Due diligence in philanthropy often refers to an analysis of a nonprofit’s financial viability, strategic plan, and mission, in order to decide whether it is the right fit for a grant. After all, it’s your money. You want to ensure it’s used for its intended purpose.
According to the group Grantmakers for Effective Organizations, due diligence can also:
- Provide funders with confidence that they are backing organizations that align with their grantmaking strategy and that those grantees are likely to achieve established goals.
- Create more transparency between funders and grantees. Funders learn more about a potential grantee’s capacity and future needs, while grantees better understand a funder’s interests.
- Enable better relations with grantees. A thoughtful approach to due diligence builds trust, enhances communication and fosters a better understanding of a nonprofit’s strength and weaknesses.
- Open a window to a greater understanding of the daily pressures faced by a nonprofit and the constituencies it serves. This also allows funders to more precisely target their future grantmaking.
For funders, there are several components that should be part of any due diligence exercise. They include a look at the nonprofit’s history and track record, its executive leadership and management structure—especially important if the grantseeker is a startup, its strategic vision as well as its capacity to build and execute a communications plan.
Bear in mind that, from a legal standpoint, there is little in the way of due diligence a foundation or funder is required to perform. The one piece of information you must obtain, though, is confirmation that a potential grantee has 501(c)(3) status as a public charity, a requirement for most grants that come from a foundation. Grantees often will submit their IRS determination letter confirming their status or you can go to www.irs.gov or sites like GuideStar and Charity Navigator. Grants to private foundations and domestic non-charities require some extra steps.
Just how diligent your due diligence really should be is another crucial consideration. In fact, a considerable amount of the literature devoted to due diligence focuses intently on streamlining the process and not placing undue burdens on grantseekers.
“Whereas much due diligence serves an important purpose, some practices are rooted in misunderstandings about what is required,” according to the due diligence guide from Project Streamline.
Some large foundations have dedicated staff and elaborate procedures that nonprofits must follow in order to seek a grant. Depending on who’s cutting the checks, they can be concise, or they can be onerous. But the size of the grant may require a fine tooth comb. For smaller foundations and individual funders, a shorter checklist is in order. Indeed, don’t ask for more information just because you can. Nonetheless, there will be some financial information you will need. A lot of that can be found in the Form 990 nonprofits are required to file with the IRS, which details its finances, mission, and programs.
However, information on the 990 might be dated, in which case it should be supplemented by the nonprofit’s internal financial statements. Those are frequently verified in an audit, which should be complemented by an audit committee composed of directors or qualified outsiders who can assure the independence of the auditors, review the organization’s accounting policies and oversee the accuracy of financial statements and reports.
However, formal audits can be expensive, prompting many smaller nonprofits to forego them. Exponent Philanthropy, an association for small foundations, says the lack of annual audit should not necessarily be a red flag. But if that makes you uneasy, consider paying for the audit yourself. Even no audit is done, however, some kind of regular financial review appropriate to the nonprofit’s size and operations is essential.
Above all, take into account what the “net grant” would be to the grantee—the amount of the grant, minus the time and expense needed to comply with your due diligence inquiries. If you unduly burden the nonprofit, they might say “thanks, but no thanks.” Instead, consider due diligence the initial step in what will hopefully be a long and mutually beneficial relationship. It’s not just about the money. As one funder noted, “Organizations want you to believe in what they’re doing.”
Report: Due Diligence Done Well, by Grantmakers for Effective Organizations, an excellent overview of the priorities during the due diligence process.
Article: Lessons in Due Diligence, Philanthropy magazine.
Guide: Right-Sizing the Grantmaking Process, Grant Managers Network
White Paper: What Does Effective Due Diligence Look Like?, by Grantmakers for Effective Organizations
Blog: Five Red Flags to Look Out for When Researching a Nonprofit’s Strategy and Results, The Bridgespan Group