Why Overhead Isn’t Evil in the Non-Profit World

Overhead is seen as the devil of the not-for-profit world. Here's why that conventional wisdom is wrong.

Every industry has a bogeyman. Farmers fear Mother Nature. Celebrities hate (yet love) the paparazzi. Big pharma worries about hurting babies — a jury loves nothing more than punitive damages for sick kids. In the not-for-profit world, we worry about babies too, but really, we think about overhead.

The first question many people ask me, truly, is, "How much do you spend on overhead?" That means expenses not directly related to a group's programs, including office rent and the electric bill. Givers want to know that we're not spending much money on this stuff, that most of their donations go to "program-related activity."

The assumption is that when 99% of your expenses go to programs, you are fantastic. Not-for-profits proudly proclaim, "95% of our expenses go to programs fighting poverty!" as if they're a gazillion times more effective than those that spend a pathetic 85%. Web sites that track not-for-profit financials perpetuate the "overhead is evil" myth by lauding groups that curtail it. Perhaps they think overhead is an espresso machine. Or a new jet. Or art on our walls. (Whoops! Then we'd be a bank.)

But low overhead doesn't necessarily mean an organization is awesome at fighting poverty, or that its turnover is low and its people productive. And it certainly doesn't guarantee that the group is spending wisely.

Let's take an example from the for-profit world, which isn't so squeamish about overhead. According to Apple's Q4 2008 report, 78% of its expenses were sales, general, and administrative — the corporate equivalent of overhead. Seventy-eight percent! Yet nobody flinches. Keep spending, Steve Jobs! Your products rock!

Obviously, not all overhead is good. I know one not-for-profit executive who flies only first class, stays in suites at the W, and has a car service schlep him around New York whenever he's there. This guy has an overhead problem.

Overhead is a beast, a mass of ambiguity and confusion — like the black-smoke monster on Lost. For instance, is it better to have no staff dedicated to grant writing? Without that person, fund-raising pressure could distract the program people. Worse, we might not land any grants at all.

Here's a case study from my own organization. Last year, we spent nearly $200,000 overhauling our Web site, from the content-management system to the architecture to the design. No one likes such expenses on the books: They smell like overhead. But our site no longer crashes, traffic has doubled, and we even won a Webby Award.

I decided to look at the list of alleged overhead addicts (imagine John Walsh's voice as you read). According to Charity Navigator, five charities that spend the biggest portion of their budgets on admin are:

1. Jobs With Justice, 77.5%
2. Boys Choir of Harlem, 66.3%
3. National Council of Negro Women, 64.0%
4. Fresno Metropolitan Museum, 58.4%
5. Cherokee National Historical Society, 58.2%

No doubt, there's waste on that list. But let's examine No. 4. In 2005, the Fresno museum closed its main facility and launched a three-year, $28 million renovation; it reported on its Web site that, because of the project, "operating expenses ... reflected an increase in administration." Renovations inflate overhead and slash the proportion spent on programs. But they're a legit, even laudable, expense. And the museum continued programming, to a reduced degree, while its building was shuttered.

My point: Stop obsessing about overhead. You can't assess an organization on one statistic. Instead, focus on effectiveness. That's a harder story to tell and a trickier thing to measure. But that effort is what everyone ultimately wants — a good investment.

Nancy Lublin is CEO of Do Something.

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18 Comments

  • Kris Sergentakis

    Sorry Ms. Lublin makes according to financials 206 thousand dollars a year plus I am sure a hefty expense account. If she really believed in her non profit why not collect a salary of let's say 60 thousand a year?

  • Kris Sergentakis

    These Non Profit CEO's making these huge salaries (millions) is intentionally over looked. Most Non Profit are merely schemes to enrich the top executives. see leukemia scandal on the web.

    if you want to help someone then help them, Don't give your money to these so called "non profits."

  • Fa

    Don't get me wrong, there's a rationale behind what you say, but how do I measure effectiveness?! Unless some CharityNavigator comes about that does an independent survey on effectiveness, overhead is a decent measurement of where my money is going, one that can be analyzed without requiring a degree and 10 years of experience in directing a company!

  • Sam Wilfred

    Good one! But in the end you always have to think about the greater good. The whole issue is balanced. Do good somewhere and someone else might feel you did something bad. So in the end it all cancels out!
    Cheap Utility Bills

  • Dan Pallotta

    Great post Nancy: I would add a few other problems with the obsession on "low overhead":

    1 - The accounting that underlies the overhead figures charities report is inconsistent. Some charities – big ones – game the system to give the public the number they want to hear, shifting large portions of administrative expenses over to the the "cause" side of the books, making them appear more efficient than another charity that has the identical expenses but is much more conservative in their accounting;

    2 - It forces charities to obsess over keeping overhead low at the expense of keeping results high. Charities get one message from us: "If you want out donations KEEP OVERHEAD LOW." We don't ever say to them "SOLVE PROBLEMS." If we tell charities we want low overhead, well then, that's what we'll get, or at least the appearance of it. But we'll never get any brilliant, daring long-term solutions to society's problems.

    3 - No one knows what overhead is. Including charities. All kinds of things that have direct impact on issues get painted with this ugly demonizing brush called "overhead." Overhead is a phantom - a superstition. It doesn't exist. There's no such thing. Every penny a charity spends in good faith it spends to advance the causes, in whatever way it thinks the cause can best be advanced.

    4 - It ignores incremental effects - yes, the average percentage of all donations that went to the cause may well have been, say, 70%, but your decision on whether or not to give $100 to the charity may well have a $100 effect on the cause - 100%.

    5 - To Nancy's point, In 1995 Physicians for Human Rights had 42% "overhead." They wouldn't have been eligible for any of these ridiculous watchdog approval seals. The Nobel Committee felt differently. In 1997 they awarded Physicians for Human Rights the Nobel Prize for their work as a Founding member of the International Committee to Ban Landmines.

    Dan Pallotta
    Author, Uncharitable: http://www.uncharitable.net
    Harvard Business Blog, "Free the Nonprofits": http://blogs.harvardbusiness.o...

  • Rob Rosenthal

    Spending money frivolously is never something you'd want to see in a charity to which you're giving money. However, much of the so-called "overhead" spent at the philanthropy I work for, UJA-Federation of New York, is used to support a programming staff that spends nearly all its time evaluating the needs in the community, so contributions are actually being used to address the most crucial issues. The programming staff then evaluates the service providers who've received our grants to make sure the money was spent efficiently. Seems like a pretty good use of money to me. And we're certainly not the only philanthropy doing this sort of buttoned-up due diligence.

    By contrast, we could eliminate this expenditure, cut staff and simply pass the money on to service providers with no real idea as to whether the money is being spent well or to address the most crucial problems in the community. Sure, our overhead numbers would be lower, but your guess is as good as mine whether the money we distribute would be spent wisely. Overhead isn't waste when it's ensuring that donors' dollars are going to where they're needed most.

  • I I

    Behind an (irrational) overhead fear is hidden the threat of loosing the coorporative control of the enterprise. Not-for-profit pursue a goal, and it is success in that goal and not economic/finacial profit what is the reward. Overheads are sean as a waste and what is worse a negative bias towards the success of the coorporative goal leading to an irrational fear.

  • Jimmy Chen

    It's unfortunate that our comprehension of costs is limited to a quantitative measure. And that's one of the biggest problems plaguing our society today- the same reason why Economics had terms like "socially optimal" and "DWL" coined. If we don't come up with a way to measure the total effectiveness of an investment in social capital, not-for-profits may not survive.

  • Matius Krisetya

    I agree with your ideas. Non-profits have not been able to get out of the mode of being a charity despite their rhetoric of empowering people. And the implied assumption behind charities are the more you give, the better. It has been proven in my field experience that the less you give ($), people who benefit from our work are actually better off.

  • Nadine B. Hack

    Nancy - Jacob Lief, founder and president of Ubuntu Fund ubuntufund.org referred me to your article, which I applaud. I share your perspective as does Jake that investing in human resources is the top priority. We need to help those who assess the effectiveness of programs understand this. As an advocagte, let me know if there are ways we can collaborate. You can check out what I've written most recently on http://blog.beCause.net and I look forward to staying connected. - Nadine
    ____________________
    Nadine B. Hack, President
    beCause Global Consulting
    870 United Nations Plaza
    New York, NY 10017 USA
    T: (+1) 212 753 7610 / F: (+1) 212 937 2177
    www.beCause.net / http://www.linkedin.com/in/nad...

  • AL WROBLEWSKI

    Nancy, you're article is messing with the tip of an iceberg!

    I think we are witnessing the collapse of 501(c)3-world. Basically, the
    economic model does not work. The tax structure precludes access to serious
    capital and, thus, almost all non-profits are under-capitalized.
    Furthermore, so-called funders demand incredible amounts of detail and
    thoroughness in unfunded applications, they demand sophisticated program
    modeling with intricate metrics, data collection, monitoring, evaluation,
    etc., etc. --- very little of it funded. Governments are squeezing
    non-profits by grossly under-funding service contracts. And, a pet peeve of
    mine, retirement savings for employees are never funded by "funders." In
    essence, a whole pile of institutional free-loading on the backs of
    non-profits and their volunteers and staffs is unraveling. The party's over.

    It is time for a radical restructuring of the non-profit sector so as to
    replace groveling with financial self-sufficiency.

  • Jeff Lindauer

    Great stuff, Nancy - couldn't agree more. I linked to your article on my fundraising blog (gettinggiving.com)and had somebody say it made her day. She had just met with her supervisor who wanted to discuss the cost to raise a dollar in her program. She said she needed a 'boost' after the meeting and the coincidental timing of your article and my blog post did the trick. We made somebody happy - or at least happier - today!

  • Mary Adams

    This is a great example of the ridiculous distortions that have been caused by the accounting community's failure to catch up with the knowledge economy.

    A lot of the overhead that you describe is not overhead at all--it is an investment in the future capacity of the business. Investments in websites and computer systems are no different conceptually from an investment in office furniture. But from an accounting perspective, office furniture can be capitalized, that is, be booked on the balance sheet and expensed slowly to the income statement over a number of years.

    This accounting treatment is not afforded to investments in knowledge assets. There are a lot of reasons for this (see this post to understand them: http://www.i-capitaladvisors.c...

    But the effect of this is that we end up confusing the cost to build and the cost to operate a business or nonprofit. The income statement should only show the cost to operate. Then the kind of "overhead" analysis you describe would be valid.