What are nonprofit financial statements? And how do you read them?

As a registered nonprofit, you should be requesting annual financial statements from your accountant each year. Typically, I do this around the same time that I request my tax service, because typically your account will need a Balance Sheet to complete your taxes.

You will need to request:

• Balance Sheet

• Income Sheet

• Statement of Cash Flow

• Statement of Functional Expenses

Once you obtain these documents, it’s important to file them digitally for your records. If you are audited or if you want to apply for grants in the realm of $10,000 or more, you definitely need to have these documents accessible.

Equally as important is knowing how to read and digest the information on your financial statements. These documents give you a picture of your financial health over the course of your fiscal year. And they can help you monitor revenue and expense trends over the years. As well, they’re great for budget season when you need to crank out the next fiscal year’s budget.

How do you read a balance sheet?

A balance sheet for a nonprofit organization is a financial statement that provides a snapshot of its financial position at a specific point in time, showing its assets, liabilities, and net assets (or fund balances). It allows donors, granting foundations, stakeholders, and management to assess the organization's financial health and solvency.

Solvency refers to the ability of an entity to meet its financial obligations and pay off its debts in the long term. Simply put, solvency assesses whether an organization has adequate assets to cover its liabilities, making it a fundamental measure of financial stability.

Here is how you read a nonprofit balance sheet.

1. Identify the organization's assets: Assets are resources that your nonprofit owns and that can be converted into cash. They are typically listed in order of liquidity, with the most liquid assets listed first.

2. Identify the organization's liabilities: Liabilities are debts and obligations that your organization owes to others. They are typically listed in order of maturity, with the debts that are due soonest listed first.

3. Calculate the organization's net assets: Net assets are calculated by subtracting liabilities from assets. Positive net assets indicate that the organization has more assets than liabilities, while negative net assets indicate that the organization has more liabilities than assets.

4. Interpret the results: A nonprofit's balance sheet provides information on its financial stability and ability to meet its obligations. A healthy balance sheet typically has sufficient assets to cover liabilities and sufficient liquidity to meet short-term obligations.

How do you read a nonprofit income statement?

An income statement for a nonprofit organization is a financial statement that provides a summary of the organization's revenues, expenses, and net income or loss over a specific period. It is a useful tool that helps stakeholders understand the financial performance and sustainability of the nonprofit by showing how funds are generated and utilized to support its mission.

To read your nonprofit's income statement, follow these steps:

1. Identify the revenue sources: Look for sections that detail the different sources of income, such as donations, grants, program fees, or investments.

2. Understand the timing of revenue recognition: Make sure you understand when revenue is recognized, whether it's when the donation is received or when the services are provided.

3. Track expenses: Look for sections detailing the different expenses, such as program costs, administrative expenses, and fundraising costs.

4. Calculate net income: Subtract total expenses from total revenue to find the net income for the period.

5. Compare to budget: Compare the actual results to the budget to see if the organization is meeting its financial goals.

6. Analyze trends: Look for patterns or trends in the income and expenses over time to help with future planning.

It's important to regularly review the income statement and understand how the organization generates and uses its resources to ensure financial sustainability.

How do you read a statement of cash flows?

A statement of cash flows shows the inflow and outflow of cash in a nonprofit organization over a given period of time, typically a month or a year. To read it, follow these steps:

1. Identify the source of cash inflows: This typically includes donations, grants, and program-related revenue.

2. Identify the use of cash outflows: This typically includes expenses such as salaries, rent, and supplies.

3. Track changes in net assets: The statement of cash flows should show any changes in the nonprofit's net assets, including increases or decreases in accounts receivable, accounts payable, and investments.

4. Determine net cash flow: Subtract the total cash outflows from the total cash inflows to determine the net cash flow for the period.

5. Analyze trends: Look for any trends in the cash inflows and outflows, such as an increase in expenses or a decline in revenue, and consider what factors may be contributing to these changes.

It is important to understand that the statement of cash flows is not the same as a balance sheet or an income statement, and it provides a different view of a nonprofit's financial health. It is typically used in conjunction with other financial statements to provide a complete picture of a nonprofit's financial situation.

While an income statement focuses on a company's profitability, a statement of cash flows focuses on the company's ability to generate cash and manage its cash resources. Both statements are important for understanding a company's financial performance and should be analyzed together for a complete picture of the company's financial situation.

How to read a statement of functional expenses?

A statement of functional expenses is a financial document that breaks down and categorizes the expenses of an organization into functional categories such as administration, fundraising, program services, etc. This statement helps to provide insight into how an organization is using its resources and what its major expenses are by activity. It is typically used for nonprofit organizations and is part of the organization's annual financial report.

To read a statement of functional expenses, follow these steps:

1. Review the categories: Start by looking at the functional categories listed, such as administration, fundraising, program services, etc. Make sure you understand what each category represents.

2. Study the expenses: Look at the dollar amounts listed under each category. This will show you the total amount of expenses incurred for each functional area.

3. Compare to budget: If the statement of functional expenses is part of an annual financial report, compare the expenses to the budget to see if the organization spent more or less than it expected to.

4. Look for trends: Examine the functional expenses over time to see if there are any trends or changes in spending.

5. Consider the context: Keep in mind the context of the organization, such as its size, mission, and programs, when interpreting the expenses.

6. Draw conclusions: Based on the information you gather, make conclusions about the organization's spending patterns and financial health.

Don’t be dismayed by financial statements.

Reviewing and making sense of financial statements is overwhelming the first time. And it’s likely overwhelming the second, and third time. But I encourage you to give it a shot anyway.

If you’re a nonprofit founder, then I know you’re skilled at making sense of difficult situations and documents with little-to-no-guidance. So, I believe in your ability to sit down and make sense of these documents. Even if you don’t do much with them in the first 1-3 years, I promise the day is coming where you find these reports extremely valuable.

OR your nonprofit grows so much and the day comes that your in-house finance and development staff find these documents necessary for budget planning. Either way, if you are in an Executive Director role, you are going to want to familiarize yourself with these documents. Because once multiple people within the organization have the power to approve expenditures, these documents will be your lifeline for making sure that your money is being spent efficiently and impactfully.