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Understanding Nonprofit Board Financial Reports

As a part of a nonprofit board’s fiduciary responsibility, it’s important that board members understand their organization’s financial reports.

Don’t assume they know what the numbers or terminology mean.

How can you make sure they understand?

Ask individually if they have questions. Avoid asking in a group setting where someone may not want to admit to their peers they’re not sure about the financial information that’s being shared.

Another suggestion would be to include reviewing a sample financial report in new board member orientations.

To help board members gain a better understanding of financial reports, I asked James Halleran of James Moore & Company to share this guest article on what board members need to know about financial reports.

 

Financial Must-Knows for Nonprofit Board Members

By James Halleran, CPA – James Moore & Company

Executive directors and treasurers aren’t the only ones responsible for your nonprofit’s financial wellbeing. As a board member, you also have a role to play — and a crucial one at that. Your board has a multitude of responsibilities when it comes to governance, compliance, strategic objectives and more. And those responsibilities are all tied to your organization’s finances.

As a result, you’ll need a solid understanding of the general financial matters your organization faces. Here’s a rundown of what every nonprofit board member should know.

Budgeting

Creating and monitoring a nonprofit’s annual budget is a vital responsibility of board members. A well-crafted budget ensures your organization remains financially viable, aligns its resources with its mission and maintains public trust.

While the task itself is typically done by a finance committee, the full board will review and approve it. So board members must understand basic budgeting concepts like revenue vs. expenses, fixed vs. variable costs, the concept of a fiscal year, etc. You should also make sure the budget allocates funds to an emergency reserve and aligns with strategic priorities.

Once a budget is established, nonprofit board members should be involved in regular monitoring. Frequent (monthly or quarterly) budget-to-actual comparisons help you identify discrepancies that could point to performance issues, mismanagement or even fraud. By monitoring your budget regularly, you can make timely adjustments in strategy or address concerns before they grow into larger issues.

Revenue Sources

The fewer revenue sources you have, the greater the hit your nonprofit will take if one suddenly dries up. Board members should strive for diversification of income — a combination of individual donors, public/private grants, etc. — to mitigate that risk and ensure sustainability.

You should also understand the concept of restricted funds. Sometimes the gifts and grants your nonprofit receives are restricted  by donors or grantors for a specific purpose. Violate those requirements and you risk losing such revenue sources going forward. Take the time to understand the basics of donor-restricted funds and how they’re managed and allocated.

 

Expense Management

Board members should understand the difference between program expenses (those associated with work that carries out your mission) and operating expenses (those attached to the day-to-day administrative running of your organization).

Donors are more likely to give to your organization when more of your expenses support your mission-related work. So know the importance of controlling administrative expenses and ensuring most funding goes toward program expenses.

Financial Reports

You and your fellow board members can be held accountable for your nonprofit’s performance — making your ability to read and interpret financial statements crucial. There are four main parts to these statements:

  • Statement of Net Position (also known as the balance sheet) – Includes your assets, liabilities, and net assets
  • Statement of Activities (also known as your income statement) – Includes your revenues and expenses
  • Statement of Functional Expenses – Provides a breakdown of your expenses by function/purpose
  • Statement of Cash Flows – Details cash inflows and outflows from one day to another (divided into operating activities, investing activities and financing activities)

It’s a board member’s responsibility to be familiar with the details on all four of these sections.

You should also know how to find and evaluate the key performance indicators (KPIs) at your organization. These statistics and figures help you understand whether your organization is financially healthy and on track to meet its objectives.

Financial Oversight and Accountability

So you’ve got a sound budget and know how to read your financial statements. You’re set, right?

Not quite. Fiscal responsibility also includes consistent oversight to ensure good performance. And this starts with understanding your organization’s financial internal controls — the checks and balances to help prevent fraud and errors. Your role as a board member means you have several responsibilities in this vein, including (but not limited to):

  • Regular review of financial reports
  • Setting the tone for ethics, transparency and accountability
  • Thoroughly vetting executive leadership hires to make sure they’re committed to solid internal controls
  • Developing/approving policies for sound financial management, conflicts of interest and whistleblower protections.

Also pay close attention to your nonprofit’s annual financial statement audit report. This should be presented at your board meeting by the accounting firm that performs your audit. In addition to the results, they could also go over your IRS Form 990. This required tax form shows your compliance with nonprofit requirements and demonstrates to the federal government (and the public) how you spend your money.

So take a close look at those audited statements and your 990 at that meeting.

Cash Flow and Liquidity

Your nonprofit’s health depends in part on cash flow and liquidity (the ability to quickly generate cash from your assets. So board members need to be well informed in these areas. Regularly review cash flow statements to understand the inflow and outflow of cash at your organization. This helps you better predict your ability to meet financial obligations. Also familiarize yourself with your assets and liabilities to be aware of what you can liquidate if needed.

Reserves (your rainy day fund) are an important part of this equation as well. This is your nonprofit’s safety net that helps you navigate economic downturns, unforeseen expenses and funding fluctuations. Create policies that specify the amount you’ll keep in reserves and how much should be contributed monthly (when possible). Also specify clear guidelines on when and how reserve funds can be used. Dipping into reserves should be done judiciously, with an understanding of the implications and a plan for replenishment.

Don’t Stop Learning

One final note: Continuous learning and staying updated on financial matters is a key to better serving your nonprofit as a board member. Participate in financial training and workshops, and encourage your fellow board members to do so as well. And consult with a nonprofit CPA for specialized matters or concerns when they arise. 

 

Thank you James Halleran for sharing your expertise to benefit our nonprofit community.

What does your organization do to ensure your board members understand financial reports?

 

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