Building financial reserves for resilient organisations

Amidst the Covid-19 crisis and government funding cuts, NGOs need to grow their financial reserves and adopt new financial strategies to remain sustainable.

In our new report with haysmacintyre, we examine the different attitudes and approaches to financial reserves in the UK’s international development sector.

Even before the crisis, most UK charities didn’t have sufficient reserves. UK charities working in international development have even lower levels of reserves than domestic charities, according to our research. From a sample of 156 organisations, the mean level of unrestricted reserves was 11 weeks of total spend, with a median of 8 weeks. Having reserves below eight weeks may make it difficult for any organisation to survive a financial shock.

For this report, we investigated 28 organisational policies that underpin unrestricted reserves and how organisations have built sustainable income streams. We also explored where organisations failed to sufficiently prepare for or withstand considerable funding challenges. We’ve drawn lessons from these challenges to support organisations to rebuild their reserves and adapt their business models once economic circumstances improve post-pandemic.

Recommendations

Organisations have to consider how they are going to transition to new business models. And the right approaches to growing and managing reserves will be key. Here are our recommendations based on our learning:

• Make sure you have a reserves policy. Your reserves policy will need to be reviewed regularly against your performance, changing risks and the evolving external environment. Importantly, the policy must be understood, and bought into, from senior leadership and the board to ensure it is followed.
• Reserves should be part of your wider financial culture. Organisations should combine their reserves policy with an adaptive approach to financial and operational management. Preserving and building reserves should be a financial priority. Reserves should also be used to facilitate a transition to new business models.
• Think long term. It takes a long time to build up financial reserves. The risk of a big reduction in a funding stream, such as the loss of a major grant in a future year, should be factored into the reserves policy early. Boards and senior leadership need to be forward thinking and support the organisation to build up sustainable reserves by running an unrestricted surplus consistently until they reach their target. This will mean having a clear strategy for building reserves through surpluses, two major sources of which are donations and good cost recovery. The latter will mean having good understanding and support from institutional donors.
• Understand the different components that make up your reserves. Organisations should consider a layered approach to their reserves policy, where each major income or expenditure risk is taken into account. The reserves should be informed by the mission of the organisation, not just the core operations. The best examples of this are where the organisation has reserves equivalent to three to six months of running costs for each area of its work regarded as long-term critical. An organisation may benefit from having funds in addition to its free reserves.
• Carefully balance your reserves policy. There is a balance of reserves that is just right for an organisation. Minimums are needed to gain donors’ confidence. But having a really high level of reserves may suggest the organisation is not using funds sufficiently for their charitable purpose or does not need funding from a donor. Donors should not regard charities that have good reserves necessarily as a concern. There should also be an acknowledgement that different charities have different needs in relation to the reserves held.