Knowledge and Insights

For years, funders have been encouraged to provide more multi-year funding. Nonprofit leaders have welcomed that shift, and for good reason. Multi-year commitments provide stability, support long-term planning, and allow nonprofits to focus more energy on advancing their mission rather than renewing funding year after year.

Yet a challenge continues to surface in boardrooms, audit committee meetings, and conversations with funders: a nonprofit can receive a significant multi-year grant, maintain strong cash reserves, successfully deliver programs, and still report an operating deficit that raises questions among stakeholders.
In many cases, the issue is not financial performance. It’s financial reporting.

THE SAME GRANT CAN PRODUCE DIFFERENT FINANCIAL RESULTS

One of the lesser-known realities of nonprofit accounting is that the financial statement impact of a grant often depends as much on the wording of the grant agreement as it does on the funding itself.

Two foundations may each commit $1 million over three years to support similar work. From an operational standpoint, the grants may be nearly identical. From an accounting standpoint, however, the results can be dramatically different.

If one agreement is considered an unconditional promise to give, the nonprofit may recognize the entire commitment when the award is made. If another agreement contains a substantive condition or barrier that must be overcome, revenue may not be recognized until future reporting periods when those requirements are met.

The nonprofit receives the same level of support. The mission impact may be the same. Yet the financial statements can tell very different stories.

WHY IT MATTERS

Many users of nonprofit financial statements focus on annual operating results, and understandably so. A reported surplus is often interpreted as a sign of financial strength, while an operating deficit can raise concerns about sustainability. However, when significant multi-year grants are involved, annual results don’t always provide a complete picture.

A nonprofit may report a substantial surplus in one year because a large multi-year grant was recognized under accounting rules. In later years, that same organization may report lower revenue or even an operating deficit despite having healthy liquidity, stable programming, and committed funding already in place.

In practice, we often see nonprofit leadership teams spending as much time providing context around their financial results as they do discussing operations. Board members, lenders, government agencies, and funders may focus on a reported surplus or deficit without realizing that the organization’s underlying financial position has changed very little.

WHAT FUNDERS SHOULD CONSIDER

Most foundations and funders focus appropriately on mission impact, outcomes, and organizational effectiveness. Accounting treatment is rarely the driving factor behind a funding decision.

Nevertheless, grant language matters.

Relatively small differences in drafting a grant agreement can determine whether funding is recognized immediately or recognized over time. While accounting consequences should not drive grantmaking strategy, understanding those consequences can help foundations anticipate how their support will be reflected in a grantee’s financial statements and how those results may be interpreted by others.

Many sophisticated funders have begun looking beyond a single year’s operating results when evaluating nonprofit organizations. They consider liquidity, reserves, future commitments, donor restrictions, program performance, and overall sustainability to gain a more complete understanding of organizational health.

WHAT NONPROFIT LEADERS SHOULD CONSIDER

For nonprofit organizations, the takeaway is not to structure grants around accounting outcomes. Rather, it’s to understand the reporting implications before agreements are finalized.

Finance teams, executive leadership, boards, and advisors should discuss significant grant agreements early in the process and understand how those commitments will be reflected in future financial statements.

Organizations should also be prepared to provide context when large timing differences affect reported results. Board presentations, management discussions, budget narratives, and funder communications can all play an important role in helping stakeholders understand what the financial statements do and do not convey.

HOW MERCADIEN CAN HELP

As multi-year grants become increasingly common, understanding the relationship between grant agreements, nonprofit accounting, and financial statement presentation has never been more important.

Whether you are a nonprofit executive evaluating a significant funding commitment, a board member seeking greater clarity around operating results, or a funder considering the implications of grant structure, thoughtful planning and communication can help ensure that financial statements tell the most accurate story possible.

We work with nonprofit organizations, foundations, and grant-funded entities to evaluate the accounting implications of significant grant agreements, strengthen financial reporting, and help boards and funders better understand the story behind the numbers.

If your organization would like to better understand how multi-year funding arrangements may affect your financial statements, board reporting, or stakeholder communications, we invite you to connect with our team. Together, we can help ensure that the story your financial statements tell accurately reflects the work you are doing and the impact you are creating.

DISCLAIMER: This advisory resource is for general information purposes only. It does not constitute business or tax advice and may not be used or relied upon as a substitute for business or tax advice regarding a specific issue or problem. Advice should be obtained from a qualified accountant, tax practitioner or attorney licensed to practice in the jurisdiction where that advice is sought.