This is chapter 1.  It introduces the book. 

No doubt about it, nonprofits are going through troubled times. Unemployment is up, the stock market is down.  This has not only wreaked havoc with individual contributions, the life blood of many nonprofit organizations, but when investments decline significantly in value, nonprofits may be doubly affected.  One, they may not have as much available to spend on programs and two,  the  foundations another hefty chuck of their support may not have as much to give.  Contributions from individuals and corporations and grants and gifts from foundations were responsible for approximately 43% of nonprofit revenue in 2005.¹

  A GuideStar Survey taken from March through May 2009ⁱ noted that approximately 52% of nonprofit organizations saw a drop in their contributions, approximately 36% of grantors gave nonprofits less money over the three month period and eight percent of the 2,279 nonprofits that responded to the survey are in danger of shutting down.

Never before has it been more important for nonprofits to put their best foot forward.  Donors, foundation and government grantors and other funding sources are looking for nonprofits that not only do good works and support causes that they value but are also looking for nonprofits that they believe will spend the dollars on the programs that the funding sources want to support.  Allegations have been made over the past several years of fraud against nonprofits either by theft of assets by employees and even by executives and board members.  When this happens, the cash that would have helped the nonprofit’s constituents is gone but in addition, the organization’s reputation may be damaged.  

One fairly recent example of the loss of reputation involves the United Way of the National Capital Area (UWNCA).  The organization has yet to fully recover.  Oral Suer, the executive director of the organization stole approximately $500,000 over a period of approximately 10 years.  Where the amount stolen is relatively small given the size of other frauds and the size of UWNCA, the damage he did to the organization On May 14, 2004 a federal judge sentenced Oral Suer to 27 months in prison which was the maximum sentence possible for his theft of almost $500,000 from the organizationⁱⁱ. 

The harm he did to the reputation of the organization still lingers today in 2009.  In 2001 before the fraud came to light the organization raised more than $90 million in contributions.  During 2003-4 private donations declined to $38 million.  This resulted in terminations of almost 65 employees.  And in 2008, 6 years after the fraud was identified, the organization raised only $38.3 million.

In January 2008 the IRS issued its new Form 990.  The new form was, in part, redesigned to respond to the suggestions of the U.S. Senate Finance Committee. The new form asks over 50 questions, throughout the core form and supporting schedules about business arrangements that the IRS may find troublesome as well as various policies, procedures and processes designed to prevent or detect noncompliance with laws and regulations and fraud.  Many of these questions require detailed explanation.  The answers to these questions serve to highlight the degree to which not-for-profits have appropriate governance.  There is also a question requiring not-for-profits to disclose whether they have experienced theft or other diversion of assets during the year.   With such scrutiny coming from regulators, funding sources and even the public, it is doubly important for nonprofits to evaluate their internal governance practices.

But the harm fraud does to nonprofits isn’t limited to just internal wrong doing.  In 2008 a massive ponzi scheme came to light that resulted in over a $50 billion loss to nonprofits nationwide. 
The Elie Wiesel Foundation for Humanity was established in the 1980s to foster dialogue and support programs that promote acceptance, understanding, and equality across the globe. While distinct in its origins with Holocaust survivor, author, and Nobel-laureate Elie Wiesel, the foundation is in many ways indistinct from other foundations that selflessly aspire to create social change, and in doing so touch the hearts and lives of millions.

In late 2008 the following appeared on the Wiesel Foundation website.

To Our Friends:

 We are deeply saddened and distressed that we, along with many others, have been the victims of what may be one of the largest investment frauds in history. We are writing to inform you that the Elie Wiesel Foundation for Humanity had $15.2 million under management with Bernard Madoff Investment Securities. This represented substantially all of the Foundation's assets.
 The values we stand for are more needed than ever. We want to assure you that the Foundation remains committed to carrying on the lifelong work of our founder, Elie Wiesel. We shall not be deterred from our mission to combat indifference, intolerance, and injustice around the world.  
At this difficult time, the Foundation wishes to express its profound gratitude for all your support.

                                       The Elie Wiesel Foundation for Humanity ₂

They were not alone. According to the Chronicle of Philanthropyⁱⁱⁱ approximately 150 nonprofit organizations were affected by the Madoff Ponzi scheme and 105 lost 30 percent or more of their assets.  Of course, the real damage of this sort of far reaching scandals is not limited to the investors. As discussed earlier, when a foundation loses its assets, the other nonprofits to which it donates lose as well. For example, the Lappin foundation closed after losing all of its assets—8 million dollars, and the Chais Family Foundation, which gave over 12 million a year to Jewish causes abroad ceased operation in December, 2008. The Picower Foundation lost $1 billion in the Madoff scandal and has closed its doors. Since it’s creation in 1989 it had given over $268 million to the Massachusetts Institute of Technology, Human Rights First, the New York Public Library, the Children’s Health Fund, and countless other programs like the University of Pennsylvania’s Center for Neurodegenerative Disease Research, for work on drug discoveries to treat Parkinson’s Disease and other conditions.
How did the ripples of the Madoff scandal affect these nonprofits? Depending on the extent to which a given nonprofit relied on the Foundation’s financial support, the ripple could have been a tsunami, resulting in the deferral or cancellation of important programs or even outright closure. Nonprofit leaders have been vocal about the distress caused by this single scandal and the damage created for the communities and individuals that rely on nonprofit agencies’ services or research.

Unfortunately, the Madoff scandal is not a singular event. A decade ago the 11,000 investors in the Baptist Foundation of Arizona lost over $570 million when it went bankrupt after its real estate investments collapsed. As will be discussed in Chapters 8 and 9, the methods by which fraud is perpetrated comes in many forms.  Although few cases of embezzlement, mismanagement, and fraud in the nonprofit sector rise to the level of the Madoff scandal, individually and collectively they create fear and cynicism in donors and regulators. Is it any surprise that benefactors, foundations, federal and state governments, and other stakeholders want more emphasis on transparency and accountability? They rightfully ask “Why were the indicators of trouble overlooked? How did nonprofits’ leaders and directors let this happen on their watch?”
Clearly, some players are downright corrupt or inept. In other cases lapses in accountability come from an overemphasis on mission at the expense of attention to organizational processes and structures. When this imbalance occurs, agencies fail to:

• Create and uphold internal controls
• Evaluate risks to the business
• Identify where theft could occur
• Understand and comply with laws and regulations and contract and grant provisions
• Identify financial warning signs that would help them to make organizational   changes to make the most of the resources it has to serve its mission

Why does the imbalance occur? Why do paid and volunteer leaders fail to attend to these important aspects of management? Although in hindsight it may appear that many leaders and board members are fiscally irresponsible and negligent in their fiduciary duties, more likely explanations are that leaders and board members:

• are unaware of the laws and regulation they need to follow
• are unable to analyze the organization’s financial statements
• operate the organizations with very few resources and with pressure to spend them on programs, not administration
• are committed to the mission of the nonprofit and the constituents served, perhaps at the exclusion of other priorities and responsibilities
• trust the motives and activities of their fellow board and staff and view checks and balances as a formality, or even a sign of distrust
• are preoccupied by the daily administrative demands and unable to take the time or space to examine systems

To anyone who has ever served as a volunteer board member or a harried nonprofit leader, these are no doubt familiar reasons for lack of oversight. But especially now, in the eyes of the IRS, funding sources, donors and the general public, there are no good reasons for such lapses and no margin for error. Since the resources of a nonprofit belong to the community, nonprofits are accountable for what they do with them. And when grantors, whether Federal, state or foundation, are involved, compliance is a condition of funding.

Beyond these understandable, if dangerous, rationales for poor compliance, there is the issue of those who know the rules but choose not to follow them. The 2008 Health Care Industry Development Audit Risk Alert³ notes that the Department of Health and Human Services, the Office of the Inspector General and the U.S. Department of Justice are aggressively pursuing those institutions that are noncompliant with rules relative to time and effort reporting. This noncompliance generally takes the form of improper charges to grants for direct labor, fringe benefits, and related indirect costs. As these are generally the largest costs in a grant, institutions may move time of employees from one grant to another grant that can absorb the cost even though the personnel did not work on the program. Behavior such is this is justified on the basis that the grant was “the researcher’s”, and so, therefore, was the money. Another common rationalization is that the both grants belong to the institution so it’s not hurting anyone. However, these interpretations are at odds with funding agreements and in the case of Federal money, the law.  As will be more fully discussed in Chapter 9, the Office of Management and Budget (OMB) created cost and administrative circulars prescribing the rules that those organizations that receive grants and contacts must follow.  Therefore, claims for money, improperly spent, are in fact, fraudulent claims.
Since 2003, Johns Hopkins University, the Mayo Clinic, Cornell University, Northwestern and the University of Alabama at Birmingham have all come under fire by the National Institute for Health and have been charges multimillion dollar settlements and paybacks. In 2003 a physician filed a sealed civil complaint against Cornell’s Weill Medical College asserting that it used funds from a $23 million dollar grant to subsidize patient care in the facility rather than for its intended purpose, to study diseases in children. While Cornell settled for $4.4 million, they did not admit to wrongdoing.⁴  

The financial penalties, reputational damage, and even jail time associated with these adverse findings aren’t limited to large targets like Mayo and Johns Hopkins. The HHS OIG reports that in 2008, an Ohio man who ran nonprofit agency that contracted with counties in Ohio to provide foster care services was sentenced to 27 months in prison and had to pay over $557,000 back to the government for stealing state grant money from the nonprofit and funneling it into for profit businesses that he personally owned. He claimed that money was being paid for foster care services when it was actually being routed to his own personal investment accounts⁵.
           
In North Carolina, former Congressman Frank Ballance was sentenced to prison in 2005 after pleading guilty to funneling tax dollars into the nonprofit John A. Hyman Memorial Foundation he operated to help poor people fight drug and alcohol abuse and to using $100,000 for himself and his family.

And in some cases, even members of the board of directors are involved.  Thom Randle of Chico, California was indicted for embezzling $693,000 from the Columbian Retirement Home, a nonprofit retirement facility.  He was on the Board of Directors and served as the VP of Finance.  He opened unauthorized bank accounts and used a computer to transfer the funds from the Retirement Home’s accounts to those he opened and controlled in their name.  The thefts took place over a two year period.  He used the stolen funds to pay for personal expenses. 
As these cases illustrate, risk and ruin in nonprofits can come from both malfeasance (the intention to defraud or harm) and from nonfeasance (failing to carry out expected responsibilities). In either scenario, though, the buck stops at the top: these situations all call into question the role of nonprofit leaders and boards. A main function of paid and volunteer leadership in nonprofits is to set the tone from the top and communicate the organization’s commitment to integrity, ethical values, financial transparency and accountability as well as compliance with laws, regulations and provisions of contracts and grants. Knowledge and capacity are important, but insufficient ingredients in organizational compliance. Administrators and board members must also have the courage to act responsibly.

When most of us think of courage, we think of people who risk life and limb to save others, or who put their well-being at risk for a greater good—the firefighter or the whistleblower, for example. But there are other, potent forms of courage required for assuring organizational integrity, and you’ll learn about them throughout this book. Could the destruction wrought by Bernie Madoff have been avoided or contained if more people had been willing to confront his conflicts of interest, question his investment methods, or resist the pull of unsustainable returns? Could people of courage have bolstered and supported those who did speak out about Madoff’s methods? Alas, we’ll never know. We can’t re-write the past but we can provide the tools to avert future catastrophes.

These days to be effective as a nonprofit, it takes more than a passion for the mission.  It takes having the knowledge, skills and courage to:

• identify factors in the environment that affect the entity
• read and analyze financial information
• understand the laws, regulations and provisions of contracts and grant agreements so the organization will be in compliance
• assess the risk to the organization

At that point, after having evaluated the circumstances facing the organization in light of those factors, the leaders and the board need to have the courage to make the right decision and the skills to act on that courage. 

Call to Action

Nonprofit leaders and their boards certainly have cause to be overwhelmed with the tasks before them. Endowments are down and donors’ discretionary spending is squeezed. Record unemployment diminishes tax collections and workplace fundraising. Governmental resources are scarce and competitors more plentiful. The National Center for Charitable Statistics⁶ states that currently there are more than 1.5 million nonprofit charities, foundations, churches and other nonprofits. There are all, in some way vying for public, philanthropic or governmental support. Funders are moving toward targeted giving, choosing to give larger amounts of funding to a smaller number of organizations. An April 2009 report from the Foundation Center noted that in a survey it conducted in January 2009, with 1,243 foundations responding, that 43% of them expected to reduce the overall number of grantees and 46% expected to decrease the number of new grantees they will fund they fund in 2009⁷. Foundations have been discouraged with the level of accuracy in reporting in certain of their grantees that are not administratively and financially well managed. In a more competitive environment, amid increased demands for transparency, compliance, and financial accountability, nonprofits will increasingly find themselves with less money to devote to new initiatives and infrastructure.

Success in this environment demands creativity, efficient and information. The remaining chapters of this book are designed to provide nonprofits and their boards with the practical knowledge and guidance as well as with the electronic tools and templates they need to make sense of the regulations, implement strong internal controls, and cultivate the courage to act on that knowledge.

In today’s volatile and uncertain environment, a nonprofit organization needs strong leaders and a strong board to successfully fulfill its mission.  We like to think of it as Mission = Compliance X Courage or M= C2.

Conclusion

There is no doubt that the risk is real and the time is now for nonprofit executive management and their boards to commit to placing increased emphasis on the governance-related issues.  Yet board members are frequently selected based on their interest and knowledge around the organization's mission, and may have less focus on internal governance issues believing  that mission is more important  than governance.  In the new environment in 2011 the focus on governance by regulators and funding sources is unmistakable.  Organization leaders and board members must realize that organizational process and structure, far from detracting from mission, are irreplaceable ingredients in effectively accomplishing its program goals.  In the new environment, neglect of these structural issues is no longer an option.  Along with increased oversight, as discussed in the chapter, penalties for noncompliance have increased.  Further, board members have accepted a legal duty for proper management of the organization's affairs, and good intention is not an excuse for lapses.  Succeeding chapters will equip nonprofit executive management and board members to better discharge their responsibilities because they will acquire the knowledge and skills it takes to operate in the nonprofit environment in 2011 and beyond. 

 

 About the book

Best of Boards uses practical examples, tools and templates to illustrate the key concepts in board governance.  It is a one stop shop for any board member or someone new to the nonprofit field to understand:

• roles and responsibilities of boards
• relationships between the board and management
• how to read financial statements
• legal and ethical responsibilities of boards
• internal controls
• managing risk in nonprofits
• monitoring activities for boards
• information about tax exempt status
• moral courage

The handy tools can be used by nonprofits, boards and consultants in working with nonprofit organizations to get results!