The relationship between risk and reserves has been widely acknowledged. Recent events; reporting on the collapse of Kids Company and subsequent failed directors’ disqualification proceedings and the (yet to report) Charity Commission investigation, have got me thinking about the potential impact on the ‘rules’ around reserves. Additionally, how charities have fared over the last 12 months of the pandemic and the relationship with reserves (or lack of them) feels timely to reflect upon.
There is the potential to overreact in applying, and setting, the rules for the future. As Gird Gigerenzer highlighted in his TED talk, Risk Literacy, there is a danger when we’ve witnessed significant risk play out that we react irrationally, taking decisions we believe on an emotional level are safer, but which inadvertently increase our overall exposure in the process.
The law does not require charities to keep any reserves, in fact the presumption works in the opposite direction; one should only keep reserves if there is justification for not spending the money immediately. Nor are there a minimum number of months of operating costs which the Charity Commission requires you to keep or even views as best practice. I’ve recently been reminded this myth persists.
There is no straightforward ratio or percentage you can apply to all charities to arrive at the ideal sum. The answer to the question ‘how much should a charity keep in reserves?’ must be ‘it depends!’ But on what does it depend? And has the last 12 months shattered our perception of those dependencies? What should we be thinking about, now that we are a year into this crisis, potentially starting to find our rhythm for new ways of working and as we think about transitioning to life post Covid?
The starting point for me is captured in the oldie but goodie publication Beyond Reserves that applies notwithstanding Covid. Reserves are an asset which needs to be actively managed, the levels of which should be set as part of the strategic planning you do. And, recognising the purpose of funds held, you need to be cognisant of current and future beneficiaries.
The resources available to the charity, the robustness or predictability of the income, the business model, the committed expenditure, the speed with which something can be paused or stopped or conversely the need to move quickly and invest resources in new activity, are all things which determine how much you should keep in reserve.
Some charities choose to focus on liquidity - the frequency and ease with which assets can be released, the management of cash flows and the balance of opportunity costs of holding cash in reserve versus holding less and borrowing against assets if required.
Back when Beyond Reserves was published, the talk was of accommodating black swan events – those risks which, whilst remote, could be catastrophic to the organisation’s financial wellbeing. You would be forgiven for thinking that the last year was less of a single swan and more of a flock as we faced income from all resources being interrupted, demand spiking and uncertainty in the wider economy and society.
How do we react to this? Do those who had black swan provision in their reserves calculation now conclude the reoccurrence of such events, with profound impact on all areas of activity, is reduced? Do those who did not make provision for a global pandemic now entirely rethink their policy and retain sums to withstand another year of disruption? If we do determine we require more in the tank to safeguard against future crisis, how do we go about generating reserves when we may have depleted what we hold, reduced our staff and are facing uncertainty for the foreseeable future?
I regret that I have no quick or easy answers. However, I would caution against knee jerk reactions.
The Charity Commission revised its reserves guidance in the time following the demise of Kids Company. Whilst there are undoubtedly lessons to learn (for example, whether it is prudent to rely on the fundraising prowess of a single individual) their focus on avoiding unplanned closure felt more about perception than balanced reflection. It left contradictions within the guidance and a confusing picture for charities to consider.
We must avoid doing the same. The considerations we should explore in reaching our policies, on retaining rather than spending resources, have not changed. The adequacy to withstand what we’ve just experienced is not a reliable predictor of what would be required in the face of a future disaster.
Indeed, now might conversely be the time to reduce the sums held, releasing funds to adapt to new ways of working or to meet need arising from the fallout of the pandemic. Reserves are not there to be protected and preserved, but to protect and preserve the delivery of charitable impact.
Life is going to be uncertain and challenging for some time to come. But with our skills, knowledge, experience and financial leadership, I am confident that charities can do what is right for the short, medium and longer term – provided we remain rational in our assessment of risk and reserves.
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