Finance and funding for small and medium-sized charities is essential - but come with a lot of strings and conditions attached. So how much risk should charity trustees take?
Charity trustees and chief executives - especially those in smaller organisations, with few assets and small balance sheets - are increasingly asking just how much risk they should be prepared to take. They are particularly posing the question in the context of potential opportunities to take out socially financed loans to fund development, and the introduction of public sector 'payment by results' contracts.
The fiduciary duties and personal liabilities of charity trustees are reasonably clear, and do not provide an excuse or reason for never taking a risk of any kind (actually, if trustees want to avoid all risks, they should not accept appointment in the first place). No organisation, whether it is in the third, social, public or business sectors can avoid some risks. The critical issue is to understand, calibrate, offload where possible and manage risk.
Many charities need to invest in buildings and services, so they may consider loans. This topic specifically matters because the pursuit of payment by result contracts is forcing charities and other small service providers to ask some fundamental questions about their appetite for risk; and requiring them to be able to understand potential contractual risks very much better than has previously been the case.
This is particularly so for contracts where the outcome for which payment will be made could be several years out from when the expenditure is committed and/or where the outcome could be influenced by factors beyond the control or even influence of the contracted provider. There is no getting away from the fact that there are potentially significant risks inherent in such contracts – not least the amount of cash that has to be spent in advance of payment, which can vary hugely. Consequently, this becomes much more complex than just managing cash-flow, where there is a predictable revenue to come within a reasonable time period.
Nevertheless, charities and the wider social sector are often going to be best placed to address many contemporary public policy and public service goals such as the challenges of households with complex needs, worklessness, recidivism, obesity and drug dependency. So, if the public sector is going to insist on payment by results contracts, how then should boards of charities respond?
I offer some suggestions.
First, they need to be absolutely sure that bidding and undertaking contracts are consistent with their mission and that in fulfilling a contract, they can and will be true to their values and charitable purpose.
Second, they need to persuade overzealous public sector policy, commissioning and procurement staff not to over-rely on payment by results contracts, and where they do, to adopt hybrid approaches where only a small element of overall reward is subject to PBR.
Third, they should be clear about the causal paths to the delivery of the outcomes to be contracted and the extent to which they can/cannot control or influence these.
Fourth, they need to have in-house - or have access to - the relevant commercial skills necessary to calculate the risks and the consequential financial implications, how to mitigate these commercially and how to price the risk into their bids.
Fifth, they need to consider what capital they will need to allocate from their funds and/or borrow; how they will repay, secure and guarantee such loans; and the additional risks associated with this, given the delivery risks.
Sixth, they should consider establishing a trading company, either as a subsidiary of the charity or as a partner body. They may or may not choose to appoint only trustees to the board of such a company or they may take the opportunity to appoint some non-executive directors with appropriate commercial and financial experience. Of course, any profit from these companies would be endowed to the charity. This approach can mitigate financial risks but, of course, cannot have much bearing on reputation risks.
Seventh, they may consider some form of 'joint venture' or alliance with a business sector partner which would bear the commercial risks and could ensure that the charity receives payments for outputs and not only for long term outcomes. I stress partnership or alliance, and not a situation where for the charity is the victim of some hard and unfair supply chain management.
Whatever they do, trustees will wish to protect or at least minimise their personal risks and to protect the charity’s assets, reputation and mission for which they have a very clear legal duty. In particular, trustees should be rightly concerned and cautious at the prospect of putting charitable income and assets at risk to subsidise or manage risks on behalf of a public body or company.
In a dynamic and progressive charity, trustees and their staff will always wish to push the boundaries. They will want to do whatever they can to deliver for their beneficiaries. They are likely to want to grow their organisations so that can do more and achieve more. They will wish to maximise impact. They will wish to innovate and experiment.
To do all this, they will have to be prepared to take risks. That said, they will equally be cautious about taking on risks that could damage the charity and prevent it from meeting its mission. It is against this context that trustees have to weigh up the advantages and disadvantages of taking out loans and taking on long- term contracts based on 'payment by results' and consider the options that are best for their charity.
Trustees have a duty to question and test before committing. They do not have a right to avoid hard decisions. And in my experience, most don’t want to. They are ever anxious to do what can be done to fulfil their charitable aims and mission.
If you are a trustee and your chief executive has not raised this matter with you and your board has not discussed it yet, it’s time that you did.
