Do Nonprofits Really Limit Advertising Because of Pressure to Cut Overhead?

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Frugal

An increasingly popular view in the nonprofit sector is that nonprofits fail to adequately invest in advertising because of donor pressure to limit overhead. The growing popularity of this view is due in part to Dan Pallotta’s viral TED Talk, The Way We Think About Charity is Dead Wrong, as well as recent books by Dan Pallotta and Ken Stern. The implication of this view is that if nonprofits were unshackled from the obsession with accounting overhead, they would boost advertising and finally be able to grow the sector. While this view might have instinctual appeal, I worry that it lacks empirical support. In particular, there is no clear evidence either that nonprofits underinvest in advertising or that the desire to keep overhead low discourages such advertising.

Are nonprofits underinvesting in advertising?

At the heart of the argument for greater nonprofit advertising is that for-profit organizations see the growth potential that advertising brings and, as a result, are far more willing to invest in it. Though we may feel that for-profits are much more aggressive advertisers, is that actually the case? After all, since the nonprofit sector is much smaller than the for-profit sector, it may just seem like the advertising footprint of nonprofits is smaller, when in actuality their relative behavior is quite similar. For illustration, consider the advertising expenditures of the ten largest US nonprofits (as ranked by Forbes) and the ten largest US for-profits (as ranked by Fortune). The data for nonprofit advertising is readily available from each organization’s most recent Form 990 filing (only the Salvation Army is excluded since it does not file a Form 990); the associated for-profit data can be found in their most recent 10-K filings. The first thing to note is that among the ten largest for-profits, only four view their advertising expenses as material enough to warrant separate disclosure. More importantly, among the remaining for-profit companies, advertising as a percentage of expenses is not noticeably different from that of their nonprofit counterparts, as seen in the next chart.

Table1

A glance at the chart reveals that advertising among the nonprofits is not appreciably smaller than that of the for-profits. This is made even more cogent by noting (i) the six for-profits with presumably smaller advertising are excluded; and (ii) the advertising figure for nonprofits reflects only Part IX, Line 12 of their Form 990 and excludes related costs of printing and postage that can also be substantial, given the prevalence of direct mail efforts. These caveats aside, the (equal-weighted) average advertising percentage among the nonprofits is 1.2 percent, whereas it is 1.8 percent among the for-profits. This is hardly a noteworthy difference.

Furthermore, when it comes to advertising, some nonprofits are leading the way. Consider, for example, the Wounded Warrior Project, a popular and growing veterans’ charity. From its most recent audited financial statements, advertising and promotions represented over 35 percent of total expenses. Such a high percentage of expenses devoted to advertising is unheard of in for-profit companies, which simply cannot both compete on price and make a profit while carrying such high advertising costs. Yet, it barely registers with donors of the Wounded Warrior Project, who continue to flood the organization with cash.

Are nonprofits punished for investing in advertising?

The second key feature of the argument to unleash more nonprofit advertising is that the reason advertising is currently limited is an unproductive obsession with reducing accounting overhead. The idea is that accounting rules treat all expenses incurred by nonprofits as either program-related or overhead (fundraising and administrative), and many donors and watchdogs fixate on what percentage of expenses are program vs. overhead. Setting aside the question of whether donors pay enough attention to such figures, the presumption by many is that advertising is automatically classified as overhead, so nonprofits are excessively discouraged from undertaking it. The problem with this presumption is that it is not how the accounting rules are typically applied. If an organization’s mission includes a stated desire to raise awareness about an issue or otherwise educate the public, associated costs are classified as program expenses, not overhead. Further, if a nonprofit undertakes an activity that includes both an awareness/education and a fundraising component, they are permitted to allocate the associated costs between fundraising and programs (and have substantial leeway in doing so). In other words, the presumption that advertising is treated as overhead is not correct. For each of the largest nonprofits discussed previously, the next chart shows what percentage of their advertising costs are actually classified as overhead.

Table2

As can be seen in the chart, only three of the nine organizations treat the majority of their advertising as overhead. More than half of the organizations treat less than 15 percent of their advertising as overhead. For those organizations, if advertising were their only expense, their program spending ratios would be greater than 85 percent—an excellent figure by any standard. Once again, this phenomenon is not unique to the largest charities. The example of the Wounded Warrior Project is instructive. Among its over $49 million in advertising and promotional expenses, only 1 percent is treated as overhead; the rest is considered program spending. That is, advertising expenses are actually what boosts their program spending ratio above 80 percent. This is hardly a circumstance of overhead ratios forcing a nonprofit to cut advertising.

Taking these points together, the message is not that nonprofits cannot benefit from more advertising—perhaps they can. Rather, the point is that there is limited evidence supporting the view that excessive scrutiny of accounting numbers is serving to undermine nonprofit growth. If anything, the degree of accounting flexibility provided to nonprofits and the reluctance for donors to look beyond simple summary figures and examine the details means that there is a false sense of scrutiny placed on nonprofits’ financial decisions.—Brian Mittendorf

 

  • Thia

    Maybe it’s me but I find this article very confusing. When it says “…Wounded Warrior Project, a popular and growing veterans’ charity. From its most recent audited financial statements, advertising and promotions represented over 35 percent of total expenses” but doesn’t give the attendant dollars or strategy, I can’t reason whether it is a valid expense to meet mission or even a lot of money. What were their total overall expenses and what percent of budget were their overall expenses?

    Additionally, I’m not sure the author’s look at for-profit was accurate. I’d think you’d want to look at the industry as a whole, not top ten as there might be a difference in the way business is done or in the needs of delivery to meet mission. If you want to find a way to skew statistics you might do this, but not for a reasoned argument.

    When we look at for-profit advertising across the board we learn this, “On average, companies spent 10.4% of their annual 2012 revenue on overall marketing activities. These expenses include salaries, and both traditional and digital marketing costs. The range of spending is wide — 14% of companies spent less than 5% of revenue and 17% of companies spent more than 15% of revenue on marketing. Figure 1 shows budgets will increase an average of 5.7% this year.” http://www.gartner.com/technology/research/digital-marketing/digital-marketing-spend-report.jsp

    The point I took away from Dan Pallotta’s video was, if you’ve found a formula that works and it has a high cost but much higher returns, why would you take it apart…particularly if in doing so you loose the high returns as was the case in Dan’s example?

  • Dan Pallotta

    Dear Brian,

    You raise important questions. I don’t have time to respond at great length right now, but here are some quick thoughts…

    1 – How much of the nonprofit advertising is program advertising versus advertising in pursuit of donations, i.e., be the equivalent of advertising in pursuit of sales for the for-profits? That’s an important distinction, and probably can’t be determined from the 990 because I don’t believe they make that distinction.

    2 – In “Uncharitable” I wrote that, “On a macro level, according to the Jack Myers Media Business Report, advertising spending in the United States in 2006 was estimated to be $220 billion, as much as the total amount American individuals donated to charity for all purposes. Much of charitable giving goes to religious and educational institutions (36 percent and 39 percent of the whole, respectively). Of the entire $295 billion donated to charity in 2006, only $49.78 billion went to health and human services. Consumer market advertising expenditures amount to more than four times that total.
    Total marketing expenditures, including those for advertising, public relations, promotions, and trade shows, was estimated to be $729 billion, or two and a half times the amount raised by charity in total and nearly fifteen times the amounts given to health and human service charities. A contrasting figure was estimated by an extrapolation study of seventy-one nonprofit organizations’ tax returns undertaken by researchers Susan Raymond and Kate Jewell for Changing Our World, Inc. According to one of the organizations’ chief strategy officer in 2006: “Itemized examination . . . resulted in an extrapolated estimate of $7.6 billion for the sector.”The study doesn’t indicate what percentage of these funds were spent on program services rather than revenue generation. I assume it includes them, making it a liberal (if not extremely liberal) figure for comparison with consumer product sales marketing. It also doesn’t tell us how much was spent by health and human service charities, as opposed to charities dedicated to the arts, religion, and higher education. Nonetheless, even conceding the entire amount, $7.6 billion represents about 1 percent of the Myers estimate for total annual marketing expenditures in the United States. One dollar to market charity for every $100 to market consumer products.”

    The nonprofit sector is about a trillion dollar sector out of a $15 trillion dollar economy, so, if there were relative equality, as you suggest, for-profits should spend about 15 times what the nonprofits spend, not the 100x figure I came up with.

    3 – The fact that nonprofits use joint cost allocations to describe part of their advertising costs as program costs to me underscores the point that there is great sensitivity to the impact on overhead of advertising expense. If there was no sensitivity the nonprofits wouldn’t have incentive to do the joint cost allocation. Many charities add in some pro forma service message in their ads and direct mail so that they can do joint cost allocation, even though the real purpose of the ads is fundraising. For example, the Avon Foundation was allocating 99.1% of their even advertising costs to program in the mid 2000s, under the contortionist theory that, every person who did not register for one of their events as a result of their advertising was a person who got educated. Under their logic, the poorer the ad performed for fundraising purposes the more they allocated to program as education. That’s typical of the kind of behavior I see, though not that extreme.

    4 – The larger charities may skew closer to for-profits but not the smaller ones – I don’t know that – just suggesting it, and my anecdotal evidence would suggest it to be true;

    5 – Look at how all hell broke loose for Invisible Children last year because of the large amounts they spent on media;

    6 – Most important, I don’t know that looking at it from a percentage of expense basis versus a dollar amount is helpful. First, shouldn’t we be looking at the ad spend as a percentage of the cost of the social problem? Wouldn’t that be the appropriate way to measure the extent to which the sector values advertising? Don’t life and death issues deserve that kind of weight? Galbraith always wrote about the impact of the massive engines of advertising and marketing used to create private consumer wants, up against the tiny expenditures for advertising to create public good wants and desires, precisely , I think, because he thought the stakes merited more weight on the public good. Second, lower dollar amount means nonprofits can’t access the high-profile media that consumer brands do. Nonprofits are forced to buy cheaper media. Feeding America can’t do much TV advertising on a $1.7 million ad budget, versus the Mars Candy Company, with a $514 million ad budget. In advertising they say, “the medium is the message.” That means the consumer brands are driving Ferraris and the nonprofits are riding bicycles – direct mail, smaller digital ads, etc. Second, even assuming you are correct – that the percentages across all size nonprofits are the same as for-profits, because the consumer brands are so huge by dollar volume, their expenditures are more consolidated, meaning they can generate a lot more brand equity than half a million little nonprofits diluting the total dollar volume across half a million little brands.

    7 – Last, and most important, is the practical application of all this. When the aerospace engineer Burt Rutan was asked if he thought that airspace was getting too crowded to permit too many average people to have flying vehicles he said, “I have one comment – look up.” I’d say the same thing here. Watch TV tonight. See if you see one TV ad for a health and human services cause. Open the newspaper tomorrow. See if you see one full-page ad for a health and human services charity. Watch the Superbowl. See if you see one paid ad for a health and human service charity. I haven’t seen one – not in twenty years.

    If there were relative equity, as you suggest, we’d see one ad for a nonprofit for every fifteen ads for something else. Given that the health and human services sector is about one-fifth of the nonprofit sector as a whole, we’d see one health and human services ad for every seventy-five ads for something else. Ask yourself if that’s your experience in the real world. I NEVER see a full page ad for a HHS charity in a metro paper. I NEVER see an HHS ad on prime time network TV. I NEVER see an HHS charity take a top banner digital ad with wings on, say, Huffington Post. And even if we did – even if we did see 1 HHS ad for every 75 consumer brand ads – do we really think that’s nearly enough? That that’s any kind of equity?

    It’s a good discussion and I’d enjoy continuing it offline when time permits. Thanks again for raising it.

  • Aaron Cavanaugh

    Hi,
    Thank you for writing this article.
    The problem is that a lot of NP sector gets money from grants. Media buying is not a project therefore not going to get grant money. This article references the biggies, but frankly they are outliers (not representative of the NP sector. The NP sector is focused on local community. The for-profit sector is focused on scale. So the the issue is that the NP sector at large is getting money from grants and foundations want to fund projects not media buying.
    Thanks. God bless. Aaron.

  • Brian Mittendorf

    Dan,

    Thanks for your thoughtful response to the article. I will refrain from responding to each point individually because doing so would create the false impression that I disagree with you on all of them. Actually, I’m sympathetic to many of your views. Besides, the point of the article was not to claim that advertising levels are sufficient, but instead to encourage a closer examination of the premise that nonprofit advertising is excessively stifled.

    That said, I will make two additional points:

    (1) I’m not sure it is helpful to try to deconstruct the intent of advertising (awareness vs. donations) among nonprofits. For one, it is difficult to do in an unbiased fashion. More importantly, though, I’m not sure I agree with the premise that advertising to get donations among nonprofits is the direct comparison to advertising to get sales among for-profits. Donors are not customers buying a product; they are capital providers funding an organization’s operations. So, if you really want to compare apples-to-apples, I would ask what advertising dollars are spent by for-profits in the pursuit of capital. This number is likely to be miniscule.

    (2) Your third comment is spot on. The point is that accounting flexibility is such that the desire to limit overhead does not prevent nonprofits from advertising. One may argue that the desire to limit overhead encourages less effective forms of advertising, but that is a different point all together.

    I look forward to continuing this conversation. All the best.

  • Armand Bam

    Interesting article. Context is an important factor which has to be considered when drawing these relative comparisons. Within a African context I think the situation is even more disconcerting. Donors/ funders do not consider advertising as an important function to fund within NPO’s. Not to say that one cannot get similar advertising opportunities through leveraging reputation/partnerships etc..but this generally takes longer and would not be on the same scale as paid advertising within the mainstream media.

    In service orientated community NGO/ NPO’s, salaries are generally the biggest cost contributors yet funders/ donors remain obscesed with things they can “physically” account for? How do you “teach”/ “facilitate” without a teacher or facilitator? Unless the bricks and tables start to talk NPO’s are on for a hiding to nothing. How do you then reach/ educate funders/ donors without being able to “advertise” where they are reading/ viewing/ engaging? What of situations where your public relations functionary is your “advertising tool”, should funders not be interested in funding this salary too?

    The experiences of NPO’s should surely count for something. In order for these experiences to become more “acceptable” to academics/ funders they need to be translated into empirical evidence. This is both the responsibility of NPO’s as well as academia. Let’s see more business students and economists take on studies within the NPO sector.

  • Brian Mittendorf

    As a follow-up, I would be remiss not to even mention what Dan Pallotta says is the most important thing — not noticing prominent nonprofit ads. The thing is that I have seen many prominent ads for nonprofits. The Wounded Warrior Project’s super bowl ad comes to mind; as do the ads for Red Cross, the ubiquitous Sarah McLachlan ad for ASPCA, and the many other ads in the “for only $1 a day, you could…” genre. The point is not that these are evidence of anything. Rather, the point is we should look beyond anecdotes and how we feel things are to gather and examine more objective data before we conclude that pressures to cut overhead are preventing nonprofits from investing enough in advertising.

  • John Sayles

    Brian’s analysis may be factually defensible, but it misses Dan’s point. Brian’s aricle is applying an accounting lens to what is a policy issue.

    Dan has been beating the drum for years that NPOs (particularly in HHS) have one hand tied behind our backs because we are expected to help others with less of everything – salaries, facilities, equipment, money – than the private sector because we are “doing good.” Donors and the public in general have been told to expect this, and they do. Applying this accounting analysis to a policy issue feels to me like providing ammunition to those with the view that NPOs are supposed to struggle and be poor.

    We need to support the message that NPOs need to be strong, and not argue with each other about details. Our job is in part so difficult because of a sustained and well funded effort over decades to demonize those with low income an few opportunites as the “takers.” NPOs as a sector need to fight back and change the message. Internal quibbling is just a distratction from the joint mission of better lives and stronger communities.

  • siobhan aspinall

    The chart is very interesting Brian. I see clearly that even the biggest charities are not spending much on advertising, as a percentage. Here in Canada, I have worked for four large organizations ($10M+) and all shied away from advertising due to fears of public perception on how we were spending our money. The only paid ads we ever seemed to do were to hire new staff.

    Even driving ticket sales for large events depended exclusively on donated space. Furthermore, we’d feel compelled to state clearly that the space was not paid for – in part to recognize the generous media donors – but even more so to ensure the public that we weren’t paying for ads.

    Thank you for this great article. : )