Understanding Profits of Non-profits

March 7th, 2020.

It is not very uncommon — if not often — that non-profits acquire sums of money beyond what their operations need. Their calling to a cause and popularity rewards them handsomely. In their pursuit of generating enough funds for their cause, they often bite more than they can chew. Consider the corpus — called by different names in different countries — of Greenpeace. Their fund balance is 38,316,000 euros with net income of 1,413,000 euros, or 3.7%. In a general sense, it means that they’re playing with very small money in comparison with their pocket size.

I got three questions regarding these non-profits' finance philosophies:

1. Since donations are one-way and donors hardly compare donations with their other investments (if I can even call donations as investments), I believe non-profits' cost of capital (what you pay one extra rupee you need) would be zero.

2. If so, would they take any and every project that “sounds good” to them, without much in-depth financial analysis? Won't this lead to choosing wrong projects?

3. Corporations have an earnings redistribution decision to make: how they plan to return back the money to their investors. As far as I know, there are no such decisions for them. So, if we have a non-profit that has a huge corpus and keeps on adding 2-5% of it every year and can't find a suitable venue to invest in, what should they do?

I pondered over these questions. The more I thought about them, the more they confused me. So, I approached my finance professor, Prof Radha Ladkani. She first explained me related terms and concepts. Then we mulled over and finally arrived at following perorations:

1. For non-profits, returns are not always tangible. For example, an organisation working on preventing farmer suicides would judge its efficacy by how many suicides it prevents rather that economical return on investment which could possibly be negative!

2. Financially, it makes sense to invest in all projects that generate positive return greater than expected inflation. But would an organisation do that? Never. Why? Because it's a qualitative judgement and every non-profits’ investment has to be justified to its donors — or it loses them forever.

I was trying to understand why my institute deemed it fit to replace the one set gleamy tiles with another set — an illogical investment in my opinion — instead of controlling the skyrocketing tuition fees. On a philosophical lever, I supported self-sufficiency of institutes but how much of forced donations was enough? Professor suggested me this money were to be used for research funding as supporting needy students, in future, the way western institutes do it. I can’t really accept it. Unlike western institutes that corpus who do support needy students with their tuitions, IIM Indore doesn’t. It does unwillingly try — through NBFA, etc. that reduce 1% of tuition fee for 0.1% students — but that’s it. And research? Well, I don’t know about faculty research incentives but it definitely doesn’t support student research.

Is our qualitative judgement of investment so bad that we value adding some plants to the garden more than pushing our academic ethos? I’ll leave it to the reader to decide.