Once Again! What Are the Best Risk Levels for Your Nonprofit’s Investments in a COVID 19 environment and after it?
By Eugene Fram Freed Digital Image
Some nonprofits have significant investment accounts. The following are some guidelines to help develop investment policies during and after COVID 19. These funds may have been accrued through annual surpluses/donations or have been legally mandated to cover future expenditures through a reserve account.
- How does your committee define risk, and how much are you willing to take? * Most nonprofit by-laws require a nonprofit to conservatively manage and invest its funds. This give the investment committee a wide range of policies to employ.
I have encountered ultraconservative nonprofits that invest all funds in several bank savings accounts that are protected by the Federal Deposit Insurance Company (FDIC). Those that advocate this position feel that they don’t want to assume responsibility for loss of donor or membership funds that might occur, even temporarily, with investments in a mix portfolio of investment opportunities such as stock funds and/or rated bonds.
A more liberal approach is to invest in a variety of investment instruments to keep the account current with inflation pressures, understanding that at any point the fund account may show a loss.
This occurred with one nonprofit that I encountered. It had employed an investment advisory firm for about a decade to invest surpluses. During the 2008-09 recession, the value of the investments declined. The board continued to review and adjust the investment decisions to take advantage of market changes. The account’s value has appreciated nicely in recent years. While the board policies prohibit investment in speculative instruments, like junk bonds, board members have become comfortable with having temporary declines in the investment portfolio.
Nonprofit risk levels , in my opinion, are often determined by the attitudes of the executive director and those on the investment committee. A better approach is to begin by employing the following formula in an attempt to assess the potential inflation impacts.
Given that the long-term rate of inflation is 3.4 percent, the minimum annual budget surplus needed to maintain assets at their replacement is: 3.4 percent x Total assets divided by Annual spending. This is a necessary condition for delivering service at the same volume and quality indefinitely. **
- What is your investment horizon? * Nonprofits often view their entire investment portfolios as security against a decline in current income. From an investment perspective, it should be viewed in two segments. First there should be enough money set aside, should current income flows stop for a period of XX months. This portion requires conservative investment. Second, other funds that may not be needed for a number of years need to be placed with a long-term endowment perspective. For example, reserve funds held by condo associations for future repairs and replacements.
Nonprofit condominium associations in some states are required to build reserve accounts to allow replacement of physical assets, some of which may be replaced
in 20 to 30 years. The investments for these long-term items can be placed in different investment instruments at higher interest rates.
- To what degree should (Socially) Responsible Investments, SRI, be considered within your portfolio? * I have seen several nonprofit investment committees struggle with this question. One option is to invest some of the portfolio in Socially Responsible Mutual Funds, knowing that they will likely yield lower dividend/growth rates. Another is to try to locate funds that are only partially congruent with SRI standards—e.g., only exclude firearms firms or those with bad records selling opioid products. This assessment will be a complex one, and it should only be conducted with the support of financial counsel.
- What governance structure and processes should be in place? *
- An external audit should be conducted each year that includes a review of the investment portfolio’s incomes and withdrawals.
- Investment policies, relating to risk, need to be reviewed twice a year to determine how effective they have been.
- Two registered signatures need to be required for withdrawal of funds.
- At least one or two members of the finance and audit committees should have strong financial backgrounds.
- The chair of the audit committee chair or board chair should have access to all complaints received via a phone “hot line.”
Although a nonprofit’s charter may call for conservative investment of its financial assets, the process first needs to define a risk profile that meets the short and long term benefits of the organization. This should include a variety of investments that provide for short and long-term sustainability and allow the nonprofit’s investments to meet inflation challenges that can reduce the reserve’s purchasing value.
Nonprofit investment and finance committees need board members with business and financial savvy to assure sustainability. It is not for board or financial neophytes!