In part 9 of our ongoing blog series, Financing Not Fundraising, we are discussing the importance of calculating the return on investment of every revenue-generating activity your nonprofit undertakes. This can be fairly easily understood through two basic, but critical analyses: net revenue raised and cost to raise a dollar. If these two calculations were applied to every money-making effort a nonprofit engages in, organizations could quickly determine which are the most effective activities and scarce resources could be more profitably allocated accordingly.
If you are new to this ongoing series, our Financing Not Fundraising series argues that fundraising holds the nonprofit sector back by keeping nonprofits in the starvation cycle of trying to do more and more with less and less. To overcome this, nonprofits have to break out of the narrow view that traditional FUNDRAISING (individual donor appeals, events, foundation grants) will completely fund all of their activities. Instead, they must create a broader approach to securing the overall FINANCING necessary to create social change. You can read the entire series here.
There are two simple, and related, calculations necessary to determine the effectiveness of a nonprofit’s revenue-generating activities. The first is net revenue. NET revenue is so much more informative than GROSS revenue. Gross revenue is the total of all money brought in because of a fundraising activity (a direct mail appeal, a gala, a foundation grant, a major gifts campaign). But that figure is meaningless until you understand what it COST you to bring that money in the door. These costs are both DIRECT (the materials required for the activity, the staff that worked directly on the activity) and INDIRECT (volunteer hours, overhead staff time). You only really know how much money you made once you subtract the costs to make it. Thus,
Net Revenue = Gross Revenue – Fundraising Costs (Direct and Indirect)
Let me give you an example. Let’s pretend that a nonprofit organization with a $500,000 annual budget throws an annual gala with a band, catering, and an auction. One staff member spends half their time getting the event together, and a board committee helps sell tables and provides oversight. At the end of the event the organization grosses $100,000. They are thrilled that they have made 20% of their annual budget in one night, right? Wrong.
That’s only the gross revenue. What is the net revenue of this gala, i.e. what did it cost them to raise that money? The direct expenses for the event (the band, venue, food, decorations, invitations, etc.) cost them $50,000.
Direct Expenses = $50,000
But they also need to factor in the indirect expenses. Their event coordinator spent half a year preparing for this event. Their Executive Director attended meetings, made phone calls to invite people, and came to the event. The Development Director worked on the event. And the board committee put in many hours planning, marketing, and attending the event. So if we calculate the hourly rate of those staff member’s time (salary and benefits) and multiplied it by the hours they each worked, we’d get the cost of their time. We also need to do the same for board members. We can use the standard value of volunteer hours ($20.25) multiplied by the number of board members who worked on the event and the average number of hours they spent. If we add all of this up we get:
Event Coordinator = $15,000
Executive Director = $4,000
Development Director = $5,000
Board Members = $3,000
Total = $27,000
So the total costs of the gala were:
$50,000 (direct expenses) + $27,000 (indirect expenses) = $77,000
And, the net revenue on this event was:
$100,000 (gross revenue) – $77,000 (direct and indirect costs) = $23,000
Which brings me to the second critical calculation: cost to raise a dollar. How much did it cost the organization to raise that $23,000?
Cost to Raise $1.00 = Costs (Direct and Indirect) / Net Revenue
$77,000 / $23,000 = $3.35
So it cost this organization $3.35 to raise $1.00. That’s not an attractive return is it?
Although this organization actually made money, the cost of making that money is far larger than the money they made. And how does the cost of making this money compare to their other fundraising activities?
Well, let’s take another example. Pretend this organization hires a major gift officer at a salary of $65,000 per year plus benefits. Her salary and benefits are the direct costs. The indirect costs could include: the Executive Director’s and board members’ time to go on donor and prospect visits, creation of materials, and the sending of thank you letters. The total for these direct and indirect costs would be $100,000. Say that this major gift officer raises $500,000 per year in major gifts.So the net revenue would be:
$500,000 (gross revenue) – $100,000 (direct and indirect costs) = $400,000 Net Revenue
And the cost to raise a dollar would be:
$100,000 (direct and indirect costs) / $400,000 (net revenue) = $0.25
So it takes $0.25 to raise $1.00. That’s a dramatically better return on investment than the gala that cost $3.35 to raise $1.00 above, isn’t it?
I encourage you to run the numbers on your own fundraising activities and then compare. How does your net revenue and cost to raise a dollar compare across activities? Which are the most effective fundraising activities? What if you poured more effort and resources into the higher net activities? More money would contribute to your bottomline, meaning more money to spend on the social impact you want to create.
That could be transformative.
If you want to learn more about calculating the costs of fundraising, download the 27-page Financing Not Fundraising e-book.
Photo Credit: sykez
Thank you for sharing your thoughts on fund raising. I plan on working my way back thru the other articles so that I can get a clearer picture of your ideas. I do have one question about this article though.
I imagine that the Event Coordinator, Executive Director, and Development Director costs would be included in the $500k annual budget, so why would you remove that cost from the income calculation of the event?
Thanks, Matt. I hope you do keep reading the whole Financing Not Fundraising series.
In order to understand the total costs of this event, and thus the real profit of the event, I have allocated the portion of each staff member’s salary that they spent working on this event.
The organization’s annual budget includes all costs for the entire organization for one year. In the above exercise I was simply trying to understand what portion of those costs went to this event. Once we do that we can understand what the true profit (revenue – costs) of the event was. This is a cost allocation analysis that nonprofits should do to understand where their time and money goes and if it is going to the highest and best use.
I agree that it is important to include indirect as well as direct costs. In the example you cite of indirect costs, though, I would have called these “direct costs,” too, in that things like time spent by the Executive Director going to meetings about the gala (your first example), Board committee hours contributed to the event, and the like were applied DIRECTLY to the gala. Indirect costs should have included organizational overhead like utilities, office expenses, clerical time, etc., apportioned to the event using a formula that assumes that if, say, 20% of the organization’s budget is spent annually on overhead (i.e. not assigned to specific activities), then the indirect costs assigned to the gala should be 20% of the direct costs of the event (as I have described them, not as you have). The result: the gala actually cost $14,400 more than in your example, and is therefore even less cost-effective than you describe. This doesn’t contradict your very important point, of course–it amplifies it!
Dave, I understand where you are coming from, but the reason I didn’t include organizational overhead is because you would include it for anything that the organization does. So, whether you are calculating the cost of fundraising for a gala event, a grant proposal, a major donor campaign, etc, overhead would be, in your example, an additional 20% of the costs. So it’s an extra step that doesn’t yield you any additional information because it is a constant. So I decided to leave it out. But you can certainly include it.