Friday, June 19, 2009

The Future of Financial Accountability

Can you resist a good “top ten” list? I can’t, and here is a whole bunch of them from Charity Navigator (CN) that prominently feature museums. Some are lists that any organization would like to appear on—10 Best Charities Everyone Has Heard of (National Gallery of Art); 10 Charities Expanding in a Hurry (they mean it in a good way and give kudos to the Louisville Zoo.) Some must be making a few museum directors cringe or fume—such as 10 Highly Paid CEOs at Low-Rated Charities. Besides being addictive reading, these lists and the way they are generated provide an instructive glimpse of the future of nonprofit accountability in the United States I think they also throw down a challenge to the field to start a public conversation about how we will be judged and reported on.

For those of you who are unfamiliar with Charity Navigator, it is a nonprofit organization that evaluates charities based on their publicly available IRS 990 statements. Their purpose is to help donors decide which charities would make good use of their money. To do this, they run financial ratios (like program expenses as a percent of total expenses) to assess organizational efficiency and sustainability. Using these ratios, they assign a charity 0 to 4 stars (like the Michelin Guide or Yelp), as well as offering helpful lists of “charities performing similar types of work” and their ratings for comparison.

On a conceptual level, I think this is great. The past couple decades have seen a trend towards higher public expectations for nonprofit transparency and accountability, and I think this will continue. Museums need to prepare for a future in which donors and citizens who support nonprofit museums through their tax dollars want detailed information on how those funds are being used and benchmarks by which to evaluate the results.

Ideally, we can find a way to this that does not impose a burdensome reporting requirement on museums. Heaven knows it is already laborious enough to fill out an IRS 990 and having filled it out, it is natural to look to it as a primary means of accountability. But, while it’s all very well for an organization to say “our 990 is on the Web,” most people don’t have the vaguest idea how to interpret the numbers. (Though they can have fun looking up the salaries of the director and senior staff.) A website, or better still, multiple sites, running ratios, offering analysis and benchmarks could be a real boon to donors and the field. So, good on Charity Navigator for the concept.

But I have a beef with the way this is actually playing out. As a researcher and statistician myself, I am painfully aware that just because something is expressed in numbers (and the math is done correctly), doesn’t mean it’s true. Numbers can be misinterpreted as easily, maybe more easily, than words. So it is incumbent upon any group or individual interpreting museum financial numbers to do so with a great deal of caution and some humility regarding the limits of any methodology.

Applying straightforward ratio analysis to museums is tricky enough. Sure, it is reasonable to expect that a nonprofit not have bloated administration. But many museums have huge infrastructure burdens in the form of collections and historic buildings, driving up the costs of building maintenance, insurance, HVAC costs, etc. Staff at CN assure me they take this into account when rating museums on the main page for each organization. (And, they point out, they are happy to add comments and addenda submitted by the rated charities. You might want to check your page and see if you want to take them up on this offer.) However, since its inception in 2002, the site has evolved from straight-forward reporting of financial ratios to adding opinion pieces, donation tips and top and bottom-10 lists that rank efficient and inefficient organizations in a number of categories. Hence the lists I cite at the beginning.

The current “Top Ten Charities Stockpiling Your Money” demonstrates how problematic this becomes. Seven of the ten charities on this list are museums, when museums only constitute 4% of the charitable sector. Does this mean museums are the Grinches of the nonprofit world? I don’t think so. I think it reflects the application of financial benchmarks that don’t suit the way museums work. CN introduces the organizations featured on this list as follows: “Each has stockpiled at least two years of reserves in the bank. Each has grown its revenues at least 25% for each of the past three to five years. Despite those deep pockets, these charities operate stagnant operations, expanding their programs by less than the rate of inflation (3%). Shouldn't all that cash be used more aggressively?”

Let’s pluck the top two from this list to examine in detail. Historic New England, listed as number 2, has had some hard times recently (as have many museums) running operating deficits in two of the three years covered by CN’s calculations (’05 and ’06) with a healthy recovery to a surplus in ’07. So, yes, it increased its income without increasing its expenditures commensurately—because it was balancing its budget and rebuilding its reserves. During this same time period Cleveland Museum of Natural History (#1 on the list) merged with and absorbed the assets of two other nonprofits—EcoCity Cleveland and Healthspace. For one thing, this makes it almost impossible to compare one financial year to another in this span (since it arguably became a different, bigger organization.) For another, it takes time to assimilate, repurpose and deploy assets on this scale. CMNH is just now beginning to reap the benefits of a fledgling distance learning program adopted as part of the Health Space portfolio, projecting a 60% increase in audience served. So that program did, in fact, expand, but after a 3 year lag taking on the initial assets.

Which brings up one of the issues that I think makes the some of the CN methodologies ill-suited to museums. They are based on 3 years of data, but many major financial events in the life of a museum (notably capital campaigns and building projects) play out on a longer time frame. In the case of Historic New England, the “stockpiling” reflects in part the rebuilding of investments decimated by the financial downturn following 2001. The organization actually has a very aggressive spending rate on its endowment—4.75 to 6.1%—exceeding IRS recommendations. But HNE uses a conservative 20 quarter rolling average on which to apply that rate. That means that a windfall from increased value of investments will be slowly be disbursed over 5 years, and the financial impact of financial downturns will last an equally long time.

This is particularly notable because museums rely on endowment income as an important component of their funding. The recent financial crash aside, trend data from the most recently completed AAM Museum Financial Information Survey (to be released in August 2009) shows that reliance on investment income has grown over the last decade relative to the others sources of museum income (government, private donations, earned revenue.)

Maybe it’s easy for me to snark about Charity Navigator because I am deeply immersed in the very specialized (dare I say geeky) world of museum finance. But I will note that I had no special knowledge about either Historic New England or CMNH when I looked askance at CN’s listing. While I did call the directors of both institutions for confirmation, my general theories regarding the story behind their numbers were drawn from public information on their websites and in the news. CN has chosen not to do this kind of investigating reporting to check the appropriateness of tagging charities as wasteful or inefficient. That being so, it behooves us as a field to be vigilant about such listings.

In the end Charity Navigator is just an example of a larger phenomenon to which museums need to respond. If we let outside groups set the terms of the discussion, be it the government in the form of the IRS with its newly expanded interest in nonprofit accountability or private groups such as CN, we may not feel the results are fair or appropriate. But what have we as a field offered as an alternative?

Here a few steps I challenge you to take:
• Look up the rating of your institution (or your favorite museum) on Charity Navigator. Do you agree with their assessment of your financial condition? Have they selected appropriate peer institutions for benchmarking? Do you appear on any of the Top 10 lists?


• Do a scan to see how your museum presents financial and other performance data to the world. What is on your website? In your annual report? Is it sufficiently detailed and compelling to shape donor perceptions? Do you have a model for reporting (c.f. the Indianapolis Museum of Art’s dashboard) that could serve as a model for other organizations?

• What could we be doing as a field to shape the future of nonprofit accountability? Now would be a good time to put together a session proposal for the 2010 annual meeting in Los Angeles. Make it a working session and set a goal of coming up with a plan for creating a standardized set of financial benchmarks for museums or recommended guidelines for assessing financial performance. Invite someone from Charity Navigator to participate!

Comment here or e-mail me at futureofmuseums@aam-us.org to share your thoughts.

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