Forewarned is forearmed

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Warning signs that can alert you to potential financial difficulty

It is vitally important that Trustee’s employ good governance. This is more important than ever during the pandemic. This involves scrutinising financial information and identifying any significant or prolonged downturn in their organisation’s income as early as possible.

In the current uncertain economic climate, this, together with constantly stress-testing financial data, has become an imperative. A fit for purpose early warning system can be the difference between an organisation’s survival and its demise.

It’s all about the money, money, money

In our utopian organisation, funding is guaranteed and its level never drops, all staff are sub-contracted rather than employed and property costs are negligible as the premises are owned.  Back in the real world however life will not be like that and control needs to be exercised, and exercised constantly, to secure a viable tomorrow, particularly with the impact of the pandemic.

The obvious things to control are the variables – especially income.  Without money coming in, the rest is fairly academic so this must be a Trustee’s starting point for analysing the forecasts with which they have been provided.

A quick checklist never hurts and here is one which is applicable to the case in point:

  • What was income last year?
  • Where did it come from?
  • Is there a trend or is it seasonal?
  • What is being projected?
  • More importantly, what are the underlying assumptions underpinning the projections?
  • How accurate did last year’s budget prove to be?

If last year’s budget was pessimistic and the reality was much rosier (and it was prepared by the same person as this year’s) then you can have more confidence in the numbers than if income is calculated on the basis of that iconic formula of last year plus 20%.

The bottom line in these matters is that each cell in a budget or spreadsheet should have a rationale behind it, even if that rationale is an educated guess.  What you are looking for is that whoever put the forecast together thought about it first.

It goes without saying that those organisations that produce budgets and cash flows will be better able to identify issues in trading income, assuming of course that the Trustees then cross-reference monthly management information against such forecasts and explore the ramifications of any variances.

All financial information should separate restricted and unrestricted funds and the former should be ring-fenced.

Regular forecasting can undoubtedly be vitally important although the reality is that not all organisations budget effectively or provide management information of a sufficient quality (or in a timely manner) to enable the Trustees to predict impending difficulties.  Fortunately, there are other indicators.

External indicators

These are necessarily generic and will not apply to all organisations but a few examples should suffice.

Trustees should be kept constantly updated so that any delays in obtaining funding from long-standing benefactors or contracts from regular donors can be monitored.  Such issues need to be interrogated to ascertain whether they are merely temporary slippages or part of a longer-term pattern. Are the benefactors experiencing financial difficulty themselves and pulling back on their philanthropy?   Are central or local government contracts a victim of the never-ending austerity culture? Did the forecasts take any of this into account and, if not, what can the Trustees do immediately to prevent a funding issue down the line?

Many organisations have a close working relationship with their funders/customers and Trustees should be able to discuss such issues with them and agree on the future direction of the relationship.

Trustees should keep themselves aware of issues affecting not just their own marketplace but also that of their funders.  The former is a useful exercise to conduct at any time as if your own organisation is struggling in comparisons with its peers, there is generally a reason for this which should be capable of being addressed.

Internal indicators

The obvious warning sign is having to marshal payments to creditors.  Being unable to pay debts as and when they fall due is actually a demonstrable sign of insolvency and Trustees who find their organisation in this position should be even more careful – as I will explain in the final article in this series.

One of the first casualties of cashflow pressures tends to be HM Revenue & Customs.  This should be avoided as a failure to pay tax on time is an offence. HMRC can be sympathetic to a request for an extension of time to discharge historic arrears although any such request should be for a relatively short period (if possible, certainly not more than 12 months), with regularly (monthly) payments, not back-loaded (where a nominal sum is payable initially and a larger sums towards the end of the agreed period) and provision made for the further ongoing tax to be discharged on time.  If in doubt, seek professional help in this regard.

Delays in collecting monies owed to the organisation is another barometer of the economic climate and debtor days is a good comparative measuring tool.

An organisation may also have a number of different elements to its business and each one of these should be critically analysed in isolation to determine whether it is (a) as profitable as it could be and (b) how its contribution to the overall business could be improved.  This will be a very useful exercise to determine where scarce resources should best be invested.

In Conclusion

As cashflow tightens, proactive Trustees will initiate commensurate steps to ensure that costs are rigidly controlled and I will discuss this at some length in my next article.  In this situation, every saving, no matter how small, mounts up and helps achieve the overall aim.

I once dealt with a firm of solicitors who were experiencing financial difficulties (the partners had not taken heed of their management information and were still taking out drawings that the business could not afford).  A rescue plan was put in place and they took cost-cutting incredibly seriously – to the extent that a member of staff who needed a new pen from the stationery cupboard had to bring along their old pen and demonstrate that it had run out of ink.  No old pen, no new pen!

This might be an extreme (albeit real) example of cost control and one which resulted from desperation rather than planning and foresight.  Nonetheless, it demonstrates the lengths some organisations need to go to in order to survive and why stress-testing and variance analysis are essential elements of the Trustee’s tool kit.