It’s towards the end of the year, and especially around Giving Tuesday , people picking out charities want to know: is this charity making good use of the money it gets?
By most indications, people care an awful lot about whether the charities they give to do any good. Surveys of donors have found that they look for seals of approval from “watchdog” charity evaluators like Charity Navigator and GuideStar. One analysis took advantage of the fact that Charity Navigator’s ratings fluctuate from year to year to study the effects of a change in rating — and they found that donations seem to change when ratings do.
So yes, donors care whether their money is doing any good. Unfortunately, donors are often stuck relying on poor evaluation methods. One common metric is particularly bad: overhead. Overhead measures what percentage of a nonprofit’s spending goes to administrative expenses instead of going directly to beneficiaries.
For a long time, overhead has been considered a key metric in evaluations of nonprofits. It was prominently featured in Charity Navigator’s ratings of nonprofits and in the public conversation about what makes a charity good or bad.
Charity Navigator has since changed its tune on overhead, but the idea that how much a program spends on staff and administrative costs is a good metric for its effectiveness nonetheless persists. Consumer Reports’ guide to giving last year talks entirely about overhead, and never about impact. Other charity evaluators still use overhead metrics.
And donors still care about it. The recent effort by major charity evaluators to walk back from their previous use of the overhead metric “clearly didn’t work,” Nonprofit Quarterly concluded this September. A survey this February found that some 60 percent of donors were concerned that charities overspent on administrative expenses (though they mostly didn’t know how much the charities they favored spent, and were okay with supporting charities with more overhead than ideal).
It’s easy to see where the obsession with overhead came from. If you aren’t in a position to evaluate whether a charity is getting results, you are often at least in a position to evaluate whether it’s spending its money on the cause at all, or just spending it on perpetuating itself.
But the focus on overhead has come at a great cost to the charity world. On the whole, it’s a pretty bad way of approaching the question we really care about — whether a charity is doing any good.
A focus on low overhead can be destructive for charities
When charities have to focus on keeping overhead low, they often do worse work. They try to cut costs on staff, which can mean employees end up burned out or underqualified to begin with. These charities might not put resources into measuring whether their programs work, which often requires much more administration. They might not fundraise as much as they need for their financial health.
Everyone who tracks overhead calculates it a little differently. It’s unclear which staff hires are administrative expenses and which are program expenses spent on delivering results. Some evaluators have argued that training expenses shouldn’t be counted, but others have observed that “investments in training, planning, evaluation, and internal systems” get counted as overhead. Either way, nonprofits focused on reducing overhead often skimp on these practices — and that makes them less effective.
Nonprofits pay less than the private sector, and that has definite costs for their programs and employees. Underpaid employees can lead to higher turnover, which can be exceptionally expensive for a business as it requires the business to more frequently deal with the expense of running a hiring process, making a hire, and training them. And lower salaries mean nonprofits can’t always attract the most qualified candidates for their roles.
If a nonprofit is understaffed, overworking its existing staff, or failing to hire qualified people, it will probably be significantly worse at provision of services. In an article in the Stanford Social Innovation Review, consultants in the nonprofit space describe working with companies who, in the name of reducing overhead, had “nonfunctioning computers, staff members who lacked the training needed for their positions, and, in one instance, furniture so old and beaten down that the movers refused to move it.”
The article stated that “The effects of such limited overhead investment are felt far beyond the office: nonfunctioning computers cannot track program outcomes and show what is working and what is not; poorly trained staff cannot deliver quality services to beneficiaries.”
Another point worth considering is that not all charities are created equal. If a charity has complex operations requirements and needs a highly skilled staff to coordinate its work, it may have high “overhead.” This wouldn’t tell you much about whether it was efficiently run, though, much less about whether it was having an impact on the world.
On the flip side, some charities manage very low overhead precisely because they’re not doing any followthrough or any complex operations. A charity that just mails people books without any followup to check if they’re reading the books will have lower overhead than a charity that mails books, engages with recipients, recommends them additional educational resources, and collects data on its own operations. The latter charity might have higher overhead — but might also be offering a much more meaningful service.
Charities that are just getting off the ground often have much higher overhead, as they don’t have an established network for fundraising and need to spend more to get the word out, recruit and hire staff, and establish their operations. These charities are often among those where additional money makes the biggest difference (as it can be make-or-break for the survival of the organization), but will typically score poorly on overhead measures.
People are aware of all these problems — but overhead-based metrics are still in widespread use
None of the above are new arguments. In 2013, Charity Navigator, GuideStar, and the Better Business Bureau’s Wise Giving Alliance all signed an open letter calling for less focus on overhead. “The percent of charity expenses that go to administrative and fundraising costs—commonly referred to as ‘overhead’—is a poor measure of a charity’s performance,” the letter says. It continued:
In fact, many charities should spend more on overhead. Overhead costs include important investments charities make to improve their work: investments in training, planning, evaluation, and internal systems— as well as their efforts to raise money so they can operate their programs. These expenses allow a charity to sustain itself (the way a family has to pay the electric bill) or to improve itself (the way a family might invest in college tuition).
Top charity watchdog Charity Watch pushed back, arguing that effectiveness is too hard to measure, so evaluators should stick to overhead. Their own A to F ratings for charities come entirely from overhead and fundraising efficiency. And even when other charity raters have tried to come up with better metrics, overhead has continued to get a lot of airtime.
Consumer Reports still used overhead in its guide last year even though two of the organizations it talks about, Charity Navigator and the Wise Giving Alliance, were signatories to that anti-overhead letter, and are shifting toward holistic approaches that consider more than just administrative costs.
The problem is that a charity’s true value — how much good it does — is exceptionally hard to measure. Charity Watch argues, “an adequate evaluation of the multiple, diverse charitable programs of this number of charities would require expertise, manpower, and financial resources far beyond those of any existing charity monitoring organization.” They’re partially right. GiveWell is the most rigorous evaluator of charity effectiveness, but they are not able to evaluate thousands of charities and focus their efforts on only the most promising ones.
The problem is that, while donors care about doing good, they’re largely not that informed and they have a healthy distrust of complicated, invisible calculations that are hard to understand. Overhead is simple to grasp, it makes sense, and it feels related to charitable effectiveness.
Replacing it with metrics that are more honest but more complicated and uncertain is going to take some time. But we can start by rejecting metrics that are unhelpful for charities and not all that meaningful for us.
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