Best Practices in Managing Your Nonprofit Operating Budget

Accurate budgeting is critically important to the success of any business and especially important for arts and cultural organizations that may have stretched resources, fluctuating funding, and/or heavy reliance on specific funders. An operating budget is a key tool in effectively and efficiently achieving the organization’s stated purpose, and should align with your organization’s strategic plan. A well-formulated operating budget allows for best use of limited nonprofit resources and sets the course for the organization.

AAFCPAs highlights for your consideration some best practice recommendations for managing your nonprofit operating budget

• Assess Key Trends and Ratios – In the beginning of the operating budget process, AAFCPAs encourages clients to “step back” and assess their financial position. Look at key trends and ratios over the last three to five years, including:
  • Operating results (“profits”)
  • Level of operating reserves (without property and equipment, Board-designated, and donor-restricted net assets)
    • What is the number of months of operating expenses in operating reserves?
    • Trends in operating results and reserves over time
  • Liquidity – such as current ratio, cash trends, and collectability of receivables
  • Leverage – such as debt/equity ratio

Ask yourself: “If past trends continue, what will the impact be? If reserves are low, what’s the plan to build reserves?”

Determine if any trends need to be course-corrected, and make this part of your organization’s financial plan and budget.

• Use Zero-Based Budgeting – AAFCPAs recommends zero-based budgeting as a good approach to resource and budget planning because it forces a reevaluation of all assumptions each year. This involves starting annually from a blank budget and analyzing each program’s expenses for the current budget cycle, taking into consideration the program’s goals and future plans. What are the nuances of each individual program that impact costs, and are there new or creative opportunities to redesign cost structures and add to program efficiency?

• Assess Each Program – Look at the financial trends for your programs over the past few years, and assess if each program is covering its direct costs, or contributing to overhead. If a program is not a “core” mission program and it’s not covering its direct costs, has there been meaningful discussion about the value in continuing the program? If a program is a “core” program, but not covering its direct costs, or not contributing to overhead, have you considered ways your organization may improve the financial results? For example, if an arts education program is not covering its costs, is there a way to develop additional donations specifically for that program?

• Assess Other Important Factors and Risks – Important factors that may affect your organization’s ability to plan effectively and stay on budget may include:
  • Potential changes to fixed costs and obligations – Do you have a lease term set to expire which may result in a rent increase? Or, are you renegotiating a labor contract, which may impact labor costs?
  • Revenue concentrations and related risks – Do you have one funder who provides a significant portion of the organization’s support and a plan in the event that funding was to cease?

To Read More →  Visit AAFCPAs Online.

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