Monday, November 12, 2012

100% Charities – Too Good to be True?

A somewhat new trend among charities is to publicize to potential donors that 100% of their donation will go directly toward the charity’s stated mission.  The implication is that the charity is very efficient with donor funds and, thus, your donation will be put to good use.

It turns out this 100% promise is a bit too good to be true.  What typically underlies the promise is a circumstance where a charity has other sources of revenue (corporate sponsorship, board member donations, or giving by other charities or foundations).  The charity designates (a portion of) the funds from other sources to be used to meet non-program needs such as fundraising and administrative costs, thereby leaving all new donations to be dedicated to the mission.  However, since money is fungible, the organization could have just as easily promised any individual donor that 100% of their donation would go toward legal fees or travel expenses and designate that the revenues from others sources be used for programs.  In short, the 100% promise is somewhat empty, as almost any organization could make that promise to an individual donor.  A more meaningful indication of efficiency is what percentage of all the organization’s expenditures are spent on programs.  This figure, the “program expense ratio”, gives a much better sense to donors of the efficiency with which the organization uses funds (it too has flaws, but that’s a story for another day).

As an example, consider the Robin Hood Foundation, an organization devoted to alleviating poverty in New York City.  The Robin Hood Foundation highly publicizes its promise that 100% of donor funds go directly to programs.  It can make this promise due to substantial donations from its board members that help cover other costs.  The 100% promise, however, says little about the organization’s efficiency.  In 2011, the organization spent $97.3 million of contributions from outside donors, all on programs.  In the same year, it also spent $82.1 million of contributions from its board members, $57.1 million of which went to programs.  That means that $25 million was spent on fundraising and administrative costs, which amounts to a program expense ratio of 86%.  As it turns out, a ratio this high is quite good (a rule of thumb is that 75% is fairly good, while over 85% is stellar).  This example shows two things: (i) a little bit of investigation into an organization’s financials is more informative than the 100% promise, which is no more than a marketing gimmick; and (ii) even very efficient organizations may make the 100% promise, so the mere presence of such a promise is neither a sign of effective financial management nor a red flag of financial mismanagement.

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