Thursday, August 13, 2015

The Clinton Foundation Accounting Issue that Remains under the Radar

In recent months, we have seen many criticisms of the Clinton Foundation and its finances. For various reasons, many of them have failed to stick. However, there is one issue (highlighted here by Jonathan Allen of Reuters) that has potential to linger even though it has thus far largely escaped the public eye. That issue is how the foundation has chosen to account for funds received and spent through the Clinton Health Access Initiative (CHAI) in partnership with UNITAID.

The Issue
First, some background on the issue at hand. When a nonprofit receives funds (or, alternatively, inventory) that it then subsequently sends along to another organization, there is a question as to whether those funds are revenues when received and then expenses when sent along or whether they are just temporary holdings not to be reflected on the nonprofit’s statement of activities. This distinction matters because if the funds are treated as revenues and then expenses, the organization’s reported program expenses (and thus its program expense ratio) are higher, and the organization appears both larger and more efficient. The rule governing this treatment boils down to a question of whether the nonprofit receiving the funds retains any discretion over what to do with them (“variance power”) or whether they are merely serving as an agent of the ultimate recipient. In the former case, they are recorded as revenues and then expenses when passed along, whereas in the latter they merely sit as liabilities until distributed.

Manifestation in the Clinton Foundation
CHAI is a controlled affiliate of the Clinton Foundation that (among other things) partners with UNITAID to procure pharmaceuticals at discounted prices and distribute them to beneficiary countries. In this activity, CHAI receives funds from UNITAID, procures pharmaceuticals, and distributes them to the chosen recipients. The key question is: are these funds revenues and expenses for CHAI or are they merely funds held as an agent?

The question is surely a nuanced one, but CHAI and Clinton Foundation present a unique case of a public disagreement. CHAI and its auditors have concluded that these are agency funds and do not record them as revenues/expenses. However, the Clinton Foundation and its auditors, when compiling consolidated financial statements, have concluded the opposite and reclassify these funds as revenues/expenses.

Before one dismisses this as just an esoteric point, note that these amounts accounted for over $28 million of the Clinton Foundation’s expenses in 2013, which is over 14% of their reported program expenses. The distinction was even more critical in 2012 and 2011, when these expenses were over $67 million and $108 million, respectively (making up over 33% and 46% of program expenses, respectively).

In short, the decision of how to treat these pass-through funds is an important one for the Clinton Foundation. And, while the treatment choice is a judgment call, the fact that it has played out as a public spat between the auditors of CHAI and the Clinton Foundation means this accounting disagreement may have staying power.