One of the oddities of nonprofit accounting practice is the way it bundles all kinds of money into a single blob. Earned income, annual contributed income, and incoming capital money all show up in the Income Statement in a way that can cloud analysis of financial health, and distract us from a frank assessment of financial balance. The result can be opaque rather than transparent financial reports, particularly during a capital campaign. Worse, opaque reporting leads to hazy strategy both by organizations and by the funders that seek to help them.
The Nonprofit Finance Fund (NFF) has been exploring this challenge for decades in the nonprofit world, with a continuing strand of effort in the nonprofit arts. The report from its latest initiative, Case for Change Capital in the Arts, shares some of the theory and practice behind their evolving approach.
Key to their effort is the unbundling of financial assumptions about different kinds of money. For example, operating revenue and capital are very different beasts, even though they both show up on the bottom line in one big lump. And within capital, there are many different flavors that address different organizational needs. Among them:
- Working Capital: used to cover predictable shortfalls in operating revenue, essentially providing an internal line of credit that can be borrowed and then repaid.
- Risk & Opportunity Capital: funds that cover the unexpected, or to support experimentation that may or may not lead to future revenue.
- Change Capital: funds applied specifically to change the scope, scale, or reach of an organization — an ”investment in the alignment of an organization’s fixed costs to its reliable, recurring revenue.”
- Recovery Capital: emergency repair funds that help an organization recover from financial or physical damage.
- Facilities & Equipment Capital: funds raised for physical infrastructure.
- Endowments: large chunks of principal to generate investment income.
The NFF report focuses primarily on change capital, a particularly nuanced flavor of capital that can either revitalize or destabilize an organization, depending on its application. An addendum to the report even offers some insights on revised financial reporting standards to help organizations and their supporters see the puzzle pieces more clearly.
Very much worth a read.
