Financial considerations for NFP survival

In her AICD webinar COVID-19: Financial considerations for NFP survival, Roslyn Jackson FAICD spoke about the urgent cashflow challenges currently facing NFPs, five immediate actions that can be put in place and boardroom considerations for forecasting and end-of-year reporting.

For many NFPs, the COVID-19 crisis has presented acute financial stress that needs to be effectively managed. Revenue sources have tightened and program obligations remain or, in some instances, have increased. Directors must ensure existing funds can service the organisation in the short term and at the same time plan for a potential pivot towards a longer-term survival scenario. Of paramount consideration is the organisation’s cash position and boards need to keep a careful eye on solvency to ensure they can continue to meet financial obligations as and when they fall due.

As they consider how their organisation can come out the other side of lockdown and through the social and economic crisis, key questions NFP directors should be asking include:

• Do we have enough funding to keep operating? How much ‘runway’ do we need?
• What actions are we taking to manage working capital?
• What funding options have we explored, or are available?
• How comfortable are we that management has explored all avenues to maximise cash?
• How many scenarios has the business considered?
• What can we learn from our peers and competitors about managing cash in this crisis?

Current challenges: cashflow and the inability to deliver services

While 60% of webinar respondents felt somewhat confident that their NFP organisation will recover from the COVID-19 crisis, almost all recognised that the uncertainty of moving out of lockdown (the next eight weeks) is likely to be more difficult to navigate in terms of client service delivery and cashflow than the recent lockdown (the first eight weeks). This is because the sector is still navigating the speed at which it needs to move out of lockdown, with vulnerable organisations more likely to move forward slowly and cautiously.

For most NFPS, the two – often interrelated – pain points are cashflow and the inability to deliver services.

Cashflow issues:

• Continued fixed and variable costs with reduced income
• Reduced donations
• Loss of event and sponsorship income
• Reduced payments and co-payments from clients
• Payback of underspends on funding agreements
  (This is likely to be a significant issue coming up to year-end and it is crucial for affected NFPs to be talking to their funding bodies to see if they will be chasing underspends at year-end or will allow roll overs. DFAT is allowing an up to 40% roll over.)
• Loss of future grants and other critical funding agreements
  (The GFC saw cutbacks on grants; given there’s been a lot more stimulus spending in the COVID-19 crisis then it’s probable that government and funding bodies will be looking at areas they can cut back.)

With regards to funding body communications, Ros Jackson emphasises “If you’re on the front foot talking to your funding bodies, and obviously they have their own appropriations legislation that they have to comply with, a lot of them are likely to be as flexible as possible in the current circumstances”.

Service delivery issues:

• Service delivery is prevented due to lockdown
  (This depends on whether or not the NFP provides an ‘essential service’. However even for essential services there may have been a drop off due to confidence: staff health concerns, reduced volunteers, cancellations from client groups, etc.)
• Staff concern over personal protection
• Clients cancelling appointments
• Reduced volunteer support
• Incomplete delivery against service contracts
  (This raises the questions: Will there be a requirement to payback grants? Have appointments been cancelled in fee-for-service arrangements?)

Five immediate financial actions for NFPs to put in place

1. Improve business visibility on key financial indicators.

“Key financial indicators [KFI] need to be at the forefront – that we’re talking about them and that they’re visible for the organisation”, says Ros.

It’s important to have a good board discussion about what are the KFI that mean something to the organisation and then, if required, change the ratios and the metrics to better suit the organisation’s business.

Typically, cash flow metrics include operating cashflow, operating cashflow v EBITDA and cashflow forecast accuracy. Working capital metrics include average days receivables (days to get paid), average days payables (days to pay suppliers), average days inventory (days inventory in stock) and current ratio.

“The motto ‘what gets measured gets improved’ is paramount in these times”, advises Ros. “Make sure you are carefully managing cash – tracking how quickly you’re receiving it and how long it is taking you to pay invoices – and that you’re mindful of the impact of government stimulus packages may be creating an unsustainable reinforcement [for example, JobKeeper that is scheduled to end in September].”

2. Quickly introduce/strengthen the cash culture

Set the tone from the top and ensure cash, and its importance, becomes a part of the vocabulary at all organisational levels.

There needs to be a strong consideration of cash visibility throughout all decision making. If the organisation has a good KFI story, then this will boost confidence. If not so good, it needs to be positioned in terms of steps being taken to improve it.

Accuracy is key, as cash is less forgiving than profit. Upskill and ensure the basics are known well and reinforced and ensure there is a financial governance framework that promotes accountability – that is, who is accountable for what – noting that measuring forecast accuracy is a key enabler.

“Accounting staff can talk duration scenarios with frontline staff to reinforce the solvency landscape.”

3. Be creative with service delivery

Deliver online and social distance service variants (for example, virtual rather than physical exhibitions, or carpark/ drive-through congregations, or tele-health consultations).

Do not assume technical illiteracy among clients and employees – there’s a lot of established online competence that makes digital communication an easy transition.

Consider lessons learned in terms on longer-term strategic directions.

4. Consider all P&L and balance sheet levers

In times of financial crisis, it’s important to look at levers on both sides of the income statement and the balance sheet.

Income statement levers include:

• Diversify revenue streams:
  - consider on-sell services (expanding your offering to your client base, within funding agreements);
  - consider what will be needed first post-COVID-19 (for example, focus on physical connections coming out of lockdown);
  - explore creative fundraising (for example, online auctions or social distance events);
  - contact corporate sponsors (for example, with an alliance/partnership proposal rather than handout request);
  - consider emergency appeals (this may be a difficult area because of unprecedented 2020 drain on emergency funds);
• Identify areas to improve operating margins (for example, streamline processes, emphasise electronic processes for staff and clients, and cut printing costs and convert to digital formats);
• Reduce once-off, non-essential costs (for example, look at office environment savings, and consider trialling automatic renewals);
• Right-size workforce costs (for example, can remote working arrangements be viably bedded into the longer-term);
• Speak to funding bodies (for example, for a once-off or sustained increase in funding based on current needs); and
• Maximise the benefit of government stimulus packages (for example, cash bonus, Job Keeper and apprenticeship/trainee support).

Balance sheet levers include:

• Invest cash holdings (difficult given current interest rates);
• Collect at point of sale (POS) as a way to bolster credit collection;
• Negotiate timing of payments, and repayment obligations, with your funding bodies;
• Negotiate more favourable terms/processes of outgoing payments;
• Release liquidity from non-current assets (for example, sell the building and lease it back);
• Recalibrate the current inventory processes (for example, reset demand forecasts, introduce just-in-time stock levels, purchase in bulk through the supply chain); and
• In the long-term, strengthen balance sheet equity (for example, ensure your NFP begins to make a surplus in order to protect the organisation’s future).

5. Start to plan for recovery

Following the immediate cash crisis management stage – where the focus is on survival by maintaining solvency, scenario planning and initial stakeholder management – the recovery stage takes a 4-6-month future view with a focus on remobilising.

This recovery stage includes:

• reinvigorating service delivery;
• reviewing staffing requirements;
• resetting ongoing working capital requirements; and
• improving working capital performance throughout the organisation

The subsequent normalisation stage takes a future 12-month view and focuses on opportunities.

The normalisation stage includes:

• resetting the strategic direction for the new environment;
• optimising the most cost-effective supply chain;
• articulating the new value proposition, threading it back to your vision/mission;
• adjusting working capital to help stabilise the business; and
• consideration of sharing resources with like-minded organisations (vertically) or across the NFP sector (horizontally).

The final stage of full recovery takes on a cultural theme and emphasises the ongoing sustainability of the organisation post-COVID-19, with a focus on agility in order to deal with future ‘black swan’ events. In this sense, it’s less of a stage and more of a constant state where:

• monitoring performance and risk becomes BAU;
• performance improvement is ongoing; and
• consideration of the M&A landscape delivers potential strategic alliances

It’s important to envisage a future operational model and plan for sustainability. These plans may include delivering services differently or finding other ways to get better value for money for the organisation. However the organisation decides to pivot, it needs to ensure that it is still delivering on its mission.

Three long-term considerations for long-term planning include:

• Safeguard how you do business:
  - If there are staff shortages in your sector, are you an employer of choice?
  - Why do volunteers want to volunteer for you?
  - Are there manual backup operational processes, in case of another black swan event?
  - Are we reliant on risky overseas suppliers within our supply chains?

• Optimise efficiencies:
  - How can we continue to get better value for our dollar?
  - What strategic alliances/partnerships exist, from M&A opportunities to sharing resources through a hub with other organisations

• Strengthen the balance sheet:
  - How long can we survive if this happens again?
  - What are our total liquidation costs?
  - How can we operate with a surplus in order to increase equity on the balance sheet?

Monitoring funding contracts

“Funding bodies are being flexible and may be able to move grants around in different areas, within grant guidelines,” says Ros. “This may deliver some confidence for meeting contract service deliverables this year.” Equally, this does open the concern of 2021, and how rollovers from 2020 will be accounted for in 2021 in terms of how many clients are taken on and how much funding is provided.

In terms of managing funding bodies and grant acquittals, it is important for relevant NFPs to:

• monitor their service delivery against each grant received, tracking non-deliverables and underspends;
• keep the funding body informed so that they can provide assurances (in writing) that will determine your NFPs going concern status;
• understand year-end implications: what are the payback and roll over options? what costs can be incurred while not delivering against the contract? what level of admin and overheads can be claimed and acquitted? and
• be creative about delivery, as long as grant guidelines are maintained.

Cashflow forecasting and liquidity

Some of the common pitfalls with cashflow forecasts in today’s environment include:

• omission of government initiatives and their timing;
• timing of customer receipts (with customers having difficulty making payments);
• timing of membership payments, if they were invited to delay their payment
• (Note that the membership payment delays may also have a knock-on effect at AGMs as only financial members can vote at it);
• more regular cashflow reporting updates may be difficult for organisations with a volunteer treasurer with limited time.

This COVID-19 crisis presents many unknowns for NFPs, which reinforces the merit of factoring the probability of success of various grants and projects to be delivered this year into cash forecasts.

Director responsibility with cashflow forecasts hinges on being able to answer end-of-year questions regarding going concern and solvency. It’s important to take a holistic view of liquidity and look at different areas of the balance sheet that could be hiding cash: donations from key corporate sponsors, terms of trade, funding underspends, cash holdings, rates of collection from receivables, funding payments, and other assets that could be liquidated.

Boardroom considerations for end-of-year reporting

The following are questions directors should be asking about their organisation’s end-of-year reporting.

• Going concern:
  - Have we accurately forecasted budgets and cashflows?
  - Do we have a view on the worst-case scenario?
  - Have we taken a conservative approach to our assumptions?
  - Are we in communication with our key donors/sponsors?
  - Can projects be deferred or ceased?
  - Have we prioritised our most valuable services?
  - Are we protecting staff and clients, in this sense to ensure there are no future WHS or litigation issues?
• Revenue recognition:
  - How have we recorded income on contracts that recognise when specific performance obligations are met? (AASB 15 Revenue from Contracts with Customers)
  - How have we recorded income on contracts where we control the funds? (AASB 1058 Income of NFP Entities)
  - Have we correctly recorded income for constructed and acquired assets? (AASB 1058 relating to capital grants)
• Leases:
  - Have leases been capitalised onto the balance sheet? (AASB 16 Leases).
• Other:
  - Has anything changed to deliver an asset value impairment?
  - Do we have the correct allowance for doubtful debts?
  - How are we reporting post balance date events?
  - How are we accounting for government stimulus packages?
  - If we’re recording volunteer labour, are we reliably measuring its fair value?