“My other piece of advice, Copperfield,” said Mr. Micawber, “you know. Annual income twenty pounds, annual expenditure nineteen nineteen and six, result happiness. Annual income twenty pounds, annual expenditure twenty pounds ought and six, result misery.”
–-Charles Dickens, David Copperfield
As a writer, most of my professional acquaintances are with word people, and by our own admission we word people tend to be number averse. (Did you know there’s a condition analogous to illiteracy? There’s even a word for it: innumeracy. But I give myself away…) So this post will make a lot of eyes glaze over. But financial management of an organization with a multi-million dollar budget is not at all like managing a household budget, and I had to learn new things in a hurry. A little accounting theory is important to understand STC’s finances, and it’s something I had to learn about to function effectively as a Board member.
Once upon a time, STC used income from its investment portfolio to balance the budget. When I started on the Board we were just stopping that practice. I asked then-treasurer W.C. Wiese why, because living off the interest seemed reasonable to me. I remembered a piece by a local TV station’s financial reporter years ago on how a family could make ends meet. They didn’t quite make it, but they spent the interest on their bank account to close the gap. But W.C. straightened me out. He explained to me that it wasn’t prudent for a business to behave like a family. Having to use interest to stay in the black meant that STC was losing money from continuing operations. If the economy ever went into recession, we would be in trouble. As we know now, W.C.’s words were prophetic, and the policy change came just in time.
Just as spending habits differ between a family and a large organization, so does the accounting. Keeping track of your personal finances requires no more than cash, or “checkbook,” accounting. You track the cash you have at hand. What are your assets? You look in your savings account, your checking account, under the car seat; if your brother owes you money, that counts too. What are your liabilities? You have bills, but until you pay them, you still have your money, right? Under the cash accounting system, if you have $1000 in the bank, your brother owes you $500, and you have $500 in bills on your desk, well, you have $1500 until you pay the bills.
Cash accounting works on a personal scale, or for small businesses. A lot of us count our chickens before they hatch, and who hasn’t put off paying a bill for a while– sometimes more than a while? STC used this system for many years. Under the cash accounting system, we reported net assets of nearly $3 million. The annual conference was a big money maker, because we had lots of cash left over afterwards. Good times… But one of the major yet unheralded changes when we hired an experienced association professional was to have an accounting firm audit our books and our business practices, and the report was not favorable. STC’s numbers were right, but our method of accounting did not adhere to generally acceptable accounting practices (GAAP), which meant that the firm would not certify our numbers as right. We were told that we should have switched to accrual accounting years ago, when our budget reached the $1 million level.
What is “accrual accounting”? In lay terms, it’s a much more strict and conservative way of counting assets and liabilities. In my previous example, you still have $1000, but that money your brother owes doesn’t count until you actually get it. (In more technical terms, you can’t realize revenue until you’ve earned it.) And those bills? They count as liabilities the moment your receive them, not when you pay them. Your net assets in the previous example are thus $500 under accrual accounting.
STC made the switch to accrual accounting in 2008. Now we could state our financial position accurately and according to GAAP. Now we could track the time the staff spent on activities such as the annual conference. However, one unpleasant side effect was that our net assets suddenly dropped by $1 million. Lost? No, just accounted for differently. Another unpleasant side effect was that the conference didn’t look nearly as lucrative once we actually charged staff time against it. Did the conference take in less money? No, the costs were just accounted for accurately. And this was all before the economic meltdown of September 2008 really took a bite out of us. It was a bad time to make things look artificially worse!
But without the switch to better accounting methods, the Board and staff would literally have had no way to figure out the true costs of the programs and services we provide to members, and the painful task of cutting costs would have been impossible.