The Financial Side of Non-profit Cultural Institutions

I recently gave a talk to a group of accounting educators about “the financial side of non-profit museums” while they toured our facilities at the Morean Arts Center in St. Petersburg. It was very interesting to them and it occurred to me that this might be an interesting blog post for some others. I will specifically be addressing and referencing (without naming any) Florida institutions since that’s where I’ve spent my 25+ year museum career.

The museum sector experienced the same economic issues as other sectors starting in about 2006-2007 and even a Wikipedia entry was created to reference the period specifically for museums.  Museums are often not as nimble as their profit-focused counterparts and the staff at museums often not as entrepreneurial as their for profit colleagues.  Their mission of caring in perpetuity for artifacts that have been donated combined with their mission of education whether it is history, science, art or something else is sometimes without regard to real cost.  Why then did some manage to survive and others not? Why did some organizations go away while others become absorbed in a government college or university?  And what of the ones who actually did survive and actually thrive?

Culture of Cultural Institutions

Financial constraint isn’t something that a lot of museum professionals understand.  Even in its simplest terms of money out cannot exceed money coming in is not easily understood.  At one institution I recall a number of meetings to come up with new net income ideas.  After a while, it does have an effect and staff begin to understand the true costs.  Costs they don’t see on a daily basis such as insurances, utilities, payroll taxes, the actual cost of those benefits they receive and so on.  It takes time to build a culture of understanding true net income in a museum or arts institution.

When raises weren’t given or benefits cut there were staff who couldn’t comprehend it at the time.  “But I’ve been here for 12 years,” rationalized one staff person to me one day as if that explained why they were due a raise.  “But of course the artifact MUST fly first class with a courier,” underscored another staff person as if completely oblivious to economic reality.  “But so and so NEEDS more hours, you CAN’T cut them,” argued a supervisor.

Budgets were given and freely spent.  “It is in my budget,” was a common museum staff persons cry.  Historically, museum professionals were given a budget and they would spend it for little regard as to where the income came from to actually pay for it.  The transition from one-sided thinking has been a slow one but one that many museums now have completed.  Aligning expenses with off-setting revenue has been one approach taken by many museums.  The more entrepreneurial of employees thrived in this type of environment while the budget spenders didn’t fare so well.

Government Funding

The first things that went in the financial crisis for museums were endowment fund income and balances, followed rather quickly by government support.  Some intuitions would receive federal, state, county and city funding.  An organization too reliant on government support quickly found itself in trouble if it didn’t have a good earned income model.  State of Florida funding was zero for several of these lean years.  During that time, some institutions were absorbed into government schools which somehow still were funded and often received additional operating dollars based on expanding their physical space.

It has a cascading effect.  State money went to nothing or next-to-nothing in the State of Florida.  County government funding could include a county school district or the county government itself supporting an institution.  In some cases institutions found themselves faced with multiple cuts from their county organizations which also included tourist development councils that saw declining revenues from bed tax dollars and also made cuts.  City governments faced declining tax collections and also cut funding to cultural institutions.  Usually the government support eroded within a year or two of each funding source going away causing great strain on the cultural institutions.

Endowments

We all know that the value of endowment funds dropped significantly.  Across the State of Florida auditors were making sure that the principle balance didn’t go below what a donor had given.  Museums were not receiving as much income from their endowments.  And matching endowment programs at the state level completely stopped.  Those institutions who didn’t have endowment funds were obviously less affected by this situation, however, they were not able to start endowment funds during this time period.

Furthermore, there was, and in some cases still exists, a negative feeling by trustees about endowment funds.  Some institutions just didn’t have the financial constraint to not tap endowment funds and spent principal balances.  Obviously, not a practice I condone.

Donations and Foundations

Foundations for the clear reason above found their principals being eroded and cut back on giving significantly.  This had an effect on larger as well as smaller institutions.  Donors, whose portfolios declined dramatically, cut back considerably in their giving.  They simply didn’t have it or believed that they were in a financial crisis themselves despite being worth millions in some cases.

A colleague who ran a museum on Long Island told me that the Bernie Madoff scandal was catastrophic for some institutions there and I’m sure that had an effect on other locations such as Palm Beach County.  It became more important than ever to thank existing donors with fewer (if any) development staff in place which further did nothing to help the situation.

Earned Income

Those organizations that could quickly react to the rapidly growing financial crisis, whose news seemed to grow darker by the month for some institutions, were the ones to survive.  Those who continued to do the same gala events and rely on the same government dollars and the same foundations quickly found themselves in trouble.  Earned income was the way so many institutions survived.  I recall one institution balking at serving popcorn (a highly profitable product) in its theater because someone would have to be hired to clean it and it would ruin the floors.  They sought help from a governmental body eventually for more support.

I’ve written about various forms of earned income elsewhere in this blog.  But let me repeat that small things can make a huge difference and getting staff to understand this is very important because it is they who have to implement any changes and embrace them.  Vending machines, as one example, are often placed in out-of-the-way places or behind walls with no signage so as not to interfere with the art experience by museums, can have a positive effect on cash flow as well as net income.  I know of one institution that regularly received over $20,000 in vending income alone.

Ticket sales, memberships, retail sales, exhibit and artifact loan fees, licensing, food and beverage income, alcohol sales, real estate (by which I mean unused office space or a store-front or any tangible property that could be positioned as income earning) and more are all ways some museums are closing the gap between expenses and income.  Much is written about Unrelated Business Income Tax and there are times when museums are subject to UBIT should their earned income go too far away from their mission.  For example, an art museum would be exempt from selling reproductions of its collection but might be subject to income tax on coffee mugs that just have the name of the city in which the museum was located on them.  So, be careful with venturing too far into earned income without understanding any tax implications.

Expenses

While labor is usually the number one cost for a museum, some institutions waited too long to cut too few.  Some institutions simply could not see some expenses as “unnecessary” and continued to spend.  Some institutions continued to do larger exhibitions without regard for recouping expenses.  The cost of travelling exhibitions for institutions is significant.  In fact one museum director, when asked by yours truly when I sat on a grants panel, couldn’t explain what accounts payable was to me properly.  He reiterated to me that it was expensive to do large exhibitions (which I have done and know quite well) and that is the reason for his accounts payable which I noted had increased from over $100,000 in one audit to over $300,000 the following year to his most recent year which was approaching $600,000 in accounts payable.  It wasn’t long before the museum was absorbed into a government supported school.

It is a careful balance that must achieved in the great financial web that museums find themselves in and a qualified director is probably the best resource an institution has.  It is easy for finance committees to discuss line items and details and even make changes to museum budgets without understanding the ramifications.  In other cases, it is necessary for boards to intervene when directors cannot themselves understand the complicated financial model of running an institution that needs a diversified revenue stream and a positive cash flow.

After prolonged cutting there comes a time when it really is impossible to cut more without having serious ramifications on the mission of an organization.  But this usually isn’t the first or even second round of cuts for most organizations.  Some institutions cut dozens of jobs and the average person wouldn’t even notice it if they were a visitor.  The marketing gets cut and visitors decline which is all about revenue.  If a curator is cut, there usually isn’t an off-setting revenue line that is affected which was an area that was a target by some museum directors during this time.

It is this challenging balance game of mission and net income that museums now must face though since the economic recovery began it has become a bit less stressful for cultural institutions and they are much stronger and more nimble and entrepreneurial than they were just a decade ago.

Summary

So the strongest museums were able to survive during this crisis and make cultural changes within their organizations that hopefully will allow them to thrive into the next economic cycle.  They were nimble, entrepreneurial, financially restrained, innovative, and exceptional.  Any museum professional who sat around a management table and focused on what had always worked probably found themselves without a job or, worse, without a museum.

I haven’t tried to point any fingers in this but to summarize a talk to accounting educators that found the real life applications of accounting interesting in a museum environment.  One instructor came up to me afterwards and we chatted about it more.  I’m now fairly convinced that a good understanding of accounting and finance is critical to an institution’s success.  And that doesn’t mean just having a well-qualified CFO – which helps – but a staff that understands accounting and finance at some level.

For more information on museums and professional operations I strongly encourage anyone to really go through the American Alliance of Museum’s web site as the organization is an invaluable resource to museums and has been incredibly helpful and advanced as an organization in helping institutions make it through the financial crisis not only by surviving but of course by thriving.  It just takes the right mix of staff and entrepreneurial spirit and having some fun along the way.