Financial Management of Not-For-Profit Organizations:
Generally, financial management of not-for-profit organizations is similar to the process of financial management in the profit making sector in several aspects. Nonetheless, there are several major differences that contribute to a different focus of a not-for-profit financial manager. In the commercial sector, the for-profit enterprises mainly focus on capitalizing shareholder value and overall profitability. On the contrary, not-for-profit organizations have the basic aim of providing certain socially desirable need on a continual basis instead of increasing shareholder value ("Financial Management of Not-for-Profit Organizations," 2011). The difference in focus between the for-profit and not-for-profit organizations is because the latter does not have financial flexibility of a commercial enterprise since its dependent on resource providers that are not getting involved in an exchange transaction. As a result, the resources provided are channeled towards offering goods and services to a client instead of the actual resource provider.
Important Exercises for Not-for-Profit Organizations:
Since the provided resources are given to clients rather than the resource provider in not-for-profit organizations, the organizations are required to show stewardship of these resources, which implies that finances donated for a particular purpose must be used for that purpose. Therefore, the organization's staff must demonstrate that the money was used as directed by the resource provider. However, the purpose for the provided resources may not be specified by the donor but stated in the organization's stated mission. In essence, the main goal of financial management of not-for-profit organizations is to demonstrate stewardship of donated resources as specified by the provider or as stated in the organization's mission. Notably, the use of fund accounting systems in these organizations has become even more crucial because of the shift to external financial reports on donor restriction.
In order for these organizations to achieve the objective of their financial management processes, there are several important exercises to consider. The two major exercises for not-for-profit organizations to consider in the process is budgeting and cash management. Through these exercises, the organization must critically consider whether it has adequate cash reserves to continue to offer services to its clientele. However, cash flow can be extremely difficult to predict since the organizations are dependent on revenue from resource providers that do not anticipate obtaining the services provided. This difficulty implies that the organizations can experience a management crisis if there is an increase in demand for their services. Moreover, it's challenging to estimate contribution revenue in a reliable manner annually, which necessitates the need for increased emphasis on the control of expenses. Therefore, budgeting and cash management are crucial exercises and activities for control of expenses in not-for-profit organizations.
The other important exercise in financial management of not-for-profit organizations is the need for accountability, which is one of the financial management standards. Since there are several methods that can be employed for the implementation of financial management systems, the organization should select suitable method based on its scale and scope of operations ("Financial Management Guide," 2008). As part of the financial management standards, the not-for-profit organizations should establish accounting structures that offer accurate and complete information regarding all financial transactions. In addition to ensuring that actual expenditures are comparable with budgeted amounts, the organizations should maintain accounting records on a current basis including monthly balancing.
Not-for-profit organizations should also provide protections for all grant property regardless of whether its cash or property and ensure that the property is only used for authorized or specified purposes. This can be achieved through internal control standards like immediate recording of cash receipts, reconciliation of bank accounts, and entrusting petty cash to a single custodian. The internal control standards should be accompanied by effective audit standards that enable the organization to maintain a state of audit readiness. This implies that records associated with the financial and programmatic aspects of grants are usually available and ready for auditing. The final exercise of financial management of not-for-profit organizations is effective financial reporting through suitable reporting standards. These standards promote the timely submission of reports to resource providers and enhance organizational accountability.
Budgets are an essential part of an organization's financial management because they are the operating plan for a financial period. The financial statements express the decisions on how the organization will accomplish its stated objective in monetary terms. Through budgeting the organization's staff and board decide necessary programs and activities that will be carried out for the upcoming financial year. Once these programs and activities are decided, the organization's staff allocates resources that are geared towards ensuring that the programs are delivered or undertaken.
For not-for-profit organizations to develop a reasonable, understandable, and accurate budget, they must have practical knowledge of terminology and accounting standards (McMillan, 2010, p.1). The accounting period for these organizations include a calendar year that starts on January and end in December, financial year that does not necessarily begin at the start of year, and short period that is considered as an accounting period set by the organization.
Not-for-profit organizations experience some budget planning issues like complexity that are associated with the scope and size of the organization's programs and asset base. Since budgets are compilations of plans and objectives of management across all operational phases for a specified time period, program priorities should be balanced in order to develop an effective budget. This requires the organization's management to allocate its capabilities and resources to influence the maximum number of the desired beneficiaries.
The budgetary planning process requires consideration of lead-time for multiyear initiatives and grant requests. During this process, the financial manager of the not-for-profit organization should prepare the budget to ensure that sufficient funds for activities scheduled to be run within a specific period longer than the average budget cycle. Following the adoption of the budget, the organizational staff should use it as a management tool to evaluate operational performance. Notably, the budget should be updated for new situations in order to respond to any unforeseen conditions that arise. Moreover, after the budget is adopted, the not-for-profit organization should use periodic reports for comparison of budgeted revenues with actual revenues as well as budgeted expenses with real expenses (Zietlow, Hankin & Seidner, 2011). The achievement of financial management proficiency is dependent on an organization's ability to improve its budgeting and financial reporting processes.
There are two major kinds of budgeting to consider during the financial management process of not-for-profit organizations. The first is zero-based budgeting that includes the planning process for establishing objectives as part of the process of budgeting. In this case, the not-for-profit organization begins from zero through assuming that no activity or program is necessary and that no finances need to be spent. In addition to using orderly evaluation of every element of revenue and expense, the zero-based budgeting process requires programs that will be undertaken to be proven worthy and financially sound in every financial year. This implies that every program must be evaluated to justify its existence and effectiveness when compared to alternative programs. As programmatic priorities are established, the cost center of each program should be examined to prove its necessity in relation to the overall organizational objective.
On the contrary, incremental budgeting evaluates current programs and departments as pre-approved based on the increases or decreases in the allocated financial resources. Though this budgeting procedure, the historical expenses of the not-for-profit organization are the normal base for the commencement of the budget planning. While the focus of incremental budgeting is on the expected changes either above or below the previous fiscal year, budget planning is regarded complete and program priorities as realized. In this case, the not-for-profit organization must determine whether the budget should be based on measurable and predictable statistics or good guesses.
Despite of the selected budgeting planning process, the not-for-profit organization should ensure that an effective budget is developed. This is mainly because a thoroughly planned and executed budget increases the likelihood that the organization will be financially successful. Moreover, a comprehensive budget is an organization tool or mechanism that translates abstract objectives into controllable and measurable units. Generally, the budget shows the performance goals for the upcoming financial year.
The preparation of budgets in a not-for-profit organization is primarily based on policy decisions (McCarthy, Shelmon & Mattie, 2012). However, the organization's treasurer may be the appropriate individual or best qualified person to deal with the figures though he/she is not necessarily involved in the policy decisions. As part of the budget planning process, the organization should appoint a budget committee consisting of people who are responsible for making policy decisions. Nonetheless, a comprehensive estimated cost study and revenue approximations for several programs should be delegated to staff members.
The second step in the financial management process of a not-for-profit organization is asset management. Following the development of the budget, the not-for-profit organization must look for means to smoothly fund current operations by making the most effective and efficient use of existing or liquid funds. This process is accomplished through maximizing the accessible and obtainable resources to…
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