Take your annual operating costs and divide that number by 365. That number is then divided by the total "Cash on Hand."
Operation Expense Ratio – Measures an organization's operating expenses in relation to its program expenses. Some accounting agencies may recommend a 20/80 ratio, but remember that this may not be feasible, given your organization's mission. Calculation: Take your "Operating Expenses" and divide by your "Program Expenses."
Operating Reliance – Measures an organization's ability to effectively pay all its expenses from operating revenues alone. Calculation: Take your "Operating Revenue" and divide by your "Total Expenses."
Ratios could help paint a picture of an organization's financial standing and overall financial health. It is important to decide with your Board of Directors where you are all comfortable with each of these ratios.
Financial Health Checklist:
Operating results are consistently positive (this means a surplus!)
Total costs are regularly covered by reliable revenue.
Reinvestments in fixed assets are offset by depreciation.
Evidence of ability to manage debt and other liabilities.
Liquidity is sufficient to withstand risk and pursue new opportunities.