Organizational Culture, Systems, and Skills to Support Financial Leadership

The foundational tenet of a healthy culture of money is transparency: the consistent sharing of meaningful financial reporting with all staff and board. Among the most toxic problems that can plague an organization is a leader who won't share financial information. The motivation is often one of two things, or both at once: financial illiteracy or the fear of how people will react to the financial truth. Some executives are not as financially literate as they need to be to skillfully play the interpretive leadership role, and thus are uncomfortable sharing and discussing financial information. This is easily corrected through an intentional investment in their own professional development. Some executives worry that sharing less than optimal financial results with staff will scare them unduly and hurt morale. But staff members have the right to know when an organization is struggling financially, even if it means they will opt to leave. In fact, staff members may have good ideas for ways to improve the situation if only they were engaged in the problem solving.

Further, morale is never maintained when layoffs and program cuts happen in a seemingly sudden fashion because staff members weren't informed along the way of financial trouble. Some executives don't want to share full financial information with their boards because they fear they will be judged or blamed for poor financial results. Of course, they very well may be. Yet, it is delaying the inevitable (not to mention unethical) to keep a board in the dark about serious financial problems. Again, how can the board help if it doesn't understand the problem? Financial transparency is fundamental to a healthy culture of money. Given the choice, executives should over-share rather than under-share financial information. In so doing, they educate and empower their staff and board colleagues to share responsibility for the financial health of the organization.

In order to be transparent, leaders have to have something of quality to share. This is where strong systems and skills complement healthy culture. Nonprofit tendencies to under-invest in administrative infrastructure can yield inadequate financial systems. The result is late, inaccurate, or unhelpful financial reporting, leaving staff and board members with little to go on as they make decisions. Poor systems also create chronic inefficiencies and frustration among staff. Taking two weeks rather than two hours to cobble together a grant report to a funder because expenses have not been well coded to the grant all year is the kind of frustrating recurrence that drives talented people to leave poorly led nonprofits. Quality financial information also needs to be shared with funders, auditors, the Internal Revenue Service (IRS), and other regulators. The results of non-compliance in these cases range from reputation damage to loss of tax-exempt status.

Systems are often dependent on the skills and initiative of the finance staff. Whether financial employees, contract bookkeepers, or consulting CPAs, the most important question to answer is: “Do they understand and have experience with nonprofit accounting?” In particular, the rules and regulations around managing contributed income, including tracking donors' programmatic-use restrictions on gifts, make nonprofit accounting quite distinct from for-profit accounting. We have found it helpful to consider finance staffing in three categories: strategic, operational, and transactional skills and competencies. Table 17.1 defines these categories and provides examples of the tasks and qualifications for each category.

It's certainly critical that the people producing financial reporting have the appropriate skills and that their professional development—too often overlooked in nonprofit organizations—be invested with the same commitment as that of program or other executive staff. But for financial leadership to be truly distributed, all staff and board need ongoing support in developing their financial literacy skills. Executives should ensure that a meaningful orientation to the organization's budget and financial statements is part of recruitment and on-boarding for all staff and board members, for instance. They may include a refresher on reading and engaging with the annual budget when it is adopted each year. They may encourage financial literacy-related professional development goals for program and development staff. And again, they must themselves model interest in and comfort with all of the organization's financial reporting.

As culture, systems, and skills are intentionally developed and nurtured, more and more people on staff and board will be skillful interpreters of financial information and strong communicators about the information's implications. Communicating about finance across an organization is a high art. It requires engaging people who are untrained in finance in meaningful financial discussions, sharing financial information that may at times be uncomfortable or unflattering, and demonstrating financial accountability to the people and institutions that use, fund, and regulate your work as a nonprofit. But the most important outcome of ongoing, clear communication is the ability of the executive director, the board, and the staff to anticipate financial challenges, revise plans, and avoid uninformed or ill-informed decisions that could lead the organization into financial weakness or crisis.

Leading with a Long-Term Wealth Frame

Even in organizations with a healthy culture of money and well-distributed financial leadership, the conversation is typically dominated by annual performance to budget. Reporting and metrics are nearly always tied to a single fiscal year. But nonprofits—and our funders and donors—are facing a significant shift in how we think about, and therefore plan for and monitor, the resources that fuel our work. This is the financial corollary of the profound shift in the sector from a focus on programs and services (the activities we do) to an emphasis on impact (the results we achieve). When we apply this shift as financial leaders, we recognize a need to move from an operations frame, focused narrowly on financial management and accountability, to a wealth frame, focused on financial resilience and the creation of social value and impact over time. The changes that this requires in our thinking, our systems, our habits, and in our communications are not insignificant. When we act within an operations frame, we are limiting our thinking and decision making to income and expense, most often focused on meeting the needs of the present and short-term future. Shifting to a wealth frame requires that we think more deeply about how we are developing and deploying our resources to achieve longer-term goals and more significant impact.

Leading within the wealth frame, ultimately, is about fulfilling purpose. It is a reorientation from building and preserving a set of programs to aligning people and resources around a clear social purpose. It necessarily requires that we broaden our way of thinking and talking about financial health and well-being. Relying solely on the familiar language of nonprofit finance—restricted funding, functional expenses, allocation methodologies—keeps us in an operations frame that is primarily defined by accounting and legal compliance. While it's important to understand and be comfortable with that language, it is not the language that will lead us to significant social value creation.

The starting place for leaders making this paradigm shift is in naming and claiming the full array of capital necessary to achieve powerful social impact. A formal definition of capital is wealth in the form of money and other assets that generate value over time to serve the organization's purpose. This definition specifically invites us to explore two elements that are often neglected when we act in the operations frame: (1) the value of the “other assets” that fuel our work and (2) the recognition that organizations “generate value over time.” Thinking beyond the dollars to our “other assets” opens a broader discussion about how we attract, manage, and invest in the noncash resources that are most critical to achieving our impact. The list below identifies six forms of capital that are essential to the work of nonprofits:

1. Financial capital is the money used by the nonprofit to buy what it needs to fuel campaigns, provide services, or generate the artistic expression that create its particular social value.
2. Human capital is the value of the knowledge, skills, and creativity of the nonprofit's staff, volunteers, and board allowing them to effectively perform the work that creates its particular social value.
3. Political capital refers to the trust, goodwill, and influence the nonprofit has with the public and with political figures. This goodwill is a type of invisible currency that nonprofits can use to mobilize people or public officials in relation to the issue.
4. Social capital is the value created across organizations and networks; transactions are marked by reciprocity, trust, and cooperation, and people come together in service of a common good.
5. Intellectual capital includes the intangible assets provided to a nonprofit by its employees' efforts and also knowledge assets such as patents, trademarks, copyrights, and other results of human innovation and thought.
6. Physical capital focuses on physical assets such as facilities or equipment that are used in the nonprofit's operation. This includes any kind of real physical asset with an enduring contribution to the organization's work.

Tending with intention to these forms of capital has direct financial implications: nurturing relationships with donors (social capital) or providing salaries that attract and retain talent (human capital), for instance. Other kinds of capital development have an indirect impact on the organization's finances: developing longstanding relationships with city council members or a robust membership base (political capital) that can activate policy change in line with the organization's mission over time, for instance. When we think about our resources in this way, our discussions around financial planning broaden significantly from “How much money can we raise next year?” to “Given the social impact we intend to have, which of our assets do we need to nourish?” And further, when we think of impact and value creation as ongoing rather than bound by fiscal year budgeting and reporting time lines, we ask: “If we invest in this staff person, this new facility, or this leading technology today, how will that generate additional human, physical, or intellectual capital in years to come?”

A Dynamic Modestly Profitable Program Portfolio

The aforementioned shift underway in the sector from a focus on programs and services (the activities we do) to an emphasis on impact (the results we achieve) means that relevant organizations will be in continuous reflection about the portfolio of activities they are using at any given time to achieve impact. They will hold on tightly to intended impact, but loosely to any particular program; programs are simply the organization's best recent thinking about how to achieve impact. Programs must change over time as context, assumptions about best practices, and numerous other forces require them to. Rather than scaling programs as is just to grow the organization, leaders are students of what is working particularly well in their program portfolios and what is waning in relevance or excellence. And they consider their impact results alongside the financial results so that they are making bold but pragmatic pivots that strengthen rather than weaken the organization over time. The program portfolio's contents will vary along the impact and money continua. By design, not everything a nonprofit does has high mission impact, just as not everything has high financial return. Figure 17.1—a dual bottom line matrix—captures this idea.

For instance, a $1.5 million youth services organization might have seven core activities in its current portfolio: tutoring, arts, sports, a gala fundraising dinner, an annual donor campaign, general fundraising, and administration. From a financial management perspective, an accountant creates a cost center for each of these and reports financial results monthly. From a financial leadership perspective, the executive and her team must ensure that each activity is financed as well as it can be—in most nonprofits not every activity will be self-sustaining—and that together the seven-activity portfolio results in both high mission impact and financial health.

For the youth services organization, their tutoring program is a “star.” They have the evaluation data to demonstrate its impact on kids finishing high school, and a school district contract combined with loyal foundation support result in the program covering all of its costs. On the other hand, the arts program is a “heart.” It, too, has measurable impact on youth social and academic outcomes, but the program has no dedicated funding source, so it is being subsidized by the annual dinner gala. In turn, the annual dinner gala is a “money bag.” Despite the inclusion of youth art in the silent auction and moving client stories during the program, it is a classic fundraiser with modest mission impact. However, it nets $125,000 a year for the organization, partially offsetting the arts program losses. And so it goes in most nonprofit business models: an alchemic mix of money losers and money makers leveraging one another to achieve the organization's overall programmatic and financial position.

A note of caution: Although many nonprofits receive large programmatic grants and contracts from foundation and government agencies, it is critical to recognize that these funding sources are not core activities. Again, the three programmatic core activities in the hypothetical youth services organizations are tutoring, arts, and sports. The tutoring program has three funding sources: a school district contract and two foundation grants. A very common mistake that nonprofit leaders make is to treat each of these sources as its own core activity rather than having them all “roll up” to one core activity, which is tutoring. Each source does need to be tracked and reported on the financial management system, yet the leadership should be analyzing whether tutoring as an activity is delivering exceptional impact and—with its three funding sources—meeting financial objectives. In other words, grant and contract tracking is financial management, analyzing the mission and money performance of core activities is financial leadership.

The nonprofit activity portfolio is dynamic rather than static. Strong financial leadership involves continuously monitoring and, to the degree possible, anticipating the migration of activities along the dual bottom line axes. The tutoring program is a “star” now, but next year's state budget cuts could mean a 30 percent reduction in the school district contract. Suddenly a “star” becomes a “heart” through no fault of staff and board. Will leadership immediately cut expenses and services by 30 percent? Will it quickly seek an additional foundation grant? Will it raise gala dinner prices to increase the event's net to $175,000 for greater subsidy of its programs? If they choose to maintain services and increase income, will it work? What if they continue spending as if the increased income plan will work, but then it doesn't? These are the questions and anxieties of nonprofit financial leadership.

From Planning to Deciding

For too long in the nonprofit sector there has been an over-emphasis on planning, to the neglect of decision making and execution. Making matters worse, much of the strategic planning that goes on in the sector lacks any real financial basis; nonprofit leaders and their consultants define strategies and goals and objectives, but nowhere in the planning do they do the hard work of determining how they will actually fund or finance them. The last economic recession has proved again, as all recessions do, that predicting the future is a very dicey proposition. Periodic organizational planning, wherein board and staff work together to ensure that everyone shares an understanding of the current operating context and the essential direction of the organization, is certainly valuable. Nonetheless, the day-to-day work of financial leadership involves making the best business decisions possible given the information at hand at the relevant time. Three-year strategic plans are very unlikely to anticipate a recession, or an employee lawsuit, or a market opening caused by the closure of a competitor, or even the resignation of a long-time leader. These unplanned factors mandate real-time decision making, and the leaders who get more of those decisions right than wrong are the ones who sustain and grow mission impact over time.

The practice of business planning is gaining traction in the nonprofit sector, yet it too often focuses only on earned income strategies instead of holistically on the entire business model that the vast majority of nonprofits employ. Further, it tends to downplay mission impact as a critical component of the nonprofit business model. That is, it does not assume nor plan for the dual bottom line reality in which nonprofits operate. And finally, it too tries to predict the future and assure people that documented plans are somehow highly likely to come true. Thus, just like traditional strategic planning, it runs the risk of providing a false sense of security and “doneness” (that is, all the big decisions have been made and now staff “simply” has to implement the plan).

It's not overstating the case to say that leadership is to a great degree about decision making. Further, all-important decisions have some kinds of financial implications, whether immediate or eventual. What does it look like to shift from a predominantly planning orientation to a predominantly financial decision-making and execution orientation? Of great importance is that all decision making is based on an explicit consideration of mission and money factors. If the organization is trying to decide whether to have a live receptionist or just a voicemail system, for instance, executive leaders should frame the mission and money factors for the decision-making group's consideration. On the mission side: Will the youth clients, including those for whom English is a second language, navigate a voicemail system or will they be discouraged and hang up (thus limiting our impact with them)? On the money side: Exactly how much (with full benefits) does a live receptionist cost us? Is there a way we could deploy those dollars in service of mission with greater return, or is this expenditure essential? Perhaps the group could consider using youth volunteer receptionists as employment training. On the other hand, what would it cost to recruit, train, and supervise these volunteers, and who on staff would do that and at what opportunity cost? The point here is that no executive should be allowed to make mission-only or money-only decisions; the factors must be considered holistically. In the end, judgment will be required to make a decision; there is always subjectivity. Financial leadership is about framing the decision in mission and money terms and about a focus on decisive execution.

Conclusion

Like all leadership, financial leadership is a process not a single position or positions. That said, the executive director has a responsibility to attend to the culture, systems, and skills development that allow for successfully distributing financial leadership. Strong financial management is absolutely essential, but it is what leaders do with that information each and every day that leads to sustained mission impact, or not. Strategic plans and business plans can help to clarify and document direction, but in the end it's the decisions that leaders make in real time that are the difference between financial weakness and strength over time. Those decisions will be stronger when they favor long-term value creation over short-term compliance and achieving intended impact over program preservation.

References

1. Bell, J., and Schaffer, E. Financial Leadership: Guiding Your Organization to Long-term Success. St. Paul, MN: The Fieldstone Alliance, 2005.
2. O'Donovan, D., and Flower, N. The Strategic Plan Is Dead. Long Live Strategy. Stanford Social Innovation Review, 2013, January 10.
3. Zimmerman, S., and Bell, J. The Sustainability Mindset: Using the Matrix Map for Making Strategic Decisions. San Francisco: Jossey-Bass, 2014.