Surplus is not a dirty word



By Dr Mark Brophy, CEO, Williamstown Community and Education Centre Inc.  

I often get the question.

‘If your community centre is a not-for-profit charity, why does it need to keep making profits? And you have all this money in bank and investment accounts! What will you spend this on?’

Firstly, ‘profits’ and ‘losses’ are for private businesses. ‘Surplus’ and ‘deficits’ are for not-for profits. And YES, all not-for-profits should absolutely aim to make a ‘surplus’, every year, and have healthy reserves of money.

Let me provide 10 good reasons why. And the kicker is in the tail …

1. Assessing viability

As a Learn Local and Registered Training Organisation our financial viability is assessed regularly by independent auditors. Based upon a ‘points’ system we are assessed as to whether we are a viable organisation, funded by the Victorian Government to deliver services to the public.

Analysing our audited financial statements, sometimes up to three years in the past, we are assessed on items like working capital ratio, debt to equity ratio, dependency on government funding, timely submissions of Business Activity Statements (GST) to the Tax Office, whether we have an Australian Securities and Investments Commission Registered Auditor and our operating surpluses.

We lose points if we have run at a deficit any time in the past, so it’s very important we always maintain a surplus. It shows we are financially viable and responsible.

2. Avoiding risks

When we apply for project funding, through for example philanthropic organisations or the government, we are often asked for previous years audited financial statements, and are asked to explain the reasons for any deficits.

Often, regular surpluses, plus a good level of reserves is not only considered favourable, but is an actual requirement in a proposal. Any deficit severely reduces our chances of receiving funding as we are seen as a potential risk.

3. Reassuring funders

Having constant surpluses creates a ‘reserve’ of funds. Often in philanthropic and government project applications and submissions, the question is asked ‘If you run out of the funding we give you, how can you ensure the project will be completed?’ With healthy reserves, the answer to this question is easy. Think about it, if you were deciding who to give project funds to, how would you feel about giving the money to a person or an organisation that constantly loses money, year after year?

Good reserves also ensures our funders that we can always complete projects, even those that run over budget.

4. Meeting unexpected costs

Reserves help us to continue to undertake work and deliver services, even when unexpected events or costs arise.

There are a range of situations where reserves may be needed, for example:

  • unexpected cuts to funding
  • significant unexpected costs (e.g., moving premises due to an unexpected termination of a lease)
  • unexpected staff costs (e.g., redundancies in the event that a major contract is lost)
  • unexpected expenditure (e.g. an increase in the cost of goods / services)
  • unexpected events calling on the charity’s service (e.g. a natural disaster requiring extra services with little warning)
  • downturns in funding.
  • unexpected legal costs.

5. Ensuring sustainability

Continuing surpluses and good reserves also helps us provide goods and services to our community. For example, donations to worthy causes, scholarships, professional development and conference attendance for staff, to hold events for staff, the community, students, volunteers, etc. and helps us purchase new equipment, resources, furniture, etc. for everyone in our community who uses our venues.

6. Adapting to change

In an ever changing environment, we are exposed to local, state and federal government policy and funding changes, as well as increased costs everywhere, and stagnant income. Placing some reserves into a term deposit provides a much needed further funding stream on the interest earned.

7. Building good morale

Surpluses and good reserves improves staff morale, as staff know their employment is secure, they can plan for the future and know that their entitlements are secure. It provides the opportunity to place casuals and contract staff into ongoing employment. Staff are less likely to leave, and stay longer. This creates excellent organisational ‘knowledge capital’ where skilled and experienced staff grow the organisation. Also for committee, members, centre users, students, parents, venue renters, etc. all know that programs and services will continue into the future.

Ideally, a Centre wants to invokes public trust and confidence in its financial efficiency and capability, as well as long-term stability.

8. Futureproofing your organisation

If ever the Centre needed to borrow funds or take out a loan, for example to expand, purchase a new venue or upgrade, a history of surpluses and good reserves provides assurances to any banks or lenders that it is financially stable and able to pay debts.

9. Reducing stress and tension

Ongoing surpluses and good reserves provides organisational ‘peace of mind’, assurances, reduces stress and tension if something unfortunate happens. It is not unlike a family domestic situation. Often we are ‘caught out’ financially when things break down, like your washing machine, fridge or car. Or items become redundant, and new technology takes us by surprise; NBN, new smart device, band width, new software, etc. Even those with good budget nous get caught out. It’s very reassuring to know that you have the funds to respond to any upgrade, repair or replacement that might surprise you.

No need to go into ‘panic mode’ if something goes wrong.

10. Playing the long game

Not so much a reason, but a perception and common oversight.

You might hear:

‘Look at the Balance Sheet. Wow! Lots of ‘Cash at Bank’ and ‘Investments’! What are these funds being used for? Can we spend this money on … (Put ideas here)?’

Stop! Look further down the Balance Sheet.

Firstly, Non Current Assets. This is the equipment, furniture, computers, etc. that must be replaced someday. The organisation needs to replace items that wear out, break, become redundant, etc, and must have this money to replace these assets. Further, this is only the depreciated value, not the replacement value.

So the real cost to buy new ‘stuff’ – assets – is in your ‘Depreciation Schedule’, or ‘Fixed Asset Register’ (You should have one), where the true initial cost is noted. And then add inflation!

Secondly, look further down the Balance Sheet. Your Total Liabilities. These are debts that must be paid. As well there are provisions, including those for staff such as Long Service Leave, etc.

All of the above add up.

So don’t just look at the Current Assets on their own. Subtract the Non Current Assets (Plus a bit more, if you want new stuff!) and the Total Liabilities (Both Current and Non-current).

What’s the new number look like?

We sometimes just see the ‘Cash’, and overlook debts and the replacement of assets. For example, at our Centre we have over $400k in an Investment Account (Let’s Party!), but our provisions and cost to replace assets is over $308k.

A well governed and resilient centre will make it a priority to ensure this money is well protected.

Here is an idea, perhaps even put this in your policies.

_______________________________________________________________________________________________________________________________________________________________

Financial reserves policy

Purpose

  • To reduce risk and ensure that sufficient funds are available to pay debts and/or replace assets and/or cover unforeseen expenses.
  • To remind members, Committee, management and staff that a significant proportion of Current Assets such as Cash at Bank and Investments are required to pay for future known and unknown expenses.

Action

  • Annually, after the Audited Financial Statements are received, the organisation needs to be reminded that a proportion of Current Assets are needed to meet Audited Financial Statement debt and provision requirements.
  • The amount needed to pay debts and provisions will be at least the total of Non Current Assets plus Liabilities noted in the Audited Financial Statements.
  • This amount should be subtracted from Current Assets to show the actual current assets available for any other activities.
  • The above to be discussed at the next Committee Meeting.
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