How Unrestricted Are Your Net Assets?

Posted on Jul 12, 2016 in Financial Advising

One typically thinks of net assets in one of three categories: unrestricted, temporarily restricted, or permanently restricted. Organizations with endowments are very familiar with the concept of comparing the organization’s permanently restricted net asset balance to the related investment balance, and determining the amount that those net assets are over or under water. A similar concept exists with unrestricted net assets, which too few non-profits are looking at. Monitoring this equation, however, could prove be one of the best indicators of positive or negative financial trends in your organization.

The concept is simple: determine the amount of unrestricted net assets that you could spend on any purpose, whenever you need to spend them.

The equation is also simple: Unrestricted, undesignated net assets – Net assets invested in non-liquid assets = Readily Available Net Assets

The steps to calculating Readily Available Net Assets are explained in detail, below:

Step 1. Calculate unrestricted, undesignated net assets:

First, subtract the amount of net assets that have been set aside for another purpose, such as a quasi-endowment or operating reserves, from the total unrestricted net assets.

Step 2. Identify net assets invested in non-liquid assets:

Begin by subtracting balances from your total assets. First, look at your net assets. If you have any permanently restricted net assets, subtract the corresponding investment balances first. If you have assets that exist due to receipts from temporarily restricted net assets campaigns (ex. money raised for a capital campaign), then subtract those next. You will then begin subtracting more difficult items. Next, subtract fixed assets. These assets are typically unrestricted, but don’t contribute to your Readily Available Net Assets. Receivables come next. If the money for your receivables isn’t going to be used for everyday operating costs, then subtract it from this number. When you think you are done, give your value a reasonableness test – this is the most difficult step in the process. Does it make sense that you have cash, short-term investments, prepaids and some operating receivables left over? If this is indeed what you are left with, you are on the correct track.

Step 3. Identify liabilities that exist because of the assets invested in non-liquid assets:

It wouldn’t be fair to subtract fixed assets from the equation in step two if you didn’t get to add the related liabilities back in. Identify those liabilities, as you will be able to add them back in step four.

Step 4. Complete the equation:

Take the value identified in step one, subtract the value identified in step two, and add back the value identified in step 3. You now have calculated your Readily Available Net Assets.

Step 5. Monitor the equation:

If you only complete this equation one time, you will gain valuable insight. The true value, however, comes from monitoring your equation over time. As your organization grows, notice if the value of your Readily Available Net Assets is growing at a comparable rate. If your Readily Available Net Assets decreases, is there a specific “investment” made by your organization that explains the decrease? I’m often asked if I have benchmarking data for organizations to compare themselves to. This can be helpful for certain organizations, but the organization that it is most important to benchmark against, is your own organization over time. Make sure to compare your company’s key organizational metrics, such as Readily Available Net Assets, before benchmarking against other organizations.

If your organization starts to dig itself into a hole wherein its Readily Available Net Assets is negative and continues to grow more negative, there will come a day when your organization’s “powers that be” realize there is a problem. Unfortunately, unless your organization can generate a lot of earned income, or find donors to fund operating deficits, it may already be too late. Situations like this are very difficult to pull out of, but can be prevented by monitoring Readily Available Net Assets along the way.

© Clark Nuber PS, 2016.  All Rights Reserved

This article or blog contains general information only and should not be construed as accounting, business, financial, investment, legal, tax, or other professional advice or services. Before making any decision or taking any action, you should engage a qualified professional advisor.

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