Allocation of Nonprofit Funds Among Program, Fundraising, and Administration

Abstract

Problem Definition: US nonprofits declare three types of expenses in their IRS 990 forms: program spending to meet their beneficiaries' needs; fundraising spending to raise donations; administration spending to build and maintain capacity. Charity watchdogs expect nonprofits to prioritize program over other expenses. We study when such expectations may be counterproductive. Academic/Practical Relevance: The intertemporal tradeoffs among program, fundraising, and administration shape nonprofits’ operations but have received scant attention in the literature. We provide insights on how nonprofits can manage these tradeoffs to optimize budget allocation. Methodology: We characterize the optimal budget allocations to program, fundraising, and administration using a two-period model, which also includes the nonprofit’s capacity, return on program (the net value of program to beneficiaries) and uncertain future needs of beneficiaries. We use public data to compare our model’s prescriptions with the actual budget allocations of a leading network of foodbanks. Results: The optimal allocation depends on the nonprofit's capacity. At high capacity, the nonprofit should spend on administration just enough to maintain its existing capacity. At moderate capacity, the nonprofit should still just maintain its existing capacity, but also limit its program spending, so that it has money for fundraising to raise a budget that will use up its capacity. At low capacity, the nonprofit should increase administration spending to expand its future capacity. Managerial Implications: Our case study indicates that the nonprofit underspends on administration and fundraising. We conduct a sensitivity analysis focused on return on program. At higher values of return, the gap between actual and prescribed allocations shrinks. Perhaps this indicates that the nonprofit's allocations are based on high estimates of return. An important implication is that, when setting expectations for a nonprofit, watchdogs should be mindful of the nonprofit's capacity and return on program.