Raul Larios

PART 2 – Should Nonprofits Strive to be Profitable?

Columbia University 2In Part 1, I talked about the importance of small nonprofits managing their finances as if they were for-profit and using some or all surpluses to build an endowment fund, if they are to survive what appears to be the beginnings of a long-term trend in “under-funding” (100% to mission, 0% to administration).

Profitability, however, is no easy feat if your organization is small (whether you’re a for-profit or a non-profit). I was struck by a recent statistic claiming that of the 28 million for-profits tracked by the Small Business Administration in 2013, only 6 million (21%) were actually profitable. Only 21%!!

As difficult as it is to be profitable if you’re small, many large nonprofits do a phenomenal job at it. Consider my wife’s alma mater Columbia University (CU) here in New York City. CU posted an operating profit of over $230 million in its most recent filing (period ended June 30, 2014) on gross revenues of $3.8 billion. The market value of Columbia’s endowment funds now exceed $9 billion, which generated nearly $350 million in unrestricted income. In keeping with one of its nonprofit missions, CU awarded just over $200 million of non-government University money in financial aid grants to deserving students with great potential, but who were unable to afford the tuition (current needs). And most telling for the purposes of this blog post, CU transferred $17.4 million of its 2014 operating surplus back to its endowment funds (future needs). Way to go Columbia!

Here is a random sampling of other large nonprofits that are highly profitable (as measured by their operating surplus in their most recent filings):

National Resources Defense Council, $17.4 million profit

Environmental Defense Fund, $18.2 million profit

Smile Train, $28.4 million profit

Feeding America, $14.4 million profit

Habitat for Humanity, $15.3 million profit

Smithsonian Institution, $193 million profit

Planned Parenthood, $127.1 million profit

Boy Scouts of America, $37.7 million profit

Clearly, many large nonprofits know how to make a profit, so I’m not worried about them. But I do worry for the hundreds of small nonprofits with wonderful causes that make our communities so much better, yet struggle month to month.

That’s why you should really pay attention to how the large tax-exempts do it. If you dig into their financials, you’ll notice their “for-profit mentality” at work: robust fundraising departments to drive current (and future) revenue; continuous expansion of their endowment funds for future revenue; and an unrelenting focus on cutting expenses wherever possible.

If you are a small struggling nonprofit, perhaps you should emulate the large ones — drop that nonprofit “deficit mentality” and really strive to be profitable.

Good luck, and thank you for making our world a better place!

April 20, 2015 Posted by | New York | , , , , , , , , , , , , , , | 32 Comments

Will Changes in N.Y. Non-profit Laws Cause Board Resignations?

Revitalization ActNew York governor Andrew Cuomo recently signed into law the “Non-Profit Revitalization Act,” which totally overhauls our State’s antiquated nonprofit regulations. Most of the reforms will go into effect July 1st of this year. Applauded by many, the new provisions will eliminate unnecessary and outdated bureaucratic burdens. More importantly, the Act should reduce some of the fraud prevalent in the industry (see my blog post dated 01-21-2014).

However, one thing that the Act did not do, is to reduce the personal liability that non-profit Board directors take on in New York for their philanthropic service. Quite the contrary, not only does the Revitalization Act place all the responsibility on Board directors to carry out the stricter provisions, but it also grants the Attorney General sweeping new powers to prosecute them for negligence and even incompetence. Although the intention to crush fraud is laudable, I believe it will cause some un-intended consequences.

Keep in mind that unlike the for-profit world where most Board members are experts in their fields (such as risk management, audit, finance, legal, etc. — and are compensated for that expertise), Board directors for tax-exempt organizations (TEOs) are mostly un-paid volunteers who care about doing good. This is not to say that TEO board members do not have any expertise in corporate governance (many do). However, the culture at many TEOs is more easy-going and casual, the type that focuses on social benefits such as how many trees were planted, how many scholarships were awarded or how many whales were saved — and not on designing and administering a whistleblower policy, for example, that includes procedures for the reporting and handling of suspected violations of law. Does the average volunteer director even have the expertise for this type of work?

In many ways, non-profit directors are at much greater risk for personal liability than for-profit Boards because the volunteers have at their disposal smaller budgets and staffs, and worse yet, limited access to experts such as lawyers and accountants.

The Revitalization Act puts the volunteers’ existing personal liability on steroids. Consequently, some volunteer directors may choose to resign to avoid the additional burdens and risks being placed on them. After all, they can continue to do good by simply donating money to their favorite causes, but without any of the personal liability.

So what can you do if you’re the Executive Director or the Board Chair to prevent resignations? Start with a careful and thorough review of your Director and Officer (D&O) liability insurance policy. Since there is no such thing as a “standard” D&O policy, you should hire an expert (usually “fee-only” insurance consultants) to help you. Be sure to have your Board participate in the discussions, so that their concerns are heard and acted upon. At the very least you want to know if your aggregate coverage limit is still adequate considering the new law; whether certain sneaky exclusions (such as “failure to provide insurance”) can be removed; whether the cost of legal representation falls in or out of the aggregate coverage limit; and whether the policy offers “tail” (or extended reporting period) coverage. Based upon your Board’s reaction, you may have to change underwriters.

You also want to determine whether to hire a consultant to train two key volunteers on your team: the Chair of the Finance Committee (i.e., the Treasurer) and the Chair of the Audit Committee.  Ask them if they want/need a training or refresher course on their duties. Among their many responsibilities (and depending on the size of the non-profit), the Treasurer should be reconciling the organization’s bank accounts monthly, insuring that month-end cash balances are correct, and reviewing/co-signing all out-going checks above a certain amount. And the Audit Committee should be double-checking that work on a quarterly basis.

Although the Revitalization Act does not specifically require that each tax-exempt organization have an Audit committee, you should have one. However, if your non-profit is too small to have both a Finance and an Audit committee, don’t be tempted to merge both functions into one “Finance and Audit Committee” for the sake of expediency. That’s because one of the primary duties of the Audit Committee is to carefully examine the Treasurer’s work. And it has to be able to do that independently of the Treasurer.

If an Audit committee is not feasible, then the responsibility falls on the entire Board of Directors to evaluate and approve/disapprove the Finance committee’s output. When directors realize that the Revitalization Act makes them even more financially and criminally liable for this work, you may find that some of them may want additional training. Give it to them!

Hopefully, if you respond proactively to the new legal landscape, you should be able to keep all your directors. Good luck!

 

April 21, 2014 Posted by | New York | , , , , , , , , , , , , | 10 Comments

Is Fraud at Non-profits Significant?

Met Council LogoI recently completed a professional certification at New York University in Non-Profit Accounting & Government Reporting, and the subject that troubled me the most is the rising incidence of fraud at tax-exempt organizations (TEOs). Since 2008, most nonprofits are required to file the new revised IRS Form 990 and disclose any “significant diversions” of their assets. By significant, the Internal Revenue Service means losses of $250,000 or more suffered by the tax-exempt as a result of theft, fraud or embezzlement.

Analysis of this new IRS data reveals that the number (and dollar amounts) of reported diversions is huge, especially here in New York. This was brought to light a couple of months ago by Joe Stephens and Mary Pat Flaherty at the Washington Post after an extensive review of thousands of non-profit filings from 2008 through 2012. (You can read the full story here.) They found that TEOs have been scammed out of hundreds of millions of dollars. And we’re not talking about small, under-staffed TEOs. The victims range from AARP ($250,000 embezzlement) to the Maryland Legal Aid Bureau ($2.5 million). Here in New York, the victims range from well-known hospitals such as Vassar Brothers Medical Center in Poughkeepsie ($8.6 million) to such venerable Ivy-League institutions as Columbia University ($5.2 million).

However, one significant diversion in New York that you will not yet find in a public Form 990 because it is so recent is the case of the Metropolitan Council on Jewish Poverty. Just a few months ago, the Board of Directors of the Met Council (as it is commonly known here in New York) received an anonymous letter alleging an insurance kickback conspiracy between its CEO William Rapfogel and its insurance broker, Century Coverage Corporation. Apparently, Century was inflating the premiums on the insurance plans it sold the Met Council, to the tune of $5 million.  Supposedly, the CEO was kicked backed over $1 million in cash, with his co-conspirators getting the remaining $4 million. Allegedly, some of that $4 million was then funneled back to City and State politicians who had steered government grants to the Met Council.

For those of you not familiar with the non-profit industry in New York City, the Met Council was one of the most venerable and respected social service groups in the Jewish community, with an annual operating budget of approximately $27 million (according to the most recent Form 990 publicly available, which is for year ended 6-30-2011).  Nearly $12 million of the Council’s expenses that year were financed with state and local government grants (in other words, with your taxpayer money).

According to the New York Times, long-time CEO William Rapfogel was so respected in the Jewish community that he was sometimes referred to as “the prince of the Jews”. He was also extremely influential in City and State government circles. He was close, personal friends with the powerful Speaker of the New York State Assembly, Mr. Sheldon Silver, and with many other lawmakers whose friendship he cultivated over the years, and who have directly or indirectly steered millions in City and State grants to the Met Council.

By the way, the owner of insurance broker Century Coverage (a prominent Breslov Hasidim by the name of Joseph Ross) pleaded guilty shortly after his arrest in November. He is said to be cooperating fully with the authorities in the hopes for leniency. Both the current Met Council CEO (William Rapfogel) and the former CEO from 1989 to 1992 (Rabbi David Cohen) were arrested, as was the former CFO from 1991 to 2009 (Herbert Friedman) on a long list of charges including grand larceny, money laundering, criminal tax fraud, conspiracy and falsifying business records. It seems that the scam has been in place since the early 1990’s!

Upon discovery of the embezzlement, the Board acted correctly in firing Mr. Rapfogel and informing the authorities. It should come as no surprise to you that government regulators temporarily froze millions in grants and contracts that had already been approved for the Met Council, pending an investigation. But what should surprise you was how quickly the charity was cleared of any wrongdoing (in less than 60 days).

Even more surprising was that the State required only a few basic reforms of the non-profit, such as putting in place a code of ethics, and policies for conflicts of interest and anti-nepotism. Also, it’s to appoint 2 new independent directors and submit to monitoring of its compliance by an outside inspector general.

That’s it…?!  You might be wondering how could such a large tax-exempt organization not have a code of ethics, or policies to deal with conflicts of interest and anti-nepotism in the first place?  And more importantly, would these reforms have even prevented the fraud?

Equally troubling to me is the fact that the scam was only discovered thanks to an anonymous letter — and not through the Met Council’s auditors or the Board’s audit committee or any government oversight. It’s in these failures by the auditors, the Board and the government agencies that awarded the grants where the real problems lay, not in some deficient code of ethics.

In my opinion, the State should have fired the auditors and all the Met Council’s senior accounting & finance leadership, as well as replaced the entire Board of Directors. In addition, it should have appointed an independent inspector general to investigate and reform its own State agencies that awarded these grants without the proper oversight. Only then are you truly starting to address the problems.

January 21, 2014 Posted by | New York | , , , , , , , , , | 7 Comments

Are U.S. Nonprofits with Operations in Latin America Subject to FCPA?

Nonprofit 3I’ve been consulting for more nonprofits lately, and I’m finding that they tend to make the same basic mistakes when it comes to managing the business side of doing good.  Because of their very nature (usually a lot of their funding comes from well-meaning donations that are specifically restricted for programs, but not overhead), nonprofits typically keep administration, accounting and compliance expenses to an absolute minimum — not realizing until it’s too late that this could be a fatal mistake. As laudable as their program missions might be, nonprofits should not under-budget these often-neglected, non-programmatic departments.

Take the case of U.S. non-profit organizations (NPO’s) doing good in Latin America. Many of them have never even heard of the Foreign Corrupt Practices Act (FCPA), much less set up robust compliance departments to help them navigate the treacherous waters of operating down there.  Yet U.S. nonprofits are very much subject to this law, just like regular for-profit companies.

That’s why I’m sharing the following edited post from the FCPAméricas blog (www.fcpamericas.com) about what U.S. nonprofits operating in Latin America should at the very least understand about FCPA compliance:

“…Risk Assessment

As with for-profit entities, the first step in grappling with FCPA compliance is for a nonprofit to conduct a risk assessment…including whether they operate in high-risk jurisdictions and the degree to which their operations require contact with government officials. Nonprofits often work as contractors for government agencies, often competing with private companies for these contracts. These transactions present FCPA compliance risks…

Other key risk assessment points for nonprofits include:

  1. Local staff or agents. Many nonprofits hire individuals or organizations (often local nonprofits) to carry out their work and act as their agents. As with for-profit organizations, such local hires present heightened FCPA risk and should undergo due diligence. In addition, nonprofits should be alert to corrupt or fraudulent practices from local nonprofits, such as attempts to fund administrative costs by requiring kickbacks from contractors hired to do specific projects.
  2. Management/oversight structure. Many international nonprofits disperse their decision making widely to their people on the ground. At the same time, given the resource constraints facing nonprofits, many have minimal oversight/management resources. Such structures significantly increase FCPA risks while simultaneously limiting the tools available to address them, e.g., internal controls, training, auditing and reporting. Similarly, many nonprofits lack FCPA expertise or even general compliance expertise. This may blind nonprofits to the risks they are facing and inhibit internal reporting…

Reputational Risk

An important factor that may motivate nonprofits to address FCPA risk is reputational risk…[which is far] greater for nonprofits than they are for corporations, since a corruption scandal at an NGO can dry up funding and threaten its existence. Such scandals can arise from engaging in bribery. If a nonprofit is a repeat victim of corruption, this could also suggest mismanagement. Taking steps to reduce FCPA risk will reduce the potential for both types of corruption…

…Technical points

Nonprofits are treated the same as corporate entities under the FCPA. However, nonprofits should consider the following legal wrinkles:

  1. Accounting provisions. Because nonprofits are not “Issuers”, they are not subject to the accounting requirements of the FCPA. Nevertheless, they are well advised to have accounting controls similar to those required of Issuers under the FCPA. Internal controls significantly reduce the risk that an employee or agent of the nonprofit will violate the FCPA’s anti-bribery provisions. Perhaps more importantly, such controls also reduce the risk that nonprofits will be a victim of corruption or embezzlement.
  2. Business Purpose Test. The FCPA prohibits corrupt payments or promises made for a business purpose, which the daring might suggest exempts the activities of nonprofits. That argument is a non-starter, however. In Opinion Release10-02 (2010), the DOJ stated its interpretation that the business purpose requirement would cover nonprofit work. Similarly, as discussed here, the “business purpose” element of the bribery prohibitions included in the UNCAC and the OECD conventions also covers the business of nonprofits…” 

The opinions expressed in the shortened and edited post above from the FCPAméricas blog are those of the author Matthew Fowler in his individual capacity, and do not necessarily represent the views of anyone else, including the entities with which the author is affiliated, the author’s employers, other contributors, FCPAméricas, or its advertisers. The information in the FCPAméricas blog is intended for public discussion and educational purposes only. It is not intended to provide legal advice to its readers…FCPAméricas encourages readers to seek qualified legal counsel regarding anti-corruption laws…

In conclusion, if you are a U.S.-based nonprofit with operations in Latin America, your senior management and Board of Directors should pay close attention to the organization’s FCPA compliance. As you can see, there are several important issues that an NPO must keep an eye on to avoid problems down the road.

If you’re wondering how you’re going to pay for a compliance department (or even just 1 compliance professional or outside consultant, given the preponderance of restricted donations), you should consider modifying your fundraising plan to seek specific support for compliance-related matters. The support could be in the form of grants, of course, but don’t overlook valuable pro-bono training and/or legal advice.

Who are possible donors, you might ask?  Consider calling on larger NPO’s with global operations, international foundations, multinational corporations with large FCPA departments and, especially, U.S.-based international law firms with FCPA experience.

Another possible group of potential donors are multinational firms that have run afoul of FCPA regulations that resulted in severe sanctions. There are many companies that fall under this category (Ralph Lauren Corp., BizJet International, Siemens, Ball Corp., SNC-Lavalin, Helmerich & Payne, Chiquita Brands, Stryker Corp. and Walmart just to name a few). As these firms re-structure to comply with the terms of their government settlements (which usually include MAJOR personnel & procedural changes), these sanctioned companies might be open to the idea of sponsoring the compliance department of a nonprofit like yours, in a contrite attempt to clean up their tarnished images. It would be good PR for them and a great source of funding for you!

November 9, 2013 Posted by | New York | , , , , , , , | Leave a comment

   

%d bloggers like this: