Understanding Financial Statements * How to read financial statements. * Some key indicators and ratios. * Financial statements are a tool for running your business. For more information, visit http://www.cbiz.com/MidAtlantic

1. Understanding & Using Financial Statements
(As Business Tools for Nonprofits)
J. Scott Denlinger, CPA
Director, CBIZ MHM, LLC
Bethesda, Maryland

2. Overview
• How to read financial statements.
• Some key indicators and ratios.
• Financial statements are a tool for running
your business.
• Building and maintaining cash reserves.
• DON’T BE AFRAID TO ASK QUESTIONS!
2

3. Why Review Financial Statements?
• Assess the current financial health of the organization
(may be better than you think)
• Assists in gauging of viability of new programs and
services
• Helps to identify issues before they become serious
problems
• More important than ever given current economic
conditions
3

4. Cash vs. Accrual Basis Accounting
• Cash – recognizing revenues as you
receive them and expenses as you pay
them
• Accrual – recognizing revenues as you
earn them and expenses as you incur
them rather than at the time of cash flow
4

5. Statement of Financial Position
• Nonprofit equivalent of the Balance
Sheet
• Tells you what you own (assets), what
you owe (liability) and what you have
leftover (net assets)
5

6. ASSETS
CURRENT ASSETS
Cash and cash equivalents $ 540,052
Promises to give 277,987
Receivables 127,250
Prepaid expenses 59,379
TOTAL CURRENT ASSETS $ 1,004,668
INVESTMENTS 981,770
PROPERTY AND EQUIPMENT, at cost, less $25,844 of
accumulated depreciation and amortization 15,293
OTHER ASSETS
Promises to give 494,470
Deposits 26,053
520,523
TOTAL ASSETS $ 2,522,254
LIABILITIES
CURRENT LIABILITIES
Accounts payable and accrued expenses $ 277,769
Deferred membership dues 453,496
Deferred rent liability 4,532
TOTAL CURRENT LIABILITIES $ 735,797
NET ASSETS
NET ASSETS
Unrestricted 997,049
Temporarily restricted 289,408
Permanently restricted 500,000
1,786,457
TOTAL LIABILITIES AND NET ASSETS $ 2,522,254

7. Receivables
• Receivables – primarily earned revenue
• Promises to Give
– Restricted
– Unrestricted
• Key issues:
– Split out long-term receivables (don’t kid
yourself)
– Allowance for bad debts (donor’s intent
may not equal donor’s ability)
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8. Prepaid Expenses
• Prepayments for future goods or services
(meeting space deposits, etc.)
• Useful in matching revenues with expenses
(conferences, trade shows, etc.)
• Key issues:
– Don’t forget to expense them later
– Don’t worry about the small stuff
8

9. Property and Equipment
• Key Issues:
– Establish a capitalization policy
($500?, $1,000?, more?)
– Maintain fixed asset listing on Excel or
other program
– Use good descriptions – could save you
personal property taxes)
– Keep depreciation simple – straight-line
9

10. Investments
• Key Issues:
– Need an investment policy
– Don’t forget unrealized gains and losses –
especially in current economy!
– Review performance monthly
10

11. Other Assets
• Long-term receivables
– Multi-year pledges
• Deposits
– Recording can help serve as a reminder
11

12. ASSETS
CURRENT ASSETS
Cash and cash equivalents $ 540,052
Promises to give 277,987
Receivables 127,250
Prepaid expenses 59,379
TOTAL CURRENT ASSETS $ 1,004,668
INVESTMENTS 981,770
PROPERTY AND EQUIPMENT, at cost, less $25,844 of
accumulated depreciation and amortization 15,293
OTHER ASSETS
Promises to give 494,470
Deposits 26,053
520,523
TOTAL ASSETS $ 2,522,254

13. Accounts Payable/Accrued Expenses
• Keep on top of this
• Know what you owe
• Consider recording estimates if you
don’t have the invoice yet
(contractors, large expense reports, etc.)
• Avoid surprises
13

14. Deferred Revenue
• Member dues, conference registration, etc.
• Assist in matching revenues and expenses
• Key issues:
– Member dues vs. Contributions
– Maintain good schedules
– Don’t worry about the small stuff
14

15. Net Assets
• Unrestricted
• Temporarily Restricted
• Permanently Restricted
• Board Designation vs. Restriction
15

16. LIABILITIES
CURRENT LIABILITIES
Accounts payable and accrued expenses $ 277,769
Deferred membership dues 453,496
Deferred rent liability 4,532
TOTAL CURRENT LIABILITIES $ 735,797
NET ASSETS
NET ASSETS
Unrestricted 997,049
Temporarily restricted 289,408
Permanently restricted 500,000
1,786,457
TOTAL LIABILITIES AND NET ASSETS $ 2,522,254

17. Ratios
Current ratio:
Shows organization’s ability to meet short-term obligations.
Current Assets
Current Liabilities
• Your current ratio helps you determine if you have enough working capital
to meet your short-term financial obligations.
• A general rule of thumb is to have a current ratio of at least 1.0.
• A current ratio under two may indicate an inability to pay current financial
obligations with a measure of safety.
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18. Ratios
Quick ratio:
More stringent test of your ability to meet current obligations.
Used by banks and management. Should not be less that 1.0.
Quick Assets*
Current Liabilities
*Quick Assets generally means Current Assets minus Inventory and
Prepaid Expenses.
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19. Ratios
Industry
Benchmarks
Public Trade
Charities Associations
Quick Ratio 1.42 1.27
Current Ratio 2.97 2.36
19

20. Sample Ratio
TOTAL CURRENT ASSETS $ 1,004,668
= 1.37
TOTAL CURRENT LIABILITIES $ 735,797

21. Sample Ratio
TOTAL CURRENT ASSETS $ 1,004,668
LESS: Prepaid expenses 59,379
TOTAL QUICK ASSETS $ 945,289
= 1.28
TOTAL CURRENT LIABILITIES $ 735,797

22. Many Excel templates are available online, like
Use Templates As Tools! this one available from Microsoft at
http://office.microsoft.com/ [templates]
YOUR Balance Sheet For the Period Ending [End Date]
Current ratio [A/B] - Working capital [A-B] $ -
Quick ratio [(A-C)/B] - Debt-to-equity ratio [(G+H)/F] -
Cash ratio [D/B] - Debt ratio [(G+H)/E] -
Stated in 000s
ASSETS % of ASSETS LIABILITIES & OWNERS' EQUITY % of ASSETS
Current assets Current liabilities
Cash and cash equivalents [D] - Loans payable and current portion long-term debt [H] -
Short-term investments - Accounts payable and accrued expenses -
Accounts receivable [I] - Income taxes payable -
Inventories [C] - Accrued retirement and profit-sharing contributions -
Deferred income taxes -
Prepaid expenses and other current assets -
Total current assets [A] $ - - Total current liabilities [B] $ - -
Fixed assets Other liabilities
Property, plant and equipment at cost - Long-term debt [G] -
Less accumulated depreciation - Accrued retirement costs -
Total fixed assets $ - - Deferred income taxes -
Deferred credits and other liabilities -
Other assets
Long-term cash investments -
Equity investments -
Deferred income taxes -
Other assets -
Total other assets $ - - Total other liabilities $ - -
Total assets [E] $ - - Total liabilities $ - -
Total owners' equity [F] $ - -
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Total liabilities + owners' equity $ - -

23. Statement of Activities
• Nonprofit equivalent of the Income Statement
• Shows how the organization performed during
the period
• “Change in Net Assets” is nonprofit equivalent
of “Net Income”
• Nonprofits are measured differently
• Negative change in net assets isn’t necessarily
bad
23

24. Statement of Activities Temporarily
Unrestricted Restricted Total
REVENUE AND SUPPORT
Grants and contributions $ 1,209,176 $ 441,269 $ 1,650,445
Conferences 1,137,432 - 1,137,432
Publications 1,222,682 - 1,222,682
Rental income 67,943 - 67,943
Investment income 35,482 - 35,482
Miscellaneous income 5,914 - 5,914
Net assets released from restrictions: - -
Satisfaction of purpose restrictions 324,615 (324,615) -
TOTAL REVENUE AND SUPPORT $ 4,003,244 $ 116,654 $ 4,119,898
EXPENSES
Program services:
Research 2,125,836 - 2,125,836
Student Services 136,920 - 136,920
Government Affairs 167,976 - 167,976
Communications 261,630 - 261,630
Conferences 250,971 - 250,971
Total program services 2,943,333 - 2,943,333
Management and general 602,073 - 602,073
Fundraising 412,639 412,639
TOTAL EXPENSES 3,958,045 - 3,958,045
CHANGE IN NET ASSETS 45,199 116,654 161,853
24

25. Revenue Considerations
• Contributions/Grants
• Membership Dues
• Special Events
• Investment Income
• Unrelated Business Income Tax (UBIT)
25

26. Contributions/Grants
• Restricted vs. Unrestricted
– Unrestricted
• Provides more flexibility
• Can be more difficult to raise
– Restricted
• Can engage donors more than unrestricted
• No disputes over usage
• Potential for being “painted into a corner”
26

27. Contributions/Grants
• Corporate grants
– One can lead to more
– Can be unreliable long-term
• Foundation grants
– Can be more reliable than corporate
– May have more reporting requirements
• Government grants
– Need proper controls in place
– State grants may be risky
– Single Audit considerations for federal grants
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28. Membership Dues
• More predictable – less dynamic
• Raising dues rates
• Determining proper dues rates
– Cost of soliciting new members (direct
mail, telephone solicitation, new member kits,etc)
– Cost of retaining the member (newsletters, other
member benefits)
– Dues rates should cover costs per member
28

29. Membership Dues
• Additional Considerations
– Tiered dues structure
• Based on Benefits
• Based on Size
• Student memberships
29

30. Special Events
• Can provide visibility
• Large upfront costs
• How confident are you regarding the
revenue?
• Consider lower cost alternatives
• Consider partnering
30

31. Investment Income
• Record reinvested interest and
dividends
• Don’t forget to record unrealized gains
and losses (especially in today’s
economy)
• Know what have!
31

32. Unrelated Business Income Tax (UBIT)
• Represents taxable income
• Reportable on Form 990T
• Considerations:
– Advertising in magazines or newsletters
– Corporate sponsorship
32

33. Ratios
AIP
Benchmark
Operating Efficiency:
Indicates percentage of each dollar spent on programs.
Program related expenses 75%
Total expenses
33

34. Ratios
AIP
Benchmark
Fundraising Efficiency:
A measure of the cost of raising money.
Fundraising Expenses Ideally 25%
Related Contributions (no more than 35%)

35. Sample Ratio
Operating Efficiency
Program services $ 2,943,333
Management and general 602,073
Fundraising 412,639
Total Expenses $ 3,958,045
Program services $ 2,943,333
= 74%
Total Expenses $ 3,958,045

36. Sample Ratio
Fundraising Efficiency
Fundraising expenses $ 412,639
= 25%
Grants and contributions $ 1,650,445

37. Cash Flow Statement
• Equally important, but frequently ignored
• Reconciles change in net assets to
change in cash
• Answers the question: “We made money
- where did it go?”
37

38. Cash Flow Statement
CASH FLOWS FROM OPERATING ACTIVITIES
Change in net assets $ 161,853
Adjustments to reconcile change in net assets to net cash
flows from operating activities
Depreciation and amortization 5,144
Net unrealized and realized gains on investments (3,058)
(Increase) decrease in operating assets
Receivables (107,401)
Prepaid expenses 48,209
Increase (decrease) in operating liabilities
Accounts payable and accrued expenses (127,530)
Deferred revenue (39,195)
NET CASH FLOWS FROM OPERATING ACTIVITIES $ (61,978)
CASH FLOWS FROM INVESTING ACTIVITIES
Purchases of investments (281,871)
Proceeds from sales of investments 450,000
NET CASH FLOWS FROM INVESTING ACTIVITIES 168,129
CASH FLOWS FROM FINANCING ACTIVITIES
Repayments on line of credit (50,000)
NET CASH FLOWS FROM INVESTING ACTIVITIES (50,000)
NET DECREASE IN CASH 56,151
CASH, BEGINNING OF YEAR 483,901
CASH, END OF YEAR $ 540,052

39. Statement of Cash Flows
• Cash Flows from Operations
– Shows cash provided by (or used in)
operations
– Ideally this number should be positive
– Items which affect operating cash flow
• Depreciation
• Collection of receivables
• Paying of accounts payable
39

40. Statement of Cash Flows
• Cash Flows from Investment
– Shows cash provided by (or used in)
investing activities
– Items which affect investing cash flow
• Buying and selling marketable securities
• Buying and selling of property and equipment
– Not bad if this number is negative
• Similar to your personal finances
40

41. Statement of Cash Flows
• Cash Flows from Financing
– Shows cash provided by (or used in) financing
activities
– Items which affect financing cash flow
• Bank loans
• Lines of credit
• Equipment leases
– Not bad if this number is negative
• Similar to your personal finances
41

42. Cash Flow Statement
CASH FLOWS FROM OPERATING ACTIVITIES
Change in net assets $ 161,853
Adjustments to reconcile change in net assets to net cash
flows from operating activities
Depreciation and amortization 5,144
Net unrealized and realized gains on investments (3,058)
(Increase) decrease in operating assets
Receivables (107,401)
Prepaid expenses 48,209
Increase (decrease) in operating liabilities
Accounts payable and accrued expenses (127,530)
Deferred revenue (39,195)
NET CASH FLOWS FROM OPERATING ACTIVITIES $ (61,978)

43. Cash Flow Statement
CASH FLOWS FROM INVESTING ACTIVITIES
Purchases of investments (281,871)
Proceeds from sales of investments 450,000
NET CASH FLOWS FROM INVESTING ACTIVITIES 168,129
CASH FLOWS FROM FINANCING ACTIVITIES
Repayments on line of credit (50,000)
NET CASH FLOWS FROM INVESTING ACTIVITIES (50,000)
NET DECREASE IN CASH 56,151
CASH, BEGINNING OF YEAR 483,901
CASH, END OF YEAR $ 540,052

44. Specialized
software
programs
can help you
“goal seek”
and consider
“what if”
scenarios.
44

45. Operating Reserves
• What is an appropriate level of operating
reserves?
• Using the Statement of Cash Flows to evaluate
cash flow performance.
• Preparing cash budgets and cash projections
• Building and maintaining an appropriate level of
operating reserves
45

46. Operating Reserves
How do you calculate operating reserves?
• Unrestricted net assets – Fixed assets =
Operating reserve
• Total expenses – Depreciation = Operating
expenses
• Operating reserve divided by operating
expenses
46

47. Sample Calculation
Unrestricted net assets $ 997,049
Less: Fixed assets 15,293
Operating reserve $ 981,756
Total expenses $ 3,958,045
Less: Depreciation expense 5,144
Operating expenses $ 3,952,901
Operating reserve $ 981,756
= 25%
Operating expenses $ 3,952,901
This means 25% (or 3 months) of their annual expenses

48. Operating Reserves
What is an appropriate level?
• Minimum of 25%, or 3 months, of operating
expenses
• Other factors to consider:
– Type of organization
– Types and diversity of revenue streams
– Peaks and valleys in expenses
– How susceptible the organization is to economic
downturns
– Large outlays of cash projected in future?
48

49. Type of Organization
• Type of revenue stream
– How predictable is it?
• Grant driven (Recurring or non-
recurring?)
• Membership dues
• Special Events
– Less predictable – higher reserve
49

50. Diversity of Revenue Streams
• How dependent are you upon one or a
few donors?
• How reliable are those donors?
• Less diversity – higher reserve
50

51. Peaks and Valleys in Expenses
• Quarterly or annual publications?
• Annual conference or fundraiser?
• Less predictable – higher reserve
51

52. Susceptibility to economic downturns
• Dependent upon contributions
– Individual, Corporate, Foundation
• Dependent upon membership dues
– How strong is the industry (small
business, oil, medical, etc.)
• More susceptible – higher reserve
52

53. Large Outlays of Cash Projected
• Upgrading computers or database
• Implementation of new program or
service
• Moving to larger facility
• Trade show or conference
• Expanding membership base
53

54. Operating Reserves
Determining the appropriate level for your organization
Your Board should be involved in these discussions:
• Determine how your organization will define “operating
reserves”
– Include Prepaid expenses, Deposits, etc?
• Determine what level your organization wants to
maintain
54

55. Operating Reserves -
Determining the appropriate level for your organization
Your Board should be involved in these discussions:
• Establish a minimum level that must be kept intact and
how it will be replenished if used
• Develop a policy as to how the reserves will be
invested
– Safety – no big risk
• Establish how often the reserves will be evaluated
(monthly?, quarterly?)
– Financial statements, investment statements
55

56. Budgets & Projections
Preparing cash budgets and cash projections
• Use operating budget as a starting point
• Convert accrual basis items to cash basis
• Back out noncash expense (depreciation and
amortization)
• Add in non-expense outlays, such as loan repayments
or equipment purchases
• Add in line items for additions to operating or other
reserves
56

57. TEXT
XYX Organization
BOX
Cash Flow Budget Worksheet
WHITE
Year ending December 31, 20XX
Adjustments
SUPPORT AND REVENUE CASH INFLOWS
Contributions $ 1,404,125 $ 36,000 a Contributions $ 1,440,125
Interest and dividend income 52,525 2,932 a Interest and dividend income 55,457
TOTAL SUPPORT AND REVENUE 1,456,650 38,932 TOTAL CASH INFLOWS 1,495,582
EXPENSES CASH OUTFLOWS
Administrative fees 7,200 Administrative fees 7,200
Board expenses 1,050 Board expenses 1,050
Cleaning 26,706 Cleaning 26,706
Commission - rentals 4,752 (4,752) a Commission - rentals -
Depreciation 80,436 (80,436) b Depreciation -
Insurance 9,023 2,904 a Insurance 11,927
Miscellaneous expenses 173 (4) a Miscellaneous expenses 169
Office expense 1,300 Office expense 1,300
Personnel expenses 1,005,455 Personnel expenses 1,005,455
Property taxes 97,250 Property taxes 97,250
150,000 c Transfer to reserve 150,000
28,477 c Purchases of property and equipment 28,477
39,618 c Repayment of notes payable 39,618
Repairs and maintenance 32,042 3,934 a Repairs and maintenance 35,976
Security 2,701 Security 2,701
Trash and hauling 4,683 Trash and hauling 4,683
Travel 551 Travel 551
Utilities 51,503 Utilities 51,503
TOTAL EXPENSES 1,324,825 139,741 TOTAL CASH OUTFLOWS 1,464,566
CHANGE IN NET ASSETS 131,825 NET CASH FLOWS $ 31,016
a Adjustments to reverse out accruals
b Elimination of non-cash expenses
c Inclusion of cash outflows not recognized as expenses

58. TEXT
XYX Organization
BOX
Quarterly Cash Flow Budget Worksheet
WHITE
Year ending December 31, 20XX
1st Qtr 2nd Qtr 3rd Qtr 4th Qtr Total
BEGINNING CASH $ 150,469 $ 117,249 $ 189 $ 365,117 $ 150,469
CASH INFLOWS
Contributions 250,125 166,286 774,000 249,714 1,440,125
Interest and dividend income 13,864 13,864 13,864 13,864 55,457
TOTAL CASH INFLOWS 263,989 180,150 787,864 263,578 1,495,582
CASH OUTFLOWS
Administrative fees 1,800 1,800 1,800 1,800 7,200
Board expenses 263 263 263 263 1,050
Cleaning 6,677 6,677 6,677 6,677 26,706
Insurance 2,982 2,982 2,982 2,982 11,927
Miscellaneous expenses 42 42 42 42 169
Office expense 325 325 325 325 1,300
Personnel expenses 251,364 251,364 251,364 251,364 1,005,455
Property taxes - - 97,250 - 97,250
Transfer to reserve - - - 150,000 150,000
Purchases of property and equipment - - 28,477 - 28,477
Repayment of notes payable 9,905 9,905 9,905 9,905 39,618
Repairs and maintenance 8,994 8,994 8,994 8,994 35,976
Security 675 675 675 675 2,701
Trash and hauling 1,171 1,171 1,171 1,171 4,683
Travel 138 138 138 138 551
Utilities 12,876 12,876 12,876 12,876 51,503
TOTAL CASH OUTFLOWS 297,210 297,210 422,937 447,210 1,464,566
NET CASH FLOWS (33,221) (117,060) 364,928 (183,632) 31,016
ENDING CASH $ 117,249 $ 189 $ 365,117 $ 181,485 $ 181,485

59. Breakeven Cash Flow
Monthly fixed costs:
Rent & Utilities
Payroll & Benefits
Loan/equipment lease payments
Other monthly costs
Breakeven cash flow refers to the nondiscretionary costs
that you must cover each month - it is the amount of cash
you must have on hand (not revenue on the books).
59

60. Operating Reserves
Building and maintaining an appropriate
level of operating reserves - additional
considerations:
• What types of reserves
(emergency, expansion, equipment, etc.)
• Determine time frame for building up
reserves
60

61. Operating Reserves
To borrow or not to borrow
• Lines of credit
– How will the organization pay it back?
– Specific purpose vs Operating expenses
– Trade show, fundraiser
– How confident are you regarding revenues
• Term Loans
• How will the organization pay it back?
• Consider building an intermediate reserve
61

62. Potential Obstacles
• Donors
• Staff
• Board
• Desire to fulfill mission
Importance of communication!
Effective communication can help navigate obstacles.
62

63. Communication with Donors
(recognizing/navigating obstacles)
• Doesn’t energize donors
• Reserves can be viewed as waste or
abuse
• Communicate need for long-term reserves
63

64. Communication with Staff
(recognizing/navigating obstacles)
• May not be understand finances
• May be viewed as robbing programs
• Communicate need for long-term reserves
• Engage certain staff in budget process
64

65. Communication with Board
(recognizing/navigating obstacles)
• Same issues as both donors and staff
• Importance of monthly/quarterly
review of financial statements
• Communicate need for long-term
reserves
65

66. If you have questions . . .
Contact:
Mr. Denlinger designs and manages outsourced
CFO and accounting engagements serving both for-
J. Scott Denlinger, CPA, profit and nonprofit organizations. He also performs
Director and Practice Lead CFO duties for several organizations, assisting in
Outsourced Financial Services
the preparation of internal financial statements and
Scott has more than 20 presentation to their Boards. With his extensive
auditing experience, Mr. Denlinger is able to assist
years experience in
our outsourcing clients in preparing for their year-
accounting, tax, consulting
end audits. Combining his communication skills and
and auditing.
ability to translate difficult accounting concepts into
laymen’s terms, as well as his penchant for
CBIZ MHM, LLC – Bethesda, MD teaching, Mr. Denlinger is frequently asked to lead
seminars and workshops by various organizations
(301) 951-3636
on a broad range of financial management and
sdenlinger@cbiz.com
reporting topics. He is a member of the MACPA
Government and Nonprofit Conference Committee
and serves on the Board of Family and Children
Services of Central Maryland.
66