Why is the Statement of Financial Position (Balance Sheet) important?

(Betty Ferreira) #1

One of the elements of the nonprofit business model is the capital structure.

The capital structure describes the capacity of the organization’s financial position to
cover its expenses, pay it’s debt, access cash upon emergency, and scale operations for normal growth.

The capital structure looks at the quality and diversity of assets and liabilities including the net assets (reserves) and in particular it focuses on:

a. the unrestricted liquid net assets (ULNA) and restricted assets, and
b.short and long-term debt.

ULNA = Unrestricted Liquid Net Assets

The information required to assess the capital structure of a nonprofit organization is found in the Statement of Financial Position (Balance Sheet).

Tips:

  • The “Cash and cash equivalents” line under Current Assets refers to the cash in the bank but please note that if the organization receives the majority of its funding from the government and/or from other restricted sources, the majority of the cash in this line will be restricted! It is important that board members understand this as they often think that this is the organization’s reserve when it is not!

  • The organization’s reserves can be found in the section called “net assets” or “fund balances”. Please note that some net assets and/or fund balances will also be restricted and so it is imperative for staff to provide information to the finance committee and to the board that clearly outlines how much cash under the Current Asset section is restricted and how much of the net assets/fund balances are restricted so that the board members are aware of how much cash remains that is actually unrestricted and liquid.

  • Debt may appear in the Liabilities section in a number of different ways: line of credit, loan, indebtedness.

  • Deferred contributions found in the Liabilities section are not debt but actually revenue that is restricted for use in a different period by the external funder. This can be confusing for some because it is revenue but placed in the liabilities section.

Here are some questions that you can use with the finance committee to help stimulate planning to build reserves to effectively support the capacity of the organization to cover its expenses, pay it’s debt, finance cash flow and annual deficits, access cash upon emergency, and scale operations for normal growth:

1.What are the limitations of the capital structure of this organization?

2.How is growth of the capital structure affected?

3.What are some options to strengthen the capital structure?

4.Does this organization set annual goals to increase the amount in the reserves?

Article

The article “Hidden in Plain Sight - Understanding Nonprofit Capital Structure” (see link below) is an excellent article to help you and your board members further understand the importance of the capital structure and thus the importance of the Statement of Financial Position.

HIdden in Plain Sight-Understanding nonprofit capital structure.pdf (289.0 KB)

If you have questions about the capital structure please feel free to submit them to me on Wednesday April 17th through the OTF Knowledge Centre as I will be online for most of the day to answer your questions.

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