What to Say When Your Donor Asks: How Much do you Spend on Overhead?

When you ask for help do your donors want to know about your use of paper clips?

 

I’ve been asked this question many times.

One of the ways I’ve answered is with my own question: If you could invest 20 cents to get a dollar, would you? If you could invest 50 cents to get a dollar, would you?

If one dollar was old, wrinkly and ripped and the other was mint, would that matter to you? Maybe not. If you’re a collector, it would matter a lot.  Change that to 50 cents to buy a bag of fresh, nutritious produce (that will last a full week) vs. 20 cents to buy a bag of old and rotten vegetables, and you begin to understand.

All things are not created equal. That’s true, in spades, for what folks consider ‘appropriate’ overhead.

What’s appropriate? The “Overhead Myth.”

There have been three important articles published recently (by Sean Triner, Tom Ahern and Roger Craver) on the issue of the “Overhead Myth.” This has been a topic of discussion in the social benefit sector for many years, but especially since Dan Palotta’s TED talk, “The Way We Think about Charity is Dead Wrong.”

Too many nonprofits, Palotta says, are rewarded for how little they spend — not for what they get done. Instead of equating frugality with morality, he asks us to start rewarding charities for their big goals and big accomplishments. Even if that comes with big expenses.

I’ve written about this numerous times (e.g., here and here), as have others.

Things were supposed to be getting better.

Yet things are not improving appreciably.  Despite the fact that several years back there seemed to be a movement towards acknowledging the real problem with trying to keep overhead lower than 10 – 20%.

Measuring overhead does not neatly correlate with a nonprofit’s impact or effectiveness.

A charity that spends 20% on overhead and knocks its mission out of the ballpark is not less worthy of support than one that spends 10% on overhead but helps relatively few people. It’s one way of assessing things, but not necessarily the most meaningful.

This is one of the reasons Charity Navigator agreed to change the way they award stars. And it’s why way back in 2013 Guidestar and BBB Wise Giving Alliance joined in, with Charity Navigator, in writing a Letter to the Donors of America stating that:

“The percent of charity expenses that go to administrative and fundraising costs—commonly referred to as “overhead”—is a poor measure of a charity’s performance.”

So, there we have it. Right from the watchdogs’ mouths.

Here’s more – directly from the watchdogs:

“When we focus solely or predominantly on overhead, we can create what the Stanford Social Innovation Review has called “The Nonprofit Starvation Cycle.”  We starve charities of the freedom they need to best serve the people and communities they are trying to serve.”

In fact, four years ago it looked like we had a movement to change things up! Yup. There was an online “End the Overhead Myth” campaign supported by the watchdogs.

Well, guess what?  Charity Navigator ‘tweaked’ their formula for awarding stars and not much changed.

While Charity Navigator claims it is “Your guide to intelligent giving,” it really is more “Your guide to giving … assuming you’re content to base your decisions on shallow and unsophisticated measures that account for nothing worthwhile in the real world.”
– Tom Ahern

Part of the problem with measuring overhead is that every nonprofit does it differently.

So we’re comparing apples to avocados.

Some put a bunch of salaries into “program,” while others consider it “administrative” expenses (aka overhead).

Some put a percentage of “fundraising” into “program”, rationalizing that some of this is “marketing” and a way to support/get the word out about their services.

Some claim they have 0% overhead, because they ask sponsors and major donors to specifically underwrite their administrative expenses so “donors’ gifts go 100% to program.” This model was pioneered by Charity: water. (It’s so seductive that numerous “copycatters” have emulated them: The Young Americans (as of this writing, they’ve copied the pioneer’s language verbatim, including the name of the charity (Oops! Big typo!); The Hope Effect; new story; green books and more.)

It’s a shell game.

And it’s all completely valid.  There are no uniform standards for counting these things.

The problem with all this game playing is that the myth that overhead is yucky (who in their right mind would want to fund it?) is reinforced. It sends the wrong message to donors. And, ultimately, it hurts the sector.

When nonprofits continue to feel forced to find ways to lower their expenses, the ultimate result is that less gets done.

Resist the temptation to starve your organization.

You either grow, or die. The Stanford Social Innovation Review calls this phenomenon The Nonprofit Starvation Cycle.

Don’t shortchange those who rely on you by focusing too much on your overhead percentage.

Consider Dan Pallotta’s argument that we’re not spending ENOUGH on overhead.

It costs money to build programs. It even costs money to fundraise.

And simply splitting your budget in two into “overhead” vs. “not overhead” (as “100% model” charities do), does not change the fact that administrative expenses still exist. And they’re essential to your ability to deliver impact. Charity:water couldn’t raise money to fulfill their mission without their fundraising, marketing, website and finance staff.

Resist the temptation to collude in perpetuating the Overhead Myth.

When you tout a 100% model…

When you tout how little you’re spending on overhead…

When your board celebrates every time your financials reveal your overhead percentage has gone lower…

All of this makes people believe:

• Overhead expenses are bad.
• “Lean and mean” is the preferred nonprofit business model.
• Minimal administrative and fundraising costs mean a more effective nonprofit.
• Everyone should adhere to the same average (arbitrary) expense ratio.
• Investing in nonprofit staff development is unnecessary.
• Innovation and risk-taking are nonprofit “no-no’s.”
• it’s possible to fund non-profit work without funding overhead and administrative expenses.

Not true. Not even logical. For just one example of how non-sensical this is, here’s what Julie Brandt writes in Stanford Social Innovation Review:

“In the private sector, we see that companies with high-quality training and development programs generate 26 percent more revenue per employee and realize 40 percent less voluntary turnover than their peers. What if we translated this to the nonprofit sector? If we invested in the training and developing staff who deliver these critical programs, would we see 26 percent or more impact per staff member? Would nonprofits achieve greater success because they could focus their people, time, and money on mission-driven activities rather than covering the cost of turnover?”

If, in the end, you create more value by having slightly higher overhead, then why not?

Plus there’s the fact that a start-up or younger organization will have a higher overhead than a large, well-established one. It takes the same amount of time to write an appeal letter that will be mailed to 200 people as it does to write one that will be mailed to 30,000 people.

So, there’s really no one simple answer to the overhead problem.

It’s like the Goldilocks story. You don’t want to spend too much or too little.

You need to spend the “just right” amount to get the job done well.

What is that amount? Hard to say.  But businesses are willing to accept a much higher rate of investment to attain their ideal profit. In fact, very few businesses work on a ration better than two to one.

When I worked in the trenches, I often calculated an ROI of greater than 1000% for our fundraising expenses.  You’d think folks would be doing cartwheels!  But, no. Every year the board would ask us to see if we could shave a percentage point off of our costs.

Hold your nonprofit to a high standard, not a double standard.

The myth of nonprofit overhead needs debunking. Now.

If you’re a nonprofit leader, do what you can to lead the charge to focus on the right things.

When donors ask you what you spend on overhead, tell them the truth. Explain that fundraising is not so much a “cost” as an “investment.” And explain the return you get on that investment in terms of mission outcomes.

Stop bragging about how little you spend. Start bragging about how much you achieve.

Donors need to focus on evaluating charities based on leadership, transparency, governance, and results.

Cutting corners just to “look good” to your donors is not going to get the job done.

It’s like cutting your medications in half because you can’t afford them.  One aspirin won’t take away your head-ache if you need two.

Measuring overhead does not neatly correlate with a nonprofit’s impact or effectiveness. A charity that spends 20 percent on overhead and knocks its mission out of the ballpark is not less worthy of support than one that spends 10 percent on overhead but helps relatively few people. It’s one way of assessing things, but not necessarily the most meaningful.

The overhead myth is at the heart of the problem. The notions that salaries shouldn’t be too high; folks who work for charities should wear hair shirts; and no one should complain about being overworked because, after all, nonprofit work isn’t really “work”—it’s a joy and privilege.

Does anyone tell sports celebrities or rock stars they shouldn’t get paid because they’re having too much fun?

The overhead myth is the “pig,” and putting lipstick on it won’t change that.

What do you think? How do you answer donors when they ask how much you spend on overhead? On fundraising?

Photo: Flickr, banspy

This article is an update of one that appeared originally on Clairification 11-3-2013.

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