Online Extra: For Nonprofits, "It's a How Crisis"

Professor and author Paul Light says the biggest problem is underinvestment in infrastructure, which leads to more inefficiency

A spate of highly publicized scandals in the nonprofit sector has donors demanding more information about how their gifts are being spent. At the same time, financial pressures and a substantial decline in IRS audits has led to a culture in which nonprofits often forgo investing in infrastructure -- marketing, communications, and accounting.

While misuse of funds is clearly serious, ignoring infrastructure is greater threat to nonprofits, says Paul Light, a nonprofit management professor at New York University. He recently authored Sustaining Nonprofit Performance: The Case for Capacity Building and the Evidence to Support It. BusinessWeek's Jessi Hempel recently asked Light about the abuses being exposed in the nonprofit sector and concerns being raised. Edited excerpts of their conversation follow:

Q: Is abuse among nonprofits a growing problem, or is it simply getting more publicity?


A little bit of both. In the last 10 years, we've created thousands of new nonprofits annually. When you're creating 2,000 to 3,000 new nonprofits a month, something will go wrong with some of them. One of the questions many people are asking is whether the regulators are somehow wrong about the abuses they're seeing. You have to deny a lot to think that.

Q: Are recently exposed abuses evidence of a big problem for the sector?


There are a few bad apples where individuals are totally intent on defrauding donors and the public. There is a much larger problem within the sector that deals with infrastructure. Many nonprofits see it as a trade-off -- the mission or the system, kids or computers, training vs. trees.

Nonprofits will pick the mission every time, and that's why we like them, why we admire the sector. But that opens up enough doubt about their finances that the sector has to embrace the demand for reform.

Q: Where should nonprofits direct their resources?


There has been persistent underinvestment in their business infrastructure. When I go out to talk to people at nonprofits, I tell them they need to get better training and build their infrastructure to guard against these problems.

Q: Isn't that the legacy of nonprofits -- that they're always scrambling to make do with limited resources?


Yes, certainly. There's a certain pride that comes with being underequipped. "Look at our shabby chairs, our furniture, what we manage to do with so little." That has a tendency to catch up with you over time. It's a $700 billion industry with a world-class workforce -- but oftentimes with second-rate technologies and equipment and staff training.

It's a catch-22 for nonprofits because givers are increasingly reluctant to provide the dollars for overhead and administrative costs. They think there's significant waste in the sector. They say they want a 100% pass-through on their grant or gift.

The nonprofits say: "Help us do board development." The givers say: "Not until you improve your system." How are you going to improve the system without the gifts?

Q: Do you think a growing number of people are trying to scam charities?


I think that's less frequent than just simple poor management. You get people...who will come in, get what they can, and get out. But for most nonprofits, it's difficult even to produce the financial reports that would show that kind of thing.

Q: Does the nonprofit sector need more regulation?


You've got the state attorneys general, the BBB Wise Giving Alliance, the IRS, all of whom are understaffed.... The IRS could do a lot better job by actually defining terms more clearly so that nonprofit officials could do a better job of reporting their finances.

More regulation by itself isn't going to improve nonprofit performance. We ought to fund the IRS to do more audits, [but] that's not going to produce anything but more bad news unless the sector also has the financial wherewithal to invest in the systems.

Q: Do you see the sector moving to become more financially savvy?


The sector isn't quite getting it. Public-opinion surveys show Americans aren't concerned that charities are somehow helping the wrong people, [but] we do find Americans concerned that charities can't run their organizations wisely. There are serious doubts about wasted resources and difficulties producing results. It's a how crisis, not a what crisis.

Q: How can things get better?


It starts with an acknowledgement [by nonprofits] that donors, volunteers, and the American public may be right in their demands to see their dollars spent more efficiently. Then it requires a willingness to go to donors and describe a set of investments that are clearly defined and carefully described.

What you hear in the nonprofit sector is: "Give us more operating support." I don't think donors are willing to do that. Even people who have a fair amount of confidence in the sector believe that it wastes a lot of money. [Nonprofits] must be quite direct in saying: "Here is the investment we want to make. We believe it leads to increased productivity."

Q: What, if anything, will drive reform?


The driver will be continued financial pressure and [donor] reluctance to invest. I think nonprofits are feeling a great deal of pain right now. What they're not willing to admit yet is that part of the pain is self-inflicted.

The sector is under extraordinary pressure, and a significant number of people think this will go away within a period of time. But confidence in the sector is indisputably related to willingness to give and volunteer, and these problems are significant [barriers] to giving and volunteering. They just are.

It's very difficult to ask a donor who doesn't trust your accounting systems already to donate more money for board improvement. We have to learn to make the argument to donors more forcefully and with more transparency.

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