When an accountant or Treasurer finishes their report, are you left with the question, “Was that good or bad news?” In its quest for precision and accuracy, the language of accountants can start to sound like jargon to the untrained ear. Some accountants are very good at using plain language, while others are blissfully ignorant that their message is not being understood by their audience.
- Is this important?
- What should I do about it?
Sworn to secrecy as I am, I can’t give away the secret handshake or the decoder ring, but here is a short list of common terms you will hear in financial analysis, along with warnings about what action(s) you should take when you hear them.
Note: for a comprehensive glossary of fundraising terms go here: http://www.networkforgood.com/nonprofitblog/online-fundraisers-glossary/ *LYBUNT is an acronym for lapsed donors, i.e. those who gave Last Year But Unfortunately Not This.
Accrue / Accrual
This term simply means that the paperwork has not caught up to the transaction. For example, if your lawyer has done work for the organization and has not yet submitted an invoice, the accountant will accrue the legal fees. This also works for revenue as well. If we have shipped a product to a customer but have not yet sent out the invoice, we will accrue the revenue and any associated costs.
Action Required? No. This is just the accountant attempting to capture all of the transactions that happened in the period.
However – If the word keeps showing up repeatedly, you should ask why the paperwork is taking so long to catch up to the transaction.
Defer / Deferral
When the organization has received money for a particular purpose and it has not fulfilled its end of the bargain, the money cannot be recognized as income, so it is deferred. When the organization has performed its obligation, the money is included in income. This is a confusing concept and can lead to disputes between the revenue generation staff and the financial staff.
Let’s say that an organization sells a 12 month membership to Ms. Jones for $1,200. In return for the money, Ms. Jones has access to the resources for a year. At the beginning of the year, the organization has done nothing for Ms. Jones, so the whole amount is deferred. With the passing of each month, the organization can bring $100 (a twelfth of the annual amount) into income.
Action Required? Yes. Deferrals can cause issues between the revenue generation team and the finance team unless the differences are understood. In the simplistic example above let’s assume that the sale happened at the end of the year. The revenue generation team may think it has met its objective because it brought in the membership, but the finance team will argue that the money belongs in the next year, not this year.
Amortize / Depreciate
This is the simple idea of spreading the cost of something over its useful life, with the added wrinkle that if the something is a mortgage, the payments are divided into principal and interest. Only the interest becomes an expense.
Action Required? None, except that if the amortization amounts are high, they can obscure other results. If you have a lot of amortization, especially when both revenues and expenses are affected, you should pay careful attention to the Cash Flow statement to be sure that more cash is coming into the organization than is being paid out.
The difference between the actual amount and the budgeted amount is referred to as a variance. The budget represents the organization’s plan at the beginning of the year. The variance analysis is a way to identify the changes that have happened, such as unexpected expenses or events that happened later than planned.
Action Required? Yes. It’s too easy for a financial analysis to get lost in the detail and miss the overall message. The prime concern of any financial statement reader is the future of the organization. Is it sustainable and on the right course? Does management understand the situation and know what to do? The pluses and minuses of individual lines on the financial statement need to be placed in an overall context.
In addition, make sure the accountant designs the formulas so that a negative variance is “bad” and a positive one is “good”, otherwise they can be confusing to read.
Often the reason given that an item is over or under budget is timing, meaning that the budgeted amount will be met, but that it has happened more quickly or more slowly than planned.
Action Required? No, unless this explanation is over-used, in which case, you should question why there are so many timing differences.
Equity (Net Assets)
In a for-profit company, the equity is theoretically what is left over for the owner(s) should the company shut down and all of the assets are sold and the liabilities paid. In practice, it is a balancing number of no use in the financial statements.
Action Required? No. Just be sure that nobody thinks that the Equity or Net Asset represents cash the organization can use.
Beyond being the calculation of whether the money being received is greater than the money being spent, cash flow is important because of the emphasis put on it by many business people. Classic accounting theory said that accrual accounting is the best predictor of future cash flows because it includes all of the costs incurred, but in the short run, you need to have enough money on hand to fund the operations or the organization will simply not survive.
Action Required? None, except to be sure that the details do not obscure the overall message. If, for example, in a given year, the cash flow is negative, i.e. more money is being spent than being received, then it is important to look at what the organization is spending money on. If a building is being constructed or major equipment purchased, than the cash flow could turn negative in an otherwise healthy organization. Be sure that the organization has money to pay its staff and contractors in this interim period.
Qualified (Audit) Opinion
The word itself is confusing. You want an unqualified opinion from a qualified auditor! In this case, qualified means limited, restricted or modified. In other words, if the auditor’s opinion states that the statements adhere to accounting standards except for, you have a qualified statement.
Action Required? Because it is impossible to determine whether all the donations for some charities have been received, many charities routinely get a qualified audit opinion. If this is the case, no worries. Otherwise, talk to the auditors about what changes need to be made in order for them to issue an unqualified opinion.
Finally, and most importantly,
Choose either A or B:
- An opaque document comprehensible only to certified accountants and only then after much study, or
- A summary of the economic activity of an organization that helps the reader understand the organization’s story.
Action Required? Yes. It takes careful planning to create a set of financial statements that adheres to the appropriate accounting standards as well as giving a reasonably financially literate reader a clear picture of the activities of the organization, but it is worth doing. A clear financial picture of the past year helps your stakeholders make informed decisions about supporting you in the future, as well as confirming the value of their past support.
Your ongoing mission: