Should Nonprofit Executive Incentives Be Tied to Mission?

Designing incentive pay for nonprofit executives can be a challenge.  Do we pay for sound fiscal stewardship?  Growth in donors and sponsors?  Or should the lion's share of incentive compensation for nonprofits be tied to progress in accomplishing the organization's mission?

It isn't enough that the IRS, through its intermediate sanctions regulations, prohibits payment of any excessive compensation to nonprofit executives (imposing significant penalties on both the executives and responsible Board members when an organization is found guilty of such) or that it precludes executives from entering into revenue-sharing arrangements that can be construed as private inurement (where some portion of a tax-exempt entity's revenues or donations flow directly to an "insider").  There are unique forces at work when it comes to nonprofit executive incentives that can be easy for compensation pros and Board members to overlook or underestimate.

Case in point, a recent controversy that has emerged around diabetes nonprofits, driven by an activist donor.  As reported in this week's Chronicle of Philanthropy, Nonprofit Leader Pushes Idea of Tying  Executive Pay to Progress in Accomplishing Mission (full article behind subscription firewall - sorry), Brian Kelly, a New York video game executive and philanthropist and the father of a child diagnosed with Type I diabetes, is pushing hard on the idea that executive compensation in charities should be tied to progress in accomplishing their missions.

Mr. Kelly, co-chairman of the board of the gaming software developer Activision Blizzard, began to study the progress charities were making in finding a cure for the disease soon after his son was diagnosed. He was not thrilled with what he found.

So in 2011, with $1-million from his family foundation, he started a nonprofit called the Juvenile Diabetes Cure Alliance. Its goal is to persuade donors to demand that their money to diabetes groups be spent on research that’s headed toward finding a cure for Type I diabetes by 2025.

This month the alliance issued its second annual report that criticizes the nation’s largest diabetes nonprofits­—the American Diabetes Association, the Diabetes Research Institute Foundation, JDRF, and Joslin Diabetes Center—because it says they don’t do enough to base executive bonuses on progress toward a cure for the disease.

“The major diabetes nonprofits pay a bonus to top executives apparently for building and improving their organizations rather than advancing cure progress,” the alliance’s report says. “Incentive compensation has arguably enabled these nonprofits to become more successful at raising money, but it has not been used to drive measurable progress toward a near-term cure for Type I diabetes.”

The charities attacked by the Alliance, along with a number of compensation experts, have responded.  They note the many practical challenges and obstacles to the idea of tying executive bonuses to mission.  These include the importance of executive attention to the things they see as paving the way for mission success, including the building of large medical research networks, and the cultivation of donors and sponsors.  They point out that, for many organizations, mission is more broadly defined that just finding a cure: it focuses on improving the lives of those with diabetes by using exercise and healthy eating to reduce the effects of the disease.  And they cite the common objective to financial incentives, often particularly acute in the charitable sector, that it is an "insult" to presume executives will focus more on mission if they are paid a big bonus to do so.

My take?  I've done a fair amount of work with nonprofit executive compensation.  I think Mr. Kelly has a point, and I think that charitable nonprofits blow off concerns like this at their own peril.

Considering what I know about IRS regulations and the advice of attorneys who specialize in this area, I have always advised my tax-exempt clients to ensure that executive incentives (if they are going to be used) are tied as much to mission-related metrics as to financial and fundraising accomplishments.  Hopefully all these charities have a plan that reflects how they are directing efforts and resources toward the mission - including lead (efforts and results that are preconditions for success) as well as lag (efforts and results that measure success already achieved), that can inform incentive plan design.

What's your take and your experience in this area?

Ann Bares is the Founder and Editor of the Compensation Café,  Author of Compensation Force and Managing Partner of Altura Consulting Group LLC, where she provides compensation consulting to a range of client   organizations.  Ann was recently named President Elect of the Twin Cities Compensation Network (the most awesome local reward network on the planet) and joined the Advisory Board of the Compensation & Benefits Review, the leading journal for those who design, implement, evaluate and   communicate total rewards.  She earned her M.B.A. at Northwestern   University’s Kellogg School, is a bookhound and foodie in her spare  time.  Follow her on Twitter at @annbares.

Creative Commons image "Symbol of the American Dollar Amongst Question Marks " by kasiastock

Comments

[E. James (Jim) Brennan]

The well-meant advice is nice but would pretty difficult to impliment for many nonprofits and harder to enforce. As covered before in this post http://www.compensationcafe.com/2012/05/nonprofit-restrictions-might-affect-you.html, the IRS regulation IRC 4958 (Intermediate Sanctions) sets rather minimum standards for the boards of charities and foundations, simply requiring them to assure proper paperwork, rely on pay surveys done by professional surveyors, and guard against insider self-enrichment (termed "excess benefit transactions"). That SHOULD be second nature to most board members with corporate experience, but it's tough enough to compel statuatory compliance without going far beyond that to limit the TYPE of objectives used for rewards. Not even for-profits are bound that way.

There are more than a million non-profits in the U.S. and there are about 400 different tax-exempt “industries” (NTEE codes) assigned by the notorious Cincinnati IRS regional office according to their guess about the purpose of each charity or foundation or whatever it is. With so many official purposes, there must be at least as many missions and each organization may select a different one (or more) as a target for their executives to achieve. Having some considerable experience with IRS executive compensation rules, their enforcement practices and Tax Court trials, as well as with nonprofits, I’d say this is an extremely ambitious and probably futile crusade for anyone expecting to see changes within decades.

That said, I do agree that most people have no idea about the amount of funny business at nonprofits, even though it definitely is miniscule in scale. Unlike for-profits, they run “under the radar” with very little risk of being audited or challenged. Most of us here probably belong to at least one professional society whose reward practices are problematic if not openly opposed by members. But it would be hard to claim that many bonuses are granted without regard to the mission.

[Ann Bares]

Jim,

Appreciate your deep experience in this sector and your comments.

My work with nonprofits, mostly in past 18 years, leaves me with a different perspective. I can assure you that many bonus plans are designed without any reflection of mission - most often because they are put together by well-meaning but inexperienced board members and advisors who approach executive rewards with the same mindset (profits/financial sustainability first) that they are accustomed to in their other lives. It isn't that they aren't mission-conscious or sensitive, in many cases they are in their board/advisory role precisely because of their passion for the mission. I hold to the position that the dynamics surrounding executive rewards in charities are necessarily unique. This is tough stuff to do well, just as it is in any other industry.

That said, I've helped enough charities design incentives with mission metrics factored in that I can't agree it is any more difficult a design task than any other situation where you must balance multiple objectives.

Funny business? I've been fortunate not to run into much of this. Mostly it's well-meaning people trying to do a difficult job well and (sometimes) missing.

Anyway, I still think Mr. Kelly's point is a valid one - and the fact that a crusade like this might take decades to have a real impact is not a reason not to do it.

Thanks for the great conversation!

[E. James (Jim) Brennan]

Think we pretty much agree that it isn't that different except for the inevitable effects of less experienced board "compensation committee" members. For-profits also struggle with efforts to reinforce critical mission objectives, too, even though theirs tend to focus on economic factors rather than benevolence activities or social improvement outcomes. All sectors need to improve their reward systems.

[jim jackson]

So - do you have any resources that could help the CEO of a small nfp that provides training and consulting under contract with government agencies? We are trying to design a bonus structure that considers contract sales (perhaps 5% of completed contract revenue) and travel days. In the end - this would likely put one person above my pay scale, and another close. Any resources you can point me to are appreciated.