Overhead is a touchy subject for many nonprofits. Donors who want most or all of their contributions to support an organization's cause may be overly critical of administrative costs and other overhead. Nonprofits, in turn, often feel pressured to keep overhead down and so may misrepresent those costs, reinforcing donors' unrealistic expectations.
Tom Tierney, chairman and co-founder of Bridgespan Group, a nonprofit consultant to nonprofits, has written a paper, "The Donor-Grantee Trap," with Richard Steele. Mr. Tierney spoke with Veronica Dagher of Dow Jones Newswires about how a "starvation cycle" is dangerous to charities and the people they serve. Here are edited excerpts of their conversation.
MS. DAGHER: Are nonprofits overpromising to donors when it comes to not using money for overhead?
MR. TIERNEY: In general, yes. Nonprofits want to say they're putting donors' money to work and doing great things. They may understand potential donors may not want to give if they think the money will be used for a pay raise for the nonprofit's staff, for example. Donors may not realize that a pay raise for the staff is necessary for staff retention and the continuity and growth of the organization and its programs. It's no one's fault, but expectations are somewhat decoupled from reality.
MS. DAGHER: How widespread is the problem among nonprofits, and what are the implications?
MR. TIERNEY: The starvation cycle is pervasive. Without the necessary investments in overhead, without a doubt the organization underperforms. It can't meet expectations, it becomes difficult to retain high-quality talent, it may not have the systems to report the information donors request. It might be hampered in attracting new funding and in ultimately serving the people it aims to serve.
MS. DAGHER: What's your advice for nonprofits?
MR. TIERNEY: First, nonprofits should be clear about their definition of success, articulate their strategy for achieving success and be up front about what that costs. That includes understanding the organization's true overhead costs and making a case for funding good overhead. If an organization needs a new IT system to properly track program results, then it needs to be clear about that when making the case to donors.
Second, organizations need to be willing to invest in overhead. As much as an organization might want to give every last dollar to the children or other beneficiaries it's serving, investing in a new IT system may make it more effective, with greater impact in the long run.
Third, nonprofits need to engage their board so the board champions the organization getting the right resources.
Last, organizations need to educate their donors. Be honest with donors about what it takes to get the job done, why the expenditure is required, and be transparent in where the dollars are going.
MS. DAGHER: How can donors help?
MR. TIERNEY: Donors can help by changing their attitude about overhead and understanding there is good overhead and bad overhead. Hiring quality executives, for example, might be an example of good overhead, which the organization needs to deliver results.
Donors also need to let go of an arbitrary overhead figure of 10% to 15%, for example, and rather focus on what costs are necessary to get the job done. Where possible, it's helpful for donors to provide unrestricted grants.
MS. DAGHER: Are nonprofits' fund-raising costs more of an issue for many donors than CEO salaries?
MR. TIERNEY: Fund-raising costs are generally far greater than actually reported, in part because it's challenging to capture the true cost of the time nonprofits have to invest to raise money.
The issue with nonprofit executive salaries, not just CEO salaries, is that they are generally too low, not too high. With the possible exception of a tiny number of CEOs running huge nonprofit organizations, most nonprofit managers are relatively poorly compensated given their responsibilities—making it a challenge to attract and retain top talent. Investing in the human capital of a nonprofit is a fine example of good overhead.
Ms. Dagher is a reporter in New York for Dow Jones Newswires. She can be reached at email@example.com. This article has been re-printed with permission from the Bridgespan Group.