Among the key responsibilities of nonprofit leaders is protecting the financial health of their organization. This can be a considerable responsibility during the most buoyant economic times – and is especially weighty during times of economic turbulence.

Still, the board of directors must make decisions regarding the future of the organization. This is when a nonprofit’s financial statements can serve as a valuable resource to guide informed decision-making by offering important insights regarding the financial viability of planning and delivering services and programs.

Balance sheet

The balance sheet (also known as the statement of financial position) portrays an organization’s financial condition at a particular point in time. This document lists assets and liabilities and calculates equity and indicates whether the organization has sufficient assets to cover liabilities.

Reviewing the balance sheet can provide directors with an understanding of the financial strength of the organization – whether it is managing the ebb and flow of revenues or decinding whether cash reserves may need to be tapped.

Along with reviewing the balance sheet for trends in the nonprofit’s overall financial health, it’s also helpful to study certain key areas. Are accounts receivable, for example, steady or rising? Is the average collection period stable or increasing? What is included under accounts payable? Are there sufficient funds to meet accounts payable obligations? Are investments earning a reasonable rate of return?

By comparing the current balance sheet with those of the previous year and looking at any changes in equity, the board can identify trends in the organization’s financial health.

Income statement

The income statement (also known as statement of operations or statement of activities) indicates what the organization earned (revenue) and spent (expenses) over a specified period of time. Subtracting expenses from revenue reveals the total surplus for the year. This accumulation over time is the organization’s net assets.

Since the categories of revenue and expenses are the same as the ones in the organization’s budget, comparing the income statement with the budget can point out how a nonprofit is faring.

It’s helpful to prepare income statements at least quarterly to monitor progress and detect problems. Board members should look for unbudgeted revenues or expenses and discrepancies between budgeted and actual figures. Are fundraising dollars, for example, higher or lower than expected? Have membership fees increased substantially over the previous quarter or year?

You can see how plans are faring by studying the organization’s equity or net asset position at year end. The net income (or loss) from the income statement is brought forward to the balance sheet and added to the equity/net asset position at the beginning of the year to arrive at the year-end position. This can show you whether plans and projects have achieved their financial goals.

Statement of changes in net assets

The statement of changes in net assets depicts unrestricted, temporarily restricted and permanently restricted net assets and shows how these have changed from one period of time to another.

When restricted assets are increasing and unrestricted assets falling, an organization has less equity available to handle a temporary cash shortage or deficit. For example, if the board sets aside a portion of net assets to expand programs or to renovate a building, this temporarily restricts the use of these funds and could affect its financial stability.

Thus, when making planning decisions, the board should review assets and determine the impact of potential projects on asset equilibrium. As these projects roll out, it is equally important to monitor the statement of changes in net assets and the allocation of those assets to ensure the organization maintains a healthy balance.

Cash flow statement

A cash flow statement (or receipts and disbursements statement) reports cash inflows and outflows related to an organization’s operating, investing, and financing activities for a particular period of time. This document enables management and the board to identify where funds came from, how they were spent, and the quantity that remains. While often overlooked for planning purposes, this statement reveals how much cash is available to pay expenses and to purchase assets, and can therefore be an insightful nonprofit resource for strategic planning.

The first part of the statement shows cash flow from net operating income. The second part depicts cash flow from investing activities, including purchases or sales of long-term assets, such as land, buildings, or equipment. The third part of the statement addresses cash flow from financing activities, including the purchase or sale of stocks or bonds or borrowing from lenders.

It’s helpful for directors to review the cash flow statement to determine the key sources of the organization’s income and where it is going – and whether there is sufficient cash flow to support planned projects.

The budget

Of course, a nonprofit’s budget is its most essential planning tool since it guides the organization’s priorities and direction for the coming year. Therefore, a budget should reflect revenues and expenses for administration, programs and fundraising that are capable of achieving the organization’s goals.

Comparing the previous year’s budget, the current budget, and monthly revenues and expenses on a regular basis can help to assess progress and impediments. Explore differences between budgeted numbers and actuals to identify potential problems, such as expenditure lines that are too high or too low compared to what is expected.

When it comes to making important decisions that may affect the future and the financial well-being of a nonprofit, it’s vital to look before you leap. Review the balance sheet, income statement, cash flow statement, and statement of changes in net assets. On a regular basis, compare these with the same documents from the previous year, as well as with the current budget to identify key differences and trends.

Becoming familiar with these documents and their numbers will equip you with the confidence of knowing you are making informed decisions about the future of your nonprofit – and ensuring a healthy bottom line.

Bob McMahon, CA, is a partner of BDO Dunwoody LLP. He provides auditing, accounting and advisory services to nonprofit, private and public organizations. You can reach Bob at (905) 270-7700 or bmcmahon@bdo.ca.