Cost recovery is the backbone of any successful organization, ensuring its sustainability and ability to thrive in the long term. The term refers to recovering overhead costs that are not directly tied to a specific project, but support the organization’s overall functioning. Allowing organizations to cover overhead costs enables them to attract top talent, build capacity, and remain sustainable in the long run. Without it, even the most well-intentioned organization would be unable to keep the lights on, let alone deliver on its mission.
However, this critical practice is not equally accessible to all. The issue of cost recovery in the non-profit sector highlights a significant gap between INGOs and NNGOs. While INGOs typically receive most foreign aid and can recoup their overhead costs, NNGOs often struggle to meet their core expenses. This imbalance underscores the need for more significant investment in, and support of, local NGOs. They are often best equipped to address their communities’ unique needs and challenges.
As the focus shifts towards promoting locally-led development, it becomes essential to ensure that national actors can access the necessary funding to cover overhead costs and effectively serve their communities. However, navigating the complex landscape of cost recovery can be daunting. Initially, NNGOs may customize their cost recovery approach to meet their primary funder’s requirements. However, as they expand beyond that one funding source, they might encounter difficulties adapting and risk under-funding their operations. Every NNGO has unique circumstances, so a tailored approach to cost recovery is vital.
Let’s explore some measures NNGOs can take to maximize cost recovery and operate at their full potential.
1. Defining a Cost Recovery Strategy and Policy
Cost recovery is essential for financial sustainability. Organizations can ensure that their cost recovery aligns with their long-term goals by creating a comprehensive strategy. This strategy should take a multi-year and multi-project approach. It must be consistent and predictable, giving stakeholders confidence in the organization’s financial management.
Organizations have to then draft and implement a cost recovery policy document, outlining how costs are treated and funded, ensuring consistency and clarity. It should be realistic, practical, and based on non-negotiable requirements. The more complex the policy, the less functional and useful it becomes.
The most important element is ensuring a clearly defined and appropriate indirect cost rate to guarantee all costs are recovered. As such, careful consideration of cost requirements is essential in decision-making.
2. Measuring and Tracking Costs
A comprehensive understanding of all costs involved is critical to maximizing cost recovery. This requires thorough measuring and tracking of all expenses throughout the year. By doing so, organizations can provide greater transparency to funders, making a compelling case for covering all costs.
Yet, simply tracking costs is not enough. Understanding how these costs fit within the organization’s context is crucial. It requires a clear articulation of all expenses to gain a realistic view of what it takes to undertake programs and effectively run the organization. To do this, organizations must consider their unique needs and challenges and how these expenses fit into the larger picture of their operations.
3. Financial Planning and Budgeting
Financial planning and budgeting are fundamental for effective cost recovery. A budget serves as a roadmap, guiding financial decisions and resource allocation. An organization can track its income and expenditures at both the organizational and programmatic levels, ensuring it accounts for all costs.
The financial plan and budget must align with the operational plan. This alignment ensures appropriate income distribution, ultimately maximizing cost recovery efforts.
4. Stakeholder Engagement
Improving cost recovery requires the commitment, buy-in, and cooperation of all stakeholders, from management to staff members and funders. This requires a cultural shift and a shared understanding. It may need a change in mindset and willingness to adopt new working methods. To that end, clear communication about the organization’s financial goals and objectives is key.
5. Open Conversations with Funders
While effective communication with funders is critical, discussions about indirect costs can become complicated due to fear and stigma surrounding them. However, engaging in candid conversations with funders allows them to better understand how indirect costs are calculated and applied. In turn, this helps illustrate the importance of these costs and why they are necessary for the sustainability of the NNGO.
Instead of simply applying a rate, management should take the time to engage funders and explain the basis of the rate. This promotes transparency and ensures funders comprehend the organization’s actual costs.
Cost recovery is a vital driver for the growth and success of NNGOs and locally-led development initiatives. It involves creating a cost recovery strategy and policy tailored to the needs of each organization, with a clear understanding and articulation of all costs involved, accurately tracking and measuring expenses, and establishing an appropriate indirect cost rate.
Moreover, building a culture of financial planning and budgeting is critical to gaining the support of stakeholders. And equally important is the need for open discussions with donors about the organization’s indirect costs. When NNGOs proactively implement cost recovery initiatives, they can achieve financial sustainability and continue making a meaningful impact in their communities.
Humentum works with organizations to assist them in strengthening their cost-recovery initiatives. If you want to learn more, click here to start the conversation.