Charity Ratings Based on Administration Costs can do More Harm Than Good

The recent posting Analyze This on Philanthrocapitalism stated

"In a speech at the conference, Ken Berger said that sometimes he cannot sleep for worrying that Charity Navigator’s ratings (of up to 4 stars) “may do more harm than good”. Its stars are awarded for “financial resilience”, which largely means the ratio of costs to money raised. This is widely recognised to be a lousy measure of effectiveness:, as anyone in business knows, it is costs (such as spending on recruiting the best talent, marketing etc) that often make success possible."

From my own experience tracking aid in Thailand after the tsunami, I saw many examples where an emphasis on low administration costs did more harm than good.

Not enough orphans for all the orphanages

Needs assessments are expensive and increase administration costs, this meant that after the tsunami  aid agencies were unwilling to share their assessments. Giving another aid agency their assessment would have meant that the other agency would benefit from the information but not take a financial hit by paying for it. Therefore, each aid agency either had to pay for their own assessment - wasting overall funds through unnecessary duplication of work and leading to "assessment fatigue" in villages and government offices - or agencies simply developed programs without a needs assessment.

In one instance an orphanage was built without first determining if there were orphans in need of a home. The dearth of homeless orphans led representatives from the agency to visit my office seeking orphans, eventually they had to recruit street children. In another instance there were four aid agencies competing to lead children's programs in a village of just 23 families, while

in a similar village 10 kilometers up the road had no aid agencies helping children.

Practices that are less expensive may appear more expensive

When I worked for the American Red Cross we funded four programs in six provinces. In order to save costs and increase coordination we decided to rent a single office in each province and hire a  coordinator, office manager, and cleaner which each program would share. We debated how to pay for this because paying for it directly meant the expenses were billed to general management, increasing our apparent administration cost. If, instead, we had given money to each program to rent their own office and hire their own staff it would have cost considerably more, but would have been billed as a program expense creating the appearance lower administration costs.

Taking advantage of the lack of communication between aid agencies

Many agencies gave out student "scholarships" (monthly or yearly payments into a bank account to pay for uniforms, books, etc). This was cost effective for the aid agency because all they had to do was send a team into the area for a week. They would meet with principals and students to choose aid recipients and set up bank accounts after that most things could be handled at a distance. There was no need to pay for an office, vehicle, or full-time staff. Unfortunately, principals, teachers, and students quickly learned to take advantage of the system to get multiple scholarships for the same students - some of which never made it to the students. This was done by repeatedly telling aid agencies that the students had not received any assistance, and then opening bank accounts at different banks. Students in easily accessible schools received more visitors and could get more funding. Students is more distant schools often received no assistance.

To keep administration costs low, agencies did not dedicate the time and staffing needed to communicate with other aid agencies. Because they came and went so quickly they did not spend time in the villages to hear what was really going on. This and other examples of unfair distribution of aid created animosity and distrust between villagers that had been neighbors for generations.

Why the focus on administration costs?

Charity rating agencies have very little information with which to work. In the US the only annual reporting required is the IRS I-90 form. Religious agencies don't even have that requirement. As the Philanthrocapitalism article points out, getting any other information from aid agencies is extremely difficult.

"The biggest problem may be the lack of cooperation from non-profits themselves, not least because shockingly few of them actually collect meaningful data on their own performance. Berger recently asked the 100 biggest charities with a four star rating to provide him with performance data, and only 10% did."

Changing how we rate aid agencies will change aid agency practices

Perhaps, instead of rating aid agencies on the percentage spent on projects, we could rate them according to their financial transparency. A base score could be assigned according to whether they regularly share their financial information with donors and aid recipients. Extra points could be awarded to those agencies that make their most recent audit findings available upon request.

The information used to rate aid agencies does impact aid agency practices (see related post). Agencies that score well are financially rewarded by donors, therefore priority is placed on those factors that lead to high scores. By changing how we rate aid agencies we can potentially improve aid agency practices.

Related Posts:

Bad donor advice perpetuates bad aid practices
What to look for in an aid agency's financial audit
Where did all the money go?

Comments

[Saundra]

Unfortunately there is not a lot of recourse. I'd recommend you start with the Better Business Bureau. They have a section for US registered non-profits where you can lodge a complaint. They will take the complaint to the aid agency and then record whether or not they properly respond to the complaint.

Here's BBB's charity link http://www.bbb.org/us/Charity-Complaints/

Good luck

Saundra

[S Fagan]

One correction to my recent post should read "I am not familiar with the rules regulating 501-c3s".

[S Fagan]

I have worked for several small non-profits and have friends and family who have worked for others. I agree that the largest criteria for rating any non-profit should be the transparency of the company at all levels. Detailed financials, board member names and relationship to director/managers of the agency and the final listing should show the pay/compensation of each employee.

One company I worked for for almost 8 years now has a director who runs the company like his own personal fiefdom, where the board members are all friends and family and through that he controls his pay and compensation. Another non-profit of which I am familiar has a director and a limited staff which includes the director's wife in a "token" position. Since the company was founded about 10 years ago, the board has increased the director's salary from a low five-figure salary to a mid-six-figure annual salary. At the same time, board members have received six-figure loans from the non-profit. I am familiar with the rules regulating 501-c3s and other non-profits, but I have to think that most of these practices are not acceptable. Is there any procedure by which a "non-profit" can have that status revoked and is there an agency responsible for such monitoring?

[Saundra Schimmelpfennig]

Dear Ken,

Thanks for your comment. I have often thought about how to best rate aid agencies and know how truly difficult it is.

I'm glad to know you're on the road to a more comprehensive matrix and look forward to seeing what you develop.

[Ken Berger]

A major worry we have at Charity Navigator is that, without a performance/outcome measurement system within a nonprofit, they may do more harm than good. We are developing a system for our own internal operations and we hope that all nonprofits develop a sense of urgency to get this done.

In addition, in our view, to make a wise giving decision a social investor (donor with their eyes open) needs to consider three components of a nonprofit - financial health, accountability/transprarency & outcomes. We are working on developing a system of rating charities that encompasses all three components. I actually do sleep at night because we are on the road to more comprehensively capture these elements. We also will be re-examining our existing financial metrics to see how they might be strengthened. We welcome your feedback.