Financial Ratios for Nonprofits: A Comprehensive Guide

Financial ratios are a crucial tool for nonprofits to evaluate their financial performance and make informed decisions. A strong financial ratio can indicate a nonprofit's ability to manage its resources effectively.

Nonprofits with high current ratios, such as 2.5 or above, tend to have better liquidity and can cover their short-term expenses. On the other hand, nonprofits with low current ratios may struggle to meet their financial obligations.

Financial efficiency ratios, like the program expenses ratio, help nonprofits understand how effectively they're using their resources to achieve their mission. For example, a nonprofit with a program expenses ratio of 85% or higher is likely using a significant portion of its budget towards its programs.

Nonprofits with high debt-to-equity ratios, such as 1.5 or above, may be taking on too much risk and should consider debt reduction strategies.

For another approach, see: Using Fund in an Able Account

Financial ratios are a crucial tool for nonprofits to evaluate their financial health and make informed decisions. A lower fundraising efficiency ratio is considered better, and Charity Navigator gives full credit to organizations that spend less than $.20 for every dollar raised.

Nonprofits can use various financial ratios to assess their financial health, including the current ratio, which measures an organization's ability to meet short-term obligations by comparing current assets to current liabilities. A ratio of at least one is considered the minimum threshold, with the goal being two or greater.

To analyze key indicators of financial health, nonprofits can use ratios such as the fundraising efficiency ratio, which shows how much it costs to generate each dollar from contributions. Lower ratios indicate more efficient fundraising efforts.

Here are some key financial ratios to keep in mind:

These ratios can provide valuable insights into a nonprofit's financial health and help inform strategic decision-making.

Program Expenses are a crucial aspect of a nonprofit's financial health, and one way to measure them is through the Program Expense Ratio. This ratio measures the percentage of expenses that a nonprofit organization is spending on its core mission, which is key in the eyes of donors.

Charity Navigator updated its rating system in 2023 and now generally gives full credit to those organizations whose ratio of program expenses is 70% or more of their total expenses. Other agencies, such as the Better Business Bureau's Wise Giving Alliance, recommend a ratio of 65% or higher.

The Program Expense Ratio is calculated as follows: Program Services Expenses/Total Expenses = Program Expense Ratio. This ratio demonstrates how much of the total expenses the nonprofit uses for its mission, rather than administrative or fundraising costs.

A higher Program Expense Ratio indicates that most of the funds go toward the cause, making it a valuable metric for donors and stakeholders.

For more insights, see: Expense Ratio

Fundraising Efficiency is a crucial aspect of a nonprofit's financial health. It measures the efficiency of an organization's fundraising activities, specifically how much it costs to generate one dollar of charitable contributions. A lower ratio is considered better, with Charity Navigator giving full credit to organizations that spend less than $.20 for every dollar raised.

A different take: Financial Efficiency Ratios

The Fundraising Efficiency Ratio can be calculated as Total Contributions/Fundraising Expenses. Ideally, this ratio should be greater than one, with higher ratios indicating more efficient fundraising campaigns.

A ratio of .20 to 1.0 is considered good, and some organizations aim for a ratio of $2.85 for every dollar spent on fundraising. However, it's essential to note that fundraising capacity may take several years to develop, and smaller organizations may dedicate higher proportions of their budget to fundraising.

Here's a breakdown of the key points to consider when evaluating Fundraising Efficiency:

For nonprofits, understanding accounts receivable turnover is crucial to managing cash flow and making informed financial decisions.

The accounts receivable turnover ratio measures the rate at which nonprofits collect their outstanding invoices.

Typically, if a nonprofit's payment terms are net 30 days, you'd expect an accounts receivable turnover of around 12 times per year.

A lower turnover, such as nine times a year, may indicate difficulty collecting receivables on time.

The accounts receivable turnover ratio is calculated by dividing net sales by average accounts receivable.

This metric helps nonprofits identify trends in their aging accounts receivable and take steps to improve cash flow.

On a similar theme: Accounts Receivable Cash Flow Statement

As you navigate the world of nonprofit accounting, you'll quickly realize that it differs significantly from its for-profit counterpart. A nonprofit has two bottom lines: fulfilling its stated mission and providing funding to support that mission.

Nonprofits receive revenue from a variety of sources, including donations or grant income, donated facilities and equipment, and low-paid or volunteer staffs. This unique blend of revenue streams sets nonprofits apart from for-profit businesses.

The infographic below illustrates the measurement of success for nonprofits, highlighting the importance of accountability and compliance in nonprofit accounting methods. Nonprofits must balance their financials with their mission-driven goals.

Here are the key differences between nonprofit and for-profit accounting:

Revenue sources: Nonprofits receive donations or grant income, donated facilities and equipment, and low-paid or volunteer staffs.Bottom lines: Nonprofits have two bottom lines: fulfilling their stated mission and providing funding to support that mission.

These differences require nonprofits to approach accounting with a unique perspective, one that prioritizes mission-driven goals alongside financial responsibility.

Curious to learn more? Check out: Cash Flow vs Net Income

Financial management is crucial for nonprofits to monitor their performance, identify trends, and make informed decisions. Nonprofits should keep in mind that every organization is unique, and not every ratio will make sense for every organization.

Nonprofit financial statements are full of information that can help with decision-making and guide the organization toward its goals. They clearly show a nonprofit's finances, making them especially useful for future budgeting and planning.

Financial statements can be used in various ways, including budgeting and planning, fundraising strategy, program evaluation, risk management, and stakeholder communication. Here are some ways financial statements can help:

The administrative expense ratio is a key metric in financial management. It measures the percentage of an organization's expenses that go towards administrative costs.

This ratio is often misunderstood, with some people believing that organizations shouldn't spend money on administrative expenses. However, this is unsustainable and can be detrimental to an organization's ability to stay competitive and keep up with technology and infrastructure.

The administrative expense ratio should be less than 35% as a general guide. This is a benchmark that many organizations strive for.

Administrative expenses include costs such as salaries, rent, and utilities. These expenses are necessary for an organization to function effectively.

Charity Navigator, a well-known agency, has removed the administrative expense ratio from its rating system. This is because the ratio can be misleading and doesn't tell the whole story of an organization's financial health.

Related reading: How Often Are Expense Ratios Charged

Financial management is a crucial aspect of running a nonprofit organization, and one key area to focus on is government reliance. The government reliance ratio measures a nonprofit organization's reliance on governmental funding, which is a critical factor to consider, especially when overall levels of government funding are declining.

This ratio is calculated by dividing government grants and contributions by total revenue, and the higher the ratio, the more vulnerable the organization is to funding cuts. Organizations with high ratios should consider diversifying their revenue sources to ensure continued support for their programs.

Government reliance can be a double-edged sword - it can provide a steady stream of funding, but it also leaves organizations vulnerable to changes in government priorities or funding levels.

Personnel Expenses are a significant expense for many organizations, and understanding how to manage them effectively is crucial for financial health.

The personnel expense ratio is a key metric for evaluating personnel expenses, and it's calculated by dividing total salaries, wages, and benefits by total revenue.

This ratio can vary significantly depending on the organization's services and operations. For example, an organization that provides counseling services may have a higher ratio than one that provides information and advocacy.

Organizations should look for trends in this ratio to identify potential inefficiencies in operations. If the ratio is increasing, it may indicate that it's costing more to generate the same level of revenue.

By monitoring and analyzing the personnel expense ratio, organizations can make data-driven decisions to optimize their personnel expenses and improve their financial management.

Consider reading: Financial Audit Services

Cash Reserves are a crucial aspect of financial management for any organization, including nonprofits. The cash reserves ratio measures the adequacy of an organization's resources that are available to support its mission. This ratio looks at how many months of cash are on hand to cover expenses, with a recommended range of three to six months.

The cash reserves ratio is calculated as Unrestricted Cash and Liquid Investments/Average Monthly Expenses (Less Depreciation and Other Noncash Expenses). This calculation helps determine how long an organization can continue operations without any incoming revenue.

Having cash reserves can help sustain an organization in case of unexpected declines in revenue sources. However, a too-high operating reserve may indicate that the organization is missing opportunities to further its mission.

Here's a breakdown of the recommended cash reserves ratio:

Maintaining a healthy cash reserves ratio is essential for an organization's financial stability and long-term sustainability.

Accounting is a crucial aspect of financial management, especially for nonprofits. It helps them keep track of their finances, making informed decisions about resource allocation and risk management.

Nonprofit accounting is focused on accountability, which means being responsible for how funds are used. Transparency is also a key goal, ensuring that financial information is easily accessible to stakeholders.

Nonprofits must comply with legal requirements, which can be complex and time-consuming. Efficient management of resources is essential to achieve financial stability over time.

Financial stability is closely tied to fundraising effectiveness, as nonprofits need to balance their income and expenses to sustain their operations.

Financial Analysis is a crucial step in understanding a nonprofit's financial health. It's not just about numbers, but about finding insights that help us make informed decisions.

A key indicator of a nonprofit's financial health is the Current Ratio, which measures its ability to pay short-term obligations. A ratio greater than one indicates the organization has enough resources to cover its immediate liabilities.

To assess fundraising efficiency, we look at the Fundraising Efficiency ratio, which shows how much it costs to generate each dollar from contributions. Lower ratios indicate more efficient fundraising efforts.

The Program Expense Ratio is another important metric, demonstrating how much of the total expenses the nonprofit uses for its mission. A higher ratio indicates that most of the funds go toward the cause rather than administrative or fundraising costs.

Here are the key ratios to focus on:

By analyzing these ratios, we can gain a better understanding of a nonprofit's financial health and make informed decisions about its future.

Financial Tools are a nonprofit's best friend. Viewing financial statements as powerful tools is a game-changer for nonprofits.

Nonprofit financial statements can show strengths and weaknesses, ultimately contributing to the nonprofit's success.

Nonprofit accounting courses can teach essential skills to strengthen accountability and avoid costly mistakes.

You can use key performance indicators (KPIs) to quantify the level of success of your nonprofit. For example, if you raise $530,000, you can easily see that you've exceeded your goal of $500,000.

Nonprofit financial ratios are calculations used to measure your organization's financial state and determine the financial health of your organization.

Nonprofit finance teams use KPIs to define financial success, measure the health of the nonprofit, and manage the financial standing. These KPIs are often derived from nonprofit financial ratios.

Take a look at this: Why Is It Important to Reconcile Your Bank Statements

Financial benchmarks are a crucial tool for nonprofits to evaluate their performance. They provide a way to compare financial data with peer organizations.

Not-for-profits often develop multiple benchmarks, such as peer and aspirant institutions, to get a more comprehensive view of their financial situation. This enables them to assess their progress and identify areas for improvement.

Ratios can be useful tools for monitoring a nonprofit's financial position and operations, but they should not be the sole focus. It's essential to interpret ratios carefully and not rely on conventional wisdom.

For instance, research has shown that not-for-profits should not feel pressured to lower overhead ratios, as investment in overhead is often critical to mission success.

Financial Indicators are key to understanding a nonprofit's financial health. A Current Ratio greater than one is a good sign, indicating the organization has enough resources to cover its immediate liabilities.

The Current Ratio is calculated by dividing Current Assets by Current Liabilities. This ratio measures the nonprofit's ability to pay its short-term obligations.

Fundraising Efficiency is another important indicator. It's calculated by dividing Fundraising Expenses by Contributions. Lower ratios indicate more efficient fundraising efforts.

The Program Expense Ratio shows how much of the total expenses the nonprofit uses for its mission. Higher ratios indicate that most of the funds go toward the cause rather than administrative or fundraising costs.

Here are the key financial indicators in a quick reference format:

Exhibits and Appendices are a crucial part of financial analysis for nonprofits, providing a visual representation of the data and making it easier to identify trends and areas for improvement.

Exhibit 2 presents a benefit of trend analysis, which is that it identifies deviations in ratios, such as the unusually high liquidity values in Year 1, a 46% decline in cash from Year 1 to Year 2 would almost certainly merit investigation.

The presentation of five years of ratios, as seen in Exhibit 2, provides a context for unusual amounts, making it easier to determine which year was abnormal.

In Exhibit 2, the savings indicator exhibits the greatest year-to-year fluctuation, with a 20% decline in contributions in Year 3 causing a deficit, but the indicator returned to positive in the subsequent year.

Exhibit 3 presents the current year financial ratios of the selected YMCA and average values for a sample of 10 peer YMCAs, with the peer YMCAs being from similarly sized cities within the same geographic region.

To ensure comparability, the peer YMCAs are selected based on geographic proximity, as real estate, utilities, and other costs vary across regions.

The value of benchmarks as an evaluation tool is dependent upon the selection of an appropriate peer group, and not-for-profits vary widely in mission, activities, and funding sources.

In many instances, not-for-profit managers will be able to identify organizations with similar missions, and trade associations and networking opportunities can also be useful in identifying peers.