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www.ifrc.org Saving lives, changing minds. International Federation of Red Cross and Red Crescent Societies GUIDELINES FOR NATIONAL SOCIETY COSTING POLICY Best practices for project costing and indirect cost recovery procedures

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www.ifrc.orgSaving lives, changing minds.

International Federation of Red Cross and Red Crescent Societies

GUIDELINES FOR NATIONAL SOCIETY COSTING POLICYBest practices for project costing and indirect cost recovery procedures

© International Federation of Red Cross and Red Crescent Societies, Geneva, 2016

Any part of this annual report may be cited, copied, translated into other languages or adapted to meet local needs without prior permission from the International Federation of Red Cross and Red Crescent Societies, provided that the source is clearly stated. Requests for commercial reproduction should be directed to the IFRC at [email protected] Guidelines for National Society Costing Policy – August 2016

The International Federation of Red Cross and Red Crescent Societies (IFRC) is the world’s largest volunteer-based humanitarian network. With our 190 member National Red Cross and Red Crescent Societies worldwide, we are in every community reaching 160.7 million people annually through long-term services and development programmes, as well as 110 million people through disaster response and early recovery programmes. We act before, during and after disasters and health emergencies to meet the needs and improve the lives of vulnerable people. We do so with impartiality as to nationality, race, gender, religious beliefs, class and political opinions.

Guided by Strategy 2020 – our collective plan of action to tackle the major humanitarian and development challenges of this decade – we are committed to saving lives and changing minds.

Our strength lies in our volunteer network, our community-based expertise and our independence and neutrality. We work to improve humanitarian standards, as partners in development, and in response to disasters. We persuade decision-makers to act at all times in the interests of vulnerable people. The result: we enable healthy and safe communities, reduce vulnerabilities, strengthen resilience and foster a culture of peace around the world.

Foreword 4

Preface and acknowledgements 5

Executive summary 6

1 Introduction

1.1 Overview, objective and scope 7

1.2 General definitions 7

1.3 Costing policy framework 7

2 Concepts

2.1 Budget architecture 9

2.2 Cost definitions and costing concepts 9

2.3 Costing principle – Full cost recovery 10

2.4 Cost classification 11

3 Methodology

3.1 Cost assignment 14

3.2 Indirect cost recovery 16

3.3 Calculation methods 17

3.4 Cost behaviour 21

3.5 Rates 22

4 Approaches

4.1 Under- and over-recovery 25

4.2 Exceptions 27

4.3 Other considerations 28

5 Influencing factors

5.1 Fair share 30

5.2 Donor cross-subsidization 31

5.3 Value for money 31

5.4 Competitive edge 32

5.5 Multi-layer funding 33

5.6 Cost neutrality 34

6 Risks and responsibility

6.1 Budgeting, policies, and procedures 35

6.2 Management, evaluation, and reporting 36

6.3 Information systems 36

6.4 Accountability 37

6.5 Practicality 38

7 Financial sustainability

7.1 Domestic financial resources 39

7.2 Funding strategy 41

7.3 Reserves 42

Conclusion 45

Bibliography 46

TABLE OF CONTENTS

GUIDELINES FOR NATIONAL SOCIETY COSTING POLICY

International Federation of Red Cross and Red Crescent Societies

4 > FOREWORD AND ACKNOWLEDGEMENTS

Whenever there is a crisis, we are there. Our ability to respond quickly is part of what makes the Red Cross and Red Crescent so unique and so important. It is rightly a source of pride and is understandably a focus, a preoccupation of National Society leaders and managers.

However, our responsiveness forms only part of our credibility, especially when it comes to our partners and donors. The trust they have in us also comes from our commitment to accountability and transparency. Accountability and transparency are not additional considerations. They are principles that must inform all that we do.

Key to this is how we use funding to cover the costs of providing services to the communities we serve.

This document offers guidance for National Societies to develop and adopt transparent costing policies and cost recovery practices. Effective policies and systems such as these are the foundations of accountability.

These guidelines have been developed in close consultation with National Societies and other experts, and they draw heavily on practices that already exist within our network. They reflect our shared ambition to become the humanitarian partner of choice for all stakeholders.

It is our hope that you will find them useful. We welcome your feedback and hope you can share your successes so that we in turn can capture lessons learnt and share them throughout the network.

Elhadj As Sy Secretary General

FOREWORD

5GUIDELINES FOR NATIONAL SOCIETY COSTING POLICY

International Federation of Red Cross and Red Crescent Societies

I am thankful for the contributions of many individuals within the International Red Cross and Red Crescent Movement, particularly the colleagues in National Societies who accompanied me on this journey.

In writing these guidelines over the past four years, I gained invaluable insight into the functioning and running of a National Society. The collaboration with National Societies allowed me to see their perspectives and understand their aspirations. The experience gave me the chance to observe the benefits of full cost recovery, and also recognize the long and often unspoken consequences of under recovering costs.

This document introduces key costing concepts, and describes approaches to develop a costing policy and cost recovery system. It discusses the challenges in fully recovering costs and the implications if the hurdles are not overcome. The chapters could be read independently but those involved in developing costing policies and designing cost recovery systems would benefit reading it right through.

The guidelines could be viewed in three segments:

I. Concepts and methodologies – introduces key terms and principles (technical in nature)

II. Approaches and factors – discusses practices and implications (analytical in nature)

III. Risks, responsibilities, and financial sustainability – explores topics that underpin the subject

On behalf of the International Federation of Red Cross and Red Crescent Societies (IFRC), I would like to thank the National Red Cross and Red Crescent Societies in Africa, Americas, Asia Pacific, Europe, and Middle East North Africa, for participating in the consultation process to develop this guidelines. In addition, I am grateful to the National Societies of Colombia, Ethiopia, Liberia, Myanmar, Nepal, Viet Nam and Philippines for their instrumental role and contribution during the acceptance testing. The guidelines as presented in the next pages, is a result of mutual learning.

I would like to thank colleagues at Norwegian Red Cross for their recommendations. And I extend deepest gratitude to Mr David McConomy from Stephen J.R. Smith School of Business at Queen’s University in Canada, and to Mr Mark Jerome from Asia Pacific’s International Development Assistance Services at KPMG, for their kind editorial inputs.

I am indebted to IFRC colleagues in Geneva, regions, and countries, for their feedback, co-operation, and support during this journey. In particular, I thank Alfred Panico, Jagan Chapagain, John Gwynn, and Umadevi Selvarajah for starting this project. And I thank Andrew Rizk for his advice, and for the vision that led to expanding a regional project to be a global initiative for the benefit of all National Societies.

David Silvaraja, CA (M), CPFA, FCCA Senior Financial Accountant

PREFACE AND ACKNOWLEDGEMENTS

6 > INTRODUCTION GUIDELINES FOR NATIONAL SOCIETY COSTING POLICY

International Federation of Red Cross and Red Crescent Societies

National Red Cross and Red Crescent Societies are continuously seeking to remain competitive and relevant in providing humanitarian services with high levels of integrity so that their position as trusted institutions is well recognized and retained, both within the country and internationally. Their capacity to exist, organize, mobilize, perform, and grow is guided by the organization’s strategic vision, is dependent on enabling constitutions and well governed policies, and is further strengthened by systems and procedures.

In order to achieve organizational aims and objectives, National Societies gather, harness, and employ resources. The financial measure, based on industry and national standards, enables National Societies to monitor their performance and maintain strong accountability to their stakeholders. One of the key attributes of a strong financial system is a costing policy that describes an organization’s approach to cost – how cost is defined, funded, and accounted for. This is an essential foundation that would empower National Societies to exist and carry out humanitarian programmes and services for the most vulnerable communities in the foreseeable future.

Any organization must be able to fully cover the costs of its structure, which includes the physical infrastructure and its invaluable human resources. Financial sustainability is a growing concern for

many National Societies who struggle to fully cover their organizational costs and the costs associated with programme and service delivery, risking deficits and discontinuity of programmes, among other consequences. There are two main reasons: Firstly, there are many relevant costs that are not recovered from the correct funding sources, and they slowly deplete the organization’s unrestricted funds and reserves. Secondly, there are costs that could be avoided but are not managed well, and these absorb scarce resources and become unaffordable over time. The process of writing a costing policy allows the National Society to look deeper and understand their organization better, in order to make informed decisions that have a significant impact on its financial resources in the long term.

Following requests from many National Societies, these guidelines for National Society Costing Policy have been developed, using widely accepted standards and practices, to provide a simple and clear guidance to National Societies who wish to prepare or revise their costing policy. It also provides guidance to design and implement an indirect cost recovery system, and makes crucial links to an organization’s funding strategy and accountability. Framed as guidelines, this document harmonizes terminologies, encourages understanding, and prompts National Societies to consider areas that are pertinent in the development of a costing policy and indirect cost recovery system.

This guidance document builds on previous initiatives that the IFRC secretariat has undertaken on the subject of full cost recovery and project costing, complements the 8NS core cost project that focuses on minimum structure and costs, and is based on consultation with a number of National Societies in Africa, Americas, Asia Pacific, Europe, and Middle East and North Africa (MENA) regions. The principles and methods are drawn from a wide catalogue of resources from within and outside the not-for-profit sector - with an intended emphasis on the International Red Cross and Red Crescent Movement to make this document more relevant – and have been tested with National Societies in the various regions.

The development of costing policies and indirect cost recovery systems are not isolated but part of wider efforts that National Societies undertake to ensure financial health, and to contribute towards sustainable programme and service delivery. This aptly refers to the National Society Development Framework 2013, where leaders are encouraged to reflect on approaches that are essential to improve processes deemed critical for their long-term health, image, and collective reputation.

These guidelines offer the tools necessary to embark on a journey to understand costs, to appreciate full cost recovery, and to experience the manifold benefits of effective cost management.

EXECUTIVE SUMMARY

7GUIDELINES FOR NATIONAL SOCIETY COSTING POLICY

International Federation of Red Cross and Red Crescent Societies

1.1 OVERVIEW, OBJECTIVE AND SCOPE

Overview

An organization’s costing system should help in achieving its strategic objectives, taking into account its nature, culture, cost structure, operating model, and environment. This tailored approach makes a costing system unique to an organization and makes it less appropriate for one model to be used by all.

Objective

This document is prepared for all National Red Cross and Red Crescent Societies, to provide simple and clear guidance on how to prepare costing policies and indirect cost recovery procedures by using widely accepted standards. National Societies have a need to:

• Fully recover the costs associated with managing donor-funded programmes

• Apply consistent indirect cost recovery rates based on widely accepted standards

• Provide relevant and transparent information to support cost recovery methods and rates.

These costing policy guidelines follow up on previous work such as the Value Chain Study of

2007 and Cost Comparison Study of 2008. The two relevant conclusions of the studies were1:

“The secretariat and National Societies should develop full cost recovery systems, so that total project costs can be determined and fully understood. Such systems would make it possible to evaluate total project costs compared to outputs and outcomes. In addition they would enable financial transparency with stakeholders including donors…”

“A common accounting framework should be developed including common terminology, policies, practices and a chart of accounts to underpin comparison, discussion and learning about costs and financial operation in general.”

Scope

The guidelines provide basic definitions, classification, and assignment methods. They describe concepts and principles that are important for costing and cost recovery processes, and consider factors that influence full cost recovery.

This document aims to bridge the gap in understanding between donors and fund recipients by harmonizing terminologies and approaches within the Movement. It provides guidance on how to calculate indirect cost rates, highlights key considerations for management, and outlines the types of financial information that are integral to cost recovery system management.

1.2 GENERAL DEFINITIONS

The following terms are used in this document and listed here to guide understanding:

I. Partner or partners – represents donors and are used interchangeably

II. Back donor – represents a partner’s donor

III. Recipient or fund recipient – represents a National Society

IV. Organization – used as a general term and as reference to a National Society

V. IFRC – International Federation of Red Cross and Red Crescent Societies

Where a specific example illustrates the relationship between a donor National Society and recipient National Society, the terms partner National Society and operating National Society are used.

1.3 COSTING POLICY FRAMEWORK

Costing policy is important for any organization as it determines how costs are treated and funded. There are many factors that influence a costing policy

7

1. Extracted from studies commissioned by IFRC, Review of overheads along the Federation value chain and review of Secretariat overhead recovery mechanism, 2007; Secretariat and National Societies – A cost comparison study, 2008

1 INTRODUCTION

8 > INTRODUCTION GUIDELINES FOR NATIONAL SOCIETY COSTING POLICY

International Federation of Red Cross and Red Crescent Societies

and these are a primary consideration for National Societies who wish to prepare such a policy. The key factors are summarized below:

I. Objective and plan A good costing policy contributes to a National Society’s growth and its sustainability. An organization’s sustainability extends beyond its financial scope and depends on many drivers including – but not limited to – fundraising and resource mobilization. The objective of a costing policy is to foster financial sustainability, where the costs of an organization are fully recovered and will remain recoverable in the foreseeable future.

The financial plan and budget should always follow the operational plan that is informed and led by the organization’s strategic plan. If a multi-year plan is available, this helps to assess the financial sustainability over that period, and to appreciate the inherent ups and downs where a National Society may generate a surplus in one year and a deficit in another.

II. Scope and time horizon The costing policy should not be limited to one particular project or operation, or bound to one particular year. This is based on the assumption that the National Society will remain in business or operation for the foreseeable future. The policy should present a model relevant for a number of years instead of a short-term solution that needs annual revision, which is often impractical and cumbersome. Stakeholders will appreciate the certainty, consistency, and predictability associated with a longer-term financial sustainability plan.

The topic of costing policy or indirect cost recovery often appears when there is a large-scale operation, where there is a concern whether the existing structure can cope with the increase in volume and size of programmes, and whether an expansion, if done, can be effectively and fully funded. The costing policy should be prepared in view, but not in limitation, of such operations based on historical patterns. The idea is to plan and measure financial sustainability by costing for programmes and services holistically.

III. Market The domestic and international markets should be considered when setting costing policies. Donors will likely support policies that are deemed fair and reasonable when they are communicated clearly and transparently. Although a donor’s preference should not dictate a recipient’s costing policy, it is an essential criterion for a costing policy to be effective. How donors treat costs would have an influence on their acceptance of how recipients treat costs.

IV. Capping Due to the nature of programmes and services, and the unpredictability of emergency operations, there is a possibility of significant recoveries when a large-scale project is implemented, exceeding the estimates used in calculation exercises. There is usually a concern on the part of donors, and pressure on the part of operating National Societies, on how over-recoveries will be treated and how capping, if applied, would be managed.

“How donors treat costs would have an influence on their

acceptance of how recipients treat costs.”

9GUIDELINES FOR NATIONAL SOCIETY COSTING POLICY

International Federation of Red Cross and Red Crescent Societies

9

2.1 BUDGET ARCHITECTURE

Costing policies and cost recovery procedures should begin with the budget architecture.

Budget architecture is how the organization views its costs and draws its budgets. Most National Societies have at least two budgets – one for the programmes, and another for organizational costs. The organization budget is also commonly referred to as an infrastructure budget, or core budget. Clearer budgets allow easier matching of income and expenditures.

As the budget architecture is imperative to costing policy and indirect cost recovery systems, it would be useful to categorize budgets into three main categories:

1. Organization budget (unrestricted) – this includes regular costs, including governance

2. Programme budget (restricted) – this includes other costs, programmes and services

3. Capital budget – this includes all non-current assets (some build this into no. 1).

It would be ideal if all budgets were funded at the start of the financial year. However, for an organization to continue in existence, it would be most important to fully fund the organization budget.

There is a financial relationship between the programme (restricted) budget and the organization (unrestricted) budget of an entity. With indirect cost recovery, the portion of unrestricted budget that is not funded by an organization’s own resources is funded by way of recovery from programmes and services.

2.2 COST DEFINITIONS AND COSTING CONCEPTS

Cost – a financial measure of resources consumed for a project implementation or service delivery.

“It should be noted that the costs which should be considered in many types of management decisions are not the recorded costs, but rather the expected future costs which will differ among the possible alternative course of actions2” .

Cost object is an item or group of items whose costs need to be measured. Cost centres (such as projects and departments) are examples of cost objects. Establishing cost objects is important to report cost information to stakeholders. Hence, reporting requirements help to determine cost objects, and this in turn helps to design a cost information system. The quality of the cost information depends on the cost objects, the methods of classifying costs, and the methods of assigning costs.

Management objectives contribute to decide the cost objects of an organization e.g. a National

Society may wish to have information by programmes, projects, activity, geographical regions or a combination of these. Some organizations may require additional cost objects such as departments and functions (e.g. support services). In creating cost objects, the management should also understand how the information would be used for decision-making, how frequently the information is needed, and the cost of collecting and providing the information.

The deeper the cost object in the organization level, the more difficult it will be to attribute costs to it, e.g. it may be easier to measure costs by departments or projects than to measure them by activity or location of activities. The number of cost objects influences the complexity of the cost information system e.g. if the cost information is derived from the financial system, the chart of accounts need to be designed to produce the different cost information that the management requires. The more complex the design, the less practical and useful it would be. Cost objects should be realistic, practical, and based on non-negotiable requirements.

Cost drivers are factors that cause the costs to increase or decrease. They may be determined by

2 CONCEPTS

2. Extracted from Perspectives on Cost Accounting for Governments by IFAC Public Sector Committee

GUIDELINES FOR NATIONAL SOCIETY COSTING POLICY

International Federation of Red Cross and Red Crescent Societies

10 > CONCEPTS

observation or analysis of the activities. There may be more than one cost driver for a particular cost but the best one should be chosen that fits with the costing objectives of the organization e.g. office rent and utilities are usually distributed by floor space but, where this cannot be easily calculated or does not reflect actual consumption, then the cost could also be distributed by workstation or headcount. Some costs may be common to several cost objects. Cost drivers help to calculate the distribution or sharing formula for the various cost objects. In the example of office rent and utilities, floor space (cost driver) can be used to charge the share of costs to the different departments (cost objects).

Fixed costs are costs that will not vary with the level of activity whereas variable costs are costs that increase or decrease based on activity level.

Programme costs are direct operational costs and are often tangible e.g. procurement and mobilization of relief items, cash disbursements, construction etc. They are always direct in nature but could be either fixed or variable.

Programme support costs are overheads or running costs necessary for the implementation of activities and would not be incurred otherwise. They can be direct or indirect, and fixed or variable.

“Overheads are costs which are increasingly removed in time and space from the beneficiary, which cover more than one project and which are perceived as being prone to increase for reasons not directly connected to the organization’s aims and objectives. Definition is difficult because it requires an arbitrary line to be drawn at some point in the continuum of costs between the beneficiary

and the head office and is significantly dependent on the viewpoint of this drawing and it is consequently open to debate3”.

Overheads, support cost, core costs, and indirect costs mean the same thing to many organizations. It is important to know what overheads encompass, when this term is used. These costs cannot be traced to a single project or service but must be allocated to the project or service using an allocation method that is seen to be fair by all.

Direct costs are costs that can be specifically identified and that can be easily traced to a particular project or service4. They could be fixed or variable in nature e.g. rent of vehicles for the project team (same amount every month) is fixed in nature whereas the cost of running the vehicles (fuel, toll, and parking) is variable in nature.

Indirect costs are costs that cannot be specifically traced to a project or service and are usually common or joint costs. They could be fixed or variable in nature e.g. salary cost of finance or logistics team supporting various projects (same amount every month) is fixed in nature whereas the cost of running those offices (e.g. electricity) is variable in nature. Where variable, they are usually programme-inspired costs.

Full costs describes the process of measuring the total costs of an operating unit or function (both direct and indirect) and assigning them to all of the organization’s project or services. The definition of full costs differs between countries, which imply inclusion or exclusion of certain costs. Full costs of a project or service should include both a component

of direct costs, and its relevant and appropriate share of indirect costs.

2.3 COSTING PRINCIPLE – Full cost recovery

Full cost recovery means recovering or funding the full costs associated with project implementation or service delivery. It includes all project or service costs, either direct or indirect, and an element of more general costs associated with sustaining the organization itself. Full cost recovery systems help to determine and fully understand projects costs.

In addition to costs directly associated with project or service, costs will also be generated in other parts of the organization, e.g. adequate finance, human resources, management and information technology systems are integral components of any project or service5. The first step towards full cost recovery is being able to define what constitutes full costs. This is based on an organization’s ability to understand the cost structures, and to distinguish direct and indirect costs.

Why full cost recovery?

The true cost of delivering a project or service is not fully met if only new or additional resources employed are considered, e.g. if a National Society has one programme funded by three donors and a second programme by a new donor is introduced, the second programme’s full costs are not only

3. Extracted from Review of Overheads along the Federation value chain and Review of Secretariat Overhead recovery mechanism, 2007

4. Definition as per IFRC’s Costing policy

5. Extracted from IFRC’s Costing principles

11GUIDELINES FOR NATIONAL SOCIETY COSTING POLICY

International Federation of Red Cross and Red Crescent Societies

the additional costs of the project or service to the organization, but includes a share of the indirect costs which were previously shared by the one programme and its three donors.

Indirect costs must be recovered to ensure the financial stability of an organization, and its continued growth and development. Difficulties in funding indirect costs leads to underinvestment in6:

I. Management and leadership

II. Internal and external infrastructure

III. Strategic development and governance.

When costs are fully recovered, National Societies not only survive and develop, but they are also able to increase the quality and effectiveness of their programmes and services as there are funds available to invest in adequate resources such as staff, equipment, and other infrastructure. The institutes behind “the overhead myth”, in their open letter to donors, concluded based on various studies in the United States, that organizations who build infrastructure and capacities are more likely to succeed and that underinvestment compromises quality and sustainability 7.

Full cost recovery also helps an organization to understand the true, total, and fair costs of its work, which is essential for effective financial management and strategic planning. Further, understanding the full cost enables managers to have more informed dialogues with stakeholders.

Partners also benefit when their fund recipients adopt full cost recovery. They will have:

I. A complete and accurate reflection of the cost of projects and services

II. Reasonable assurance that there is no cross-subsidization

III. Stronger trust in the fund recipient built on increased transparency

IV. Efficient delivery of projects as costs will be better controlled

V. Long term programmes as the fund recipient is able to continue operations.

In the UK National Audit Office’s 2005 report Working with the Third Sector, three types of financial relationships were said to exist between public sector bodies and third sector organizations8. This relationship can also be identified between National Societies and their partners. They are:

I. Shopping relationship: a funder designs a project or a service and contracts a service provider

II. Giving relationship: a funder provides funds for a specific project or the overall objective

III. Investing relationship: a funder provides funds for development or capacity building initiative.

Full cost recovery reflects a move from the traditional shopping relationship towards a more giving and investing relationship, whereby partners are indirectly contributing towards the fund recipient’s sustainability, and are appreciative of the full costs of programming.

The commitment to full cost recovery may pose some challenges for an organization or its funders,

as the principle works on the assumption that costs are reasonable and fundable. If actual indirect costs were substantial, not within the accepted norm in the industry, and not competitive to market conditions, it would be difficult to implement full cost recovery.

Full costs should be the basis for budgeting so that all costs are completely and accurately captured. Measuring full costs is an effective method for cost control and cost reduction, as the overall organizational costs are scrutinized against available income levels.

2.4 COST CLASSIFICATION

Apart from identifying cost objects (what are the cost groups), National Societies should decide the methods to classify costs based on objectives (how to group the costs). There are many ways to classify costs, and the classification method is crucial to systematically allocate or assign costs to programmes and services. The not-for-profit industry commonly classifies costs by:

I. Function – programme costs versus programme support costs

II. Variability – fixed cost versus variable cost

III. Traceability – direct cost versus indirect cost.

6. Based on Full cost recovery by ACEVO, KPMG and New Philanthropy Capital

7. Based on The Overhead Myth by BBB Wise giving Alliance, Guidestar, and Charity Navigator.

8. Third sector is used to mean voluntary sector, community sector, not for profit or non-governmental organizations.

GUIDELINES FOR NATIONAL SOCIETY COSTING POLICY

International Federation of Red Cross and Red Crescent Societies

Diagram 1 below shows the different ways to classify the same costs, and how one terminology relates to another, often creating confusion. For consistency and common understanding, it is important

to choose one method (shape) to classify costs.

Materiality and measurement (2Ms)

The materiality of an amount depends on its significance to the overall amount against which it is being compared. A material amount will affect the interpretation of the information to the reader of the financial information, while an immaterial amount will not affect such interpretation. Common practices quantify materiality as a percentage of income, expenditure, assets, or equity. For example,

the cost of painting an office building is less than 1 per cent of total expenditure and is considered immaterial, whereas the cost of replacing all lighting in that building is more than 5 per cent of total expenditure and is deemed material. If a cost is material, there is more reason to ensure it is correctly distributed to the respective cost centres.

However, this depends on the measurement process: the need for measurement, ease of measurement, and the accuracy of measurement e.g. an organization with a small number of staff may find it easy to trace time by activity, and it may be able to do so accurately, although it may not see the need. A larger organization may find it difficult to measure staff time, and the accuracy may be limited, but the process is necessary to distribute costs accurately. In the latter scenario, if the staff members were responsible for a large number of projects or activities, distributing costs would be a cumbersome process without a sophisticated timesheet system. Since investment in a time management system is expensive, the organization’s cost benefit analysis should consider the materiality of costs and transactions involved, and the need and accuracy for information.

“If a cost is material, there is more reason to ensure

it is correctly distributed to the respective cost centres.”

Diagram 2 below shows how materiality and measurement affect cost classification and recovery.

The above diagram is for illustrative purposes only and does not indicate a rule for classifying or recovering cost. There are no hard-and-fast rules regarding classification or assignment methods, as these inevitably vary between organizations. It is important that the chosen method is equitable, and that the practice is consistent across projects and donors within an organization.

Why is classification important?

The classification of costs affects how the costs will be recovered, as illustrated in Diagram 2. When a cost is immaterial and difficult to measure (painting a building), the National Society may decide to cover it using general funds but if the cost is material and it can be measured reliably (lighting in a building), the classification warrants a different form of recovery, i.e. an indirect cost charge.

12 > CONCEPTS

Programme

Variable

IndirectDirect

Fixed

Programme support costs or overehads

1. Material

2. Possible to measure

reliably

3. Direct cost (charge)

3. Indirect cost (charge)

2. Difficult to measure

1. Immaterial

2. Difficult to measure

3. NS General Funds

2. Possible to measure

reliably

13GUIDELINES FOR NATIONAL SOCIETY COSTING POLICY

International Federation of Red Cross and Red Crescent Societies

As the type of costs does not automatically determine cost classification, an analysis of each cost group is needed to distinguish between direct and indirect costs.

Example – finance staff costs

a) Direct cost: finance staff is dedicated to one project and the cost is directly charged to the project.

b) Direct cost (shared cost): finance staff is involved in a few projects and the share of cost can be reliably measured, so the cost is directly charged to the respective projects.

c) Indirect cost (shared cost): finance staff service is available for all projects, but the time spent cannot be accurately measured by projects or the cost of such measurement outweighs the benefits (immaterial cost) – the cost is shared to all projects via an indirect cost charge.

If an organization classifies direct costs as indirect costs and does not build this into the programme budget, it loses the opportunity to use restricted income to cover the cost. If indirect costs are incorrectly classified as direct costs, this reduces the credibility of the financial information, and it may raise donor concerns. In both cases, if the amounts were significant, the disproportionate ratios would affect the interpretation of financial information. Indirect cost classified as direct cost usually does not go unnoticed, but direct cost classified as indirect cost is often overlooked although this has equally huge financial implications.

Unrestricted income that is used to pay for direct costs is more expensive if it is generated from indirect cost recovery e.g. it takes 100 US dollars to generate recovery income of 5 US dollars when a 5 per cent recovery rate is used, making the unrestricted income value 20 times more than the restricted income. In addition, unrestricted income is more difficult to obtain and highly flexible to use, further escalating its value and justifying the need to use it more prudently.

Accurate classification of costs allows National Societies to better manage their financial resources so that restricted income is not underused and unrestricted income is not overused, and vice versa.

“Indirect cost classified as direct cost usually does not

go unnoticed, but direct cost classified as indirect cost is

often overlooked although this has equally huge financial

implications.”

GUIDELINES FOR NATIONAL SOCIETY COSTING POLICY

International Federation of Red Cross and Red Crescent Societies

14 > METHODOLOGY

3.1 COST ASSIGNMENT

Cost assignment is the method used to link costs to appropriate cost objects. Cost assignment is dependent on the choice of the cost object and the choice of cost classification e.g. if an organization monitors costs by departments and classifies them as fixed or variable, its method to assign cost would differ from another organization that monitors costs by projects and classifies them as either direct or indirect. In the latter case, costs would be assigned by way of a direct or indirect cost charge to the projects.

Cost classification and cost assignment often falls under the responsibility of the finance department, although the effectiveness of the costing system is dependent on various functions within the organization. Since the individuals in these functions vary in their understanding on how costs are incurred and should be assigned, they should jointly share the responsibility to choose appropriate cost classifications and cost assignment methods. This will ensure that the costing system developed and used by finance is understood and supported by all relevant parties.

Once chosen, the classification and assignment method should be used consistently for a period of time to allow useful comparison, and to avoid misleading users of financial information. The

market or industry standard may help to select suitable classification and assignment methods. Direct charge and cost allocation are two methods and they are described below.

I. Direct charge

Direct charge is the most equitable method as costs are identified, traced to output, and charged directly to the relevant cost object(s). Direct charge works when cost can be measured reliably and attributed to a particular project.

Examples: First scenario: Procurement and transportation of water and sanitation equipment. The cost can be easily traced by activities and directly charged to projects.

Second scenario: Staff members are dedicated to a particular project and a vehicle is assigned to a particular department. The full cost of each resource is directly charged to the relevant cost object.

Where cost is not unique to one particular cost object, it needs to be spread among the relevant cost objects in the most accurate manner possible. The important principle is cause and effect – the cost should be traced to the cost object (e.g. project) that caused it to occur.

Examples: First scenario: Water and sanitation equipment and non-food items are shipped together. The cost of the shipment can be split between two projects based on volume such as cubic metre.

Second scenario: A programme officer supports five projects, and the salary cost is split across the five projects based on time as a suitable cost driver, derived from timesheet records.

Third scenario: A vehicle is shared by three projects and the cost, which includes rent, fuel, and per diem, is charged to the projects based on actual usage, derived from vehicle log books.

The following criteria should be met for costs to be included under a direct charge method:

I. Costs are necessary for the implementation of the projects (non-avoidable cost)

II. The benefits are limited to the concerned projects only

III. Costs meet the cause and effect principle (project that necessitated the expenditure)

IV. Costs can be traced to the projects and reliably measured.

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Direct charge is the most transparent mechanism, as it fosters accountability and supports a value for money framework. The method is simple: easy to understand, explain, and apply.

Some organizations set rules to determine the materiality of costs before a cost assignment method is selected. This guides them to assess materiality objectively, and discourages them from spending too many resources on measuring immaterial costs, where the cost of measurement exceeds the benefit e.g. an organization may use a 10 per cent rule for staff costs, as this is the level of salary and benefit that it considers material, and which can be reliably tracked and allocated through its payroll system. If the staff spends more than 10 per cent of total time (per annum) on a project other than that originally assigned, the relevant cost should be charged out to the concerned project.

II. Cost allocation

Cost allocation method is the second preferred method of charging costs to projects. Costs that are remote and independent from projects (indirect in nature) are charged to the cost objects in a systematic manner. These costs are necessary for the running of the project but they may also be incurred in the absence of projects. Different methods are available to calculate the share for each project, taking into account incoming and outgoing projects.

Examples: First scenario: office building costs are common to all the functions and departments on the premises. The costs could be allocated based on

the physical floor space occupied by each unit, or allocated by the headcount or number of workstations. The choice depends on the division of space and considers which method is more reflective of actual consumption.

Second scenario: warehouse rental and truck hire in a relief operation may be shared by a number of donors in a project, or a number of projects in an organization. The costs may be aptly allocated by the value or volume of goods stored and transported. During an emergency operation, the mobilization costs associated with relief items and equipment (including airfreight, shipping, taxes, loading, unloading, storage, and transportation) can be significant and incurred at various locations and by different partners. Driven by urgency, it is often easier and more economical to contract and pay collectively. The challenge would be to accurately split and recover such costs.

Third scenario: the organization’s administration department provides services to all the projects. It is not possible to measure and trace the cost of the department’s services to each project, so the costs are allocated to all projects by a fixed amount each month, shared based on headcount as the cost driver.

The following criteria should be met for the costs to be included under a cost allocation method:

I. Costs are necessary for the implementation of the projects

II. Costs are remote and independent from the projects

III. The resource is available to all projects irrespective of whether they are consumed

IV. Costs cannot be accurately measured and traced to the projects.

The cost allocation method could be criticized mainly for its lack of equitability, e.g. a particular project manager or donor may feel that they are charged for a service that was not used, or they may feel that the charge is too high for that particular service. If viewed purely from the point of actual consumption, it is difficult to justify whether the charge is too little, enough, or too much.

In regards to staff costs, in the absence of a time recording system, the line manager may be responsible for verifying how much time staff spent on the projects in order to arrive at a cost-sharing formula, which would then be applied for the duration of the project. However, if the staff does not spend the same amount of time on the projects each month, then the amount charged to the projects should also be different. However, this depends on whether the fluctuations are material and can be measured reliably. Unless the cost difference between the methods is significant, and the cost of managing a more complex system is justified, a one-formula method should be used for the period of the project or for the duration of the financial year.

The group of costs recovered using a cost-sharing formula should be easily distinguishable from a group of costs that is charged directly to the projects, so that the costs are not perceived as double-charged. This information could be made available

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and shared with projects to increase clarity and promote transparency.

The purpose of cost allocation is not to trace every dollar to actual consumption but to assign costs as fairly as possible, using systematic calculation in a consistent manner. One of the methods of indirect cost allocation is an indirect cost recovery system.

3.2 INDIRECT COST RECOVERY

Indirect costs are those incurred for common or joint objectives, which cannot be specifically identified with a project or service (IFRC). Indirect costs can be further distinguished between those that are fixed in nature and those that are variable. Indirect cost recovery is a method by which indirect costs are recovered from programmes or services.

Indirect cost charge is an amount or percentage that is applied on programme (restricted) expenditure in order to recover the indirect costs. Indirect cost charge should be calculated in a systematic way so that it represents a fair share for each project. Fair share is relative and highly depends on the National Society’s ability to assure fair share, and the partners’ acceptance of that fair share9. Below are suggested steps to implement an indirect cost recovery system:

I. Review – the National Society should gather and review the below information, in order to analyse the cost structure, and to make a financial projection (the list below is a guide):

• Financial statements (detailed income and expenditure statement) for the previous two or three years

• Management accounts – for additional details to be used along with financial statements

• Programme and organization budgets (restricted/unrestricted) for the most present year

• Organizational chart depicting minimum structure and the associated costs per year

• Income sources, levels and trends, and the extent it funds the organizational costs

The purpose of the review is to establish a trend that will help to make a financial projection for the following year(s). If primary data is not available, the required information may need to be extracted from a number of secondary sources. The amount of historical data required is dependent on the quality of the information. Sometimes, it might be necessary to go back four or five years in order to establish a trend that is not influenced by an exceptionally large ad hoc project. This would help to visualize the minimum structure and to avoid overestimating costs in the projection. All assumptions and limitations used in the projection should be documented and referenced, as this will guide future review and revision processes.

II. Calculate – the financial projection should be prepared for the following financial period based on the above analysis, adjusted for exceptional increase or decrease, in order to reflect the level of programme and structure in a normal given year, e.g. emergency projects that drive up costs in certain periods should be removed from the projection, unless the costs are expected

to incur for a number of following years. The financial projection should also include costs that are essential for an organization to run its business in a normal condition even if such costs are not presently incurred, provided they would likely incur in the following year e.g. an organization may not have adequate office space or staff at present, but it intends to expand its infrastructure and human resources in the following year, and the foreseen additional costs should be factored into the projection.

Based on a simple method (described in the next section), calculate the indirect cost ratio using available data, and test the rate for accuracy and reasonableness. A significantly lower or higher than market rate may suggest a calculation error. Although it is tempting to compare the rate to other National Societies, comparison with like-natured organizations in the country is essential, to reflect the operating environment and local market conditions. Sometimes, the rate imposes additional questions or informs a management decision to manage and control costs, and to right-size the organizational structure.

III. Prepare – the National Society should assess its financial systems, policies, and procedures, and make necessary modifications to ensure they support the new recovery system. This includes development of a costing policy and an indirect cost recovery procedure that is approved by its governing board or senior management. As needed, the financial software and processes

9. ‘Fair share’ concept is elaborated in Chapter 5

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should also include new accounting entries, codes, and templates to enable the National Society to effectively monitor and manage the recovery system. This may require additional customisation or minor tweaks to the financial software.

IV. Communicate – the National Society should communicate the costing policy and relevant information to the existing partners, both in-country and externally. This can be effectively done via partnership meeting platforms where there is room for dialogue. In lieu of a formal meeting, electronic circulation with room for feedback is a practical method. The effective date for the implementation should be mutually agreed to facilitate transition.

V. Amend – Upon mutual agreement, partners and the National Society should revise project agreements and budgets, to include the indirect costs share and to remove corresponding direct budget line items e.g. finance department cost will no longer be budgeted under project directly if the cost is recoverable through an indirect cost allocation rate. It might be challenging to incorporate the new system in an on-going project due to funding constraints and back donor restrictions. In such circumstances, the National Society may continue the project under the existing conditions and apply the new rate only to future projects with the same donor.

VI. Apply – With effect from the date of the policy and amended project agreement, the National Society should apply the indirect cost recovery rate consistently for all projects and partners

– whether Movement or external, domestic or international, emergency or development projects. This is an extremely important step to ensure the system is fair.

VII. Measure – A periodic review (annual or biannual) should be undertaken to measure the effectiveness of the system, and to manage significant under- or over-recoveries. This may not dictate an immediate adjustment but provides internal assurance that the full costs of programmes and services are being recovered. This process also provides assurance to stakeholders who might be concerned about recoverability (risk of deficit) and accountability (risk of excessive surplus).

Some partners may need to consult their headquarters and back donors before accepting a newly introduced indirect cost rate. In principle, the National Society is not seeking an approval, but merely informing the partners of its decision to introduce the indirect cost recovery system. It is done in a consultative manner because it changes existing agreements and practices.

3.3 CALCULATION METHOD

The foremost step in calculating indirect cost rate is to distinguish between direct costs and indirect costs. This may not be a straightforward exercise as organizations differ in their definition and classification of costs, and in the terminologies they use to communicate cost information – what is indirect to one organization may be direct to another; and within an organization, a cost may be indirect in one period and direct in another.

The financial statements and management accounts offer primary insight into the budget and cost structure of an organization. The type of financial information available and the ease of retrieval can make the calculation process either simple or tedious. Some information may need to be analysed and adjusted for accuracy before use.

The simple calculation method below is only one way of calculating the indirect cost recovery rate. It describes the underlying principles but does not indicate a fixed rule for calculation. The method can also be used to review a rate. The objective is to have a ratio of indirect costs over direct costs, based on the organization’s estimated budget or forecast for the following two to three years.

3.3.1 Calculation steps

I. Obtain the financial information listed in section 3.2. Financial statements, preferably audited, should be analysed alongside management accounts, to have a clear reflection of organization costs and programme expenditure. Some organizations may have this information in a consolidated format in the financial statements, whereas some may have bifurcated statements. Multi-year information would help to analyse trend, and to project realistic forecasts. The current period’s year-to-date financial statements would strengthen the analysis and forecasts.

Programme and organization budgets (restricted and unrestricted) for the subsequent years are useful, as the indirect cost rate would be applied prospectively. In the absence of such information

– e.g. due to budgeting cycle – the current year budget and performance, along with results

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from prior years’ trend analysis, may be used to estimate the following year’s budgets. It might be that the organization budget or unrestricted expenditure is wholly indirect but this is not always the case.

II. Analyse the financial information to estimate the subsequent year’s indirect and direct costs. Groups of costs such as personnel, vehicle, and general administration can guide the analysis in order to distinguish costs that are 100 per cent direct, those that are 100 per cent indirect and those that are combined. The combined category should be further analysed and split using accepted rules (and suitable cost drivers), in line with practice and formal policy. Example of group of costs and classification for a National Society:

Expenditure headers Direct Indirect

Red Cross and Red Crescent celebrations – 100%

Membership contributions – 100%

Operational support to chapters/branches 60% 40%

Staff remuneration 70% 30%

Travelling expenses 40% 60%

Vehicle expenses 90% 10%

General expenses 10% 90%

Repairs and maintenance 30% 70%

Capital expenditure 30% 70%

For some National Societies, personnel or office costs may form the bulk of indirect costs. Personnel costs would include salaries and other benefits such as bonus, social security, provident fund, medical insurance, training allowance etc. Recruitment costs and redundancy benefits should also be incorporated under this group, lest they are omitted and covered using National

Societies’ own resources. Example of staff remuneration breakdown for a National Society:

Basic salary

Project allowance

Service allowance

Lunch allowance

Holiday allowance

Health insurance

Social insurance

Unemployment insurance

Trade union fee

Overtime

Whereas staff salaries may be more easily classified as direct and indirect, it may not be easy to distinguish the various personnel benefits. For ease of calculation, ratios for salaries can be used to classify benefit costs, e.g. if 70 per cent of salaries are direct, then 70 per cent benefits can be assumed to be direct costs. This method should take into account the benefits that are different between permanent and temporary staff members. The organization chart would help to identify the number of personnel and their costs, whether related to programme, support services, management, or governance.

Certain costs such as office supplies, communication, electricity, generator, and water may be difficult to classify as direct and indirect unless tracked by users or departments. In this instance, the headcount could be used as a cost driver to apportion these associated costs e.g. if 60 per cent of human resources staff costs are direct, then 60 per cent of office and utilities costs can be assumed to be direct. The headcount information

also helps to allocate certain shared costs in a more systematic manner, e.g. a department with ten persons in an organization with 100 staff could absorb 10 per cent of shared office and utilities costs, where consumption cannot be tracked otherwise. This makes the costs more direct in nature as it can be measured and attributed to a cost centre. Inadvertently, this also reduces the number of items under the indirect cost category. An organization with a small group of indirect costs coupled with a large group of direct costs would be likely perceived as transparent and accountable.

Costs associated with office rental and maintenance should be treated as direct costs, where feasible. Where National Societies charge donors for use of office space, they should derive the rates from systematic calculation and they should fairly distribute them (reference to 6.1).

Once the main groups of costs have been classified, analyse remaining budget lines using the chart of accounts/trial balance/budget report and classify them accordingly.

III. Identify unallowable costs and remove them from the indirect cost category. Many institutional donors have a list of costs that are ineligible for reimbursement. National Societies should map this list and compare with internal policies to identify ineligible costs that should be covered using their own resources. This would also help the National Society to monitor and control unallowable expenses.

Often, unallowable costs would be those that are most remote from projects, provisional amounts

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(costs that do not have certainty of occurring), and items that are extraordinary in nature (those that would not occur in the normal course of activities). Unallowable costs also include those that are incurred due to an organization’s negligence e.g. penalties. The National Society should analyse if the unallowable cost is material and if they are related to all projects. This helps to decide if the cost should be included in the indirect cost calculation, charged directly to the concerned project or cost centre, or covered by the organization’s own resources. Some common unallowable costs include (the list is not exhaustive or conclusive):

P Bad debts or doubtful debts provision

P Donations or contributions to other organizations (including subcontracts)

P Financial support to branches

P Entertainment or representation costs

P Borrowing costs (loan interests)

P Financial charges (late payment and penalties)

P General fundraising costs (should be covered by funds raised)

P Lobbying cost (with Government or other regulators)

P Professional fees (accounting, legal and others)

P Valuation fees (for land and building)

P Statutory obligations (membership fees and statutory requirements)

P Non-cash costs and other provisions (audit fees, depreciation – note below)

Some of the above costs that initially appear unallowable can be treated as direct costs if they are linked to projects, such as representation, borrowing costs, financial charges or audit fees, e.g. forensic audit for suspicion of fraud is deemed extraordinary in nature and unallowable, but may be categorised as direct if it is commissioned by a donor.

Notes on assets and depreciation The value of assets and depreciation can have a big impact on project funds when they are material. Depreciation charged for assets should be included in project costing, if they had been purchased using the National Society’s internal funds and used for the project. If the assets are donated and the costs are fully charged to a project and not capitalised, then additional depreciation charge amounts to double funding. This should be considered before including depreciation (a non-cash item) in the indirect costs category for calculation.

Some National Societies consider depreciation as replacement funds. This is acceptable if the asset was capitalised or the National Society intends to replace the asset using its own funds. If assets are usually replaced using project funds, building a reserve for the same purpose may not appear appropriate. Replacement funds in the form of depreciation, if charged to projects, should be supported by an asset replacement plan and policy.

Depreciation policies between donors and fund recipients also differ. This is mainly due to accepted accounting standards. It is difficult for a National Society to depreciate each of its assets based on donors’ accounting standards. Where depreciation is used, it should follow the organization’s accounting standards. National Societies should have a policy on capital expenditure to determine when assets should be capitalised (recognized in balance sheet) and when they should be expensed (recognized in income and expenditure statement). This should be in line with the accepted accounting standards.

IV. Adjust the subsequent year’s forecast or estimate for known trends and other factors, such as growth in programme or organization structure, likelihood of emergency operations, changes in market forecasts and inflation. Currency fluctuations could be considered if they are significant based on past trends (only potential losses should be considered) but due to the inherent limitation to forecast this reliably, this factor is usually omitted.

The organization’s strategy and decisions may influence its estimates e.g. organization’s domestic income from a business activity may be steadily increasing but it may intend to sell that business and focus on intensifying community health work. Where forecasts of economic and market conditions are used, the period of validity should be stated.

V. Extend forecasts for at least three years. As a best practice, the indirect cost recovery rate should be applicable for a few years before revision

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(covered later in the document). This requires the rate to be practical for the few subsequent years. Some organizations have long-term plans and top-line budget information that can be used for estimating several prospective years. Otherwise, the one-year estimate prepared using historical data, trends, and strategy, can be extended for another two years with minor adjustments. Such adjustments should be as consistent as possible (e.g. 5 per cent increase per annum).

The budget information should be used for the analysis as it reflects which costs should have been direct and indirect under normal circumstances, irrespective of the source of funding at present. This enables a more realistic prediction of the coming years by adjusting for exceptional nature that affects cost classification.

Example: A vehicle was budgeted for 12 months under the health project. The activity requiring the vehicle was delayed, and the vehicle was only used for the last seven months and charged accordingly. The cost for the initial five months was charged to the general pool as per the organization’s policy (some organizations might require a different treatment where the health project must absorb the 12 months as budgeted despite actual consumption, because the organization is not prepared for the sudden change). At face value, actual income and expenditure would show seven months’ worth of direct costs and five months’ worth of indirect costs. The situation might change if another project needed the vehicle for that corresponding five months and the cost is then recognized as direct (assuming budget revisions are done).

The changes during the year are caused by many factors but since the (indirect cost) rate is meant to cover prospective years, changes are irrelevant unless they are permanent and affect subsequent years’ budgets. In short, costs should be classified as direct and indirect based on the financial information available, for a normal given year.

VI. Calculate a simple ratio – the result of total indirect costs divided by the total direct costs.

Example 1: A National Society expects to incur indirect costs of 28,000 US dollars per annum. It also expects to manage an average of five projects with the following estimated values:

Project Value (USD)

A 55,000

B 78,000

C 72,000

D 130,000

E 65,000

Total 400,000

Calculation: 28,000 US dollars ÷ 400,000 US dollars = 7 per cent. If the organization applies 7 per cent on programme expenditure, and the project budget is fully spent, 28,000 US dollars is recovered.

Project Value (USD) 7% charge

A 55,000 3,850

B 78,000 5,460

C 72,000 5,040

D 130,000 9,100

E 65,000 4,550

Total 400,000 28,000

There may be layers of indirect costs within the organization, e.g. If the fundraising department benefits the disaster response, health and youth programmes, and the fundraising department costs are meant to be covered by the other three programmes, each of the programme is not only paying the first level of indirect costs charged, but a share of indirect costs absorbed by the fundraising department.

Example 2: Disaster response project is 55,000 US dollars, fundraising department is 10,000 US dollars, and the indirect cost recovery rate is 7 per cent.

Project Value (USD)

Disaster response – direct costs 55,000

Add: Indirect costs (7%) 3,850

Add: Fundraising department costs * 3,567

Full costs 62,417

*10,000 + 7 per cent = 10,700, share for disaster response project is 10,700 ÷ 3 = 3,567

The disaster response project pays for 3,850 US dollar indirect costs, but also pays for 3,567 US dollars (its share of fundraising department costs, which carries an indirect cost of 700 US dollars, making the total indirect costs paid by the disaster response project 4,550 US dollars. To exempt the fundraising department from the first indirect cost charge altogether would be to understate the actual costs. This concept is similar to the indirect cost accumulation when funding flows through different layers of the organization when each applies an indirect cost charge.

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VII. Adjust ratio based on known trends and factors e.g. 80 per cent of direct costs should be used for the ratio if actual expenditure is usually 80 per cent of budget based on past trend. Indirect cost ratio can be calculated for various level of programme implementation (60 per cent, 70 per cent, 80 per cent, 90 per cent and 100 per cent) and an average rate, or one closest to reality, can be adopted.

Where the organization uses domestic income to cover a portion of its costs, the gap or unfunded indirect costs should be used to calculate ratio. This would mean that an organization that has a healthy unrestricted income is able to manipulate its rate to make it lower or more competitive. This highly depends on the National Society’s strategy and policy, on using unrestricted income, building reserves, and recovering costs. Full cost recovery principle requires actual (and not subsidised) share to be assigned to the cost centres.

National Societies that receive Government grants may be required to spend the funds on very specific budget lines. Such Government funding would usually not allow a fixed rate of indirect costs from the fund recipient. In this instance, it would be necessary to calculate the ratio on adjusted indirect costs so that the recovery rate is not overstated. Example:

Description Value (USD)

Total indirect costs 200,000

Less: Government’s contribution to indirect costs 20,000

Adjusted indirect costs A 180,000

Direct costs B 3,000,000

Indirect cost recovery rate (A/B) 6%

If the National Society has a financial information system that easily generates the above information, the calculation would be easier. However, it is not possible to fully automate the steps as many of them rely on the professional judgement of the team involved in calculation. Although the calculation is often done by finance personnel, inputs from senior management and programme managers are crucial.

The 8NS core cost model suggests a method of grouping costs to facilitate calculation. Costs are grouped as activity costs, personnel costs, current costs (branch structure and financial management), and governance costs. The groups are then mapped against broader classification such as project and non-project costs10.

3.4 COST BEHAVIOUR

Cost behaviour is the relationship between input and output and their relevant costs. If the level of activity increases, there will be an increase in indirect costs, although not proportionately. E.g. a National Society may maintain support services that costs 2,000 US dollars to support five projects worth 100,000 US dollars. The same support services structure may support up to eight projects worth 150,000 US dollars. When the number of projects reaches a certain threshold, – perhaps ten projects – the National Society may need more staff to cope with the workload. It may not translate into doubling the support services structure costing 4,000 US dollars but it may fall somewhere between 2,000 and 4,000 US dollars.

The behaviour is partly caused by fixed costs that do not vary with the level of activity. The anomaly is also caused by economies of scale where a National Society is able to meet the requirements of certain new

projects without incurring additional overheads, as consumption of support services between projects and activities vary. Although indirect costs are generally lower as a percentage to direct costs, this is usually the case for National Societies with sustained growth. For smaller National Societies or those in early stages of development, the indirect costs may be significant as they could be investing in capital assets or they may not have achieved economies of scale.

When the number of projects and their value decrease or increase significantly, the National Society may need to downsize or upsize the organization’s structure to match the demands. Often, the challenge is with downsizing, resulting in a bulk of costs that is not commensurate with projects and activity level. This makes it difficult to fund and there is a risk of recovering more than the fair share from projects. The below scenarios show how changes to one set of values influences the other. The examples are not comprehensive and for illustrative purposes only.

Scenario 1: Actual expenditure is lower than initial values

Project Value (USD) Actual expenditure

7% charge

A 55,000 50,000 3,500

B 78,000 65,000 4,550

C 72,000 70,000 4,900

D 130,000 124,000 8,680

E 65,000 55,000 3,850

Total 400,000 364,000 25,480

10. The model refers to non-project costs as ‘core costs’.

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Under recovery: Indirect costs – 7 per cent charge on actual expenditure = 28,000 – 25,480 = 2,520 US dollars. Since the rate is calculated using budget or income figures, when the actual expenditure is lower, this inevitably results in a shortfall. Similarly, a surplus can be expected if the actual expenditure exceeds budgets. The more realistic the budgets, the more accurate the indirect cost recovery.

Scenario 2: The number of project decreases.

Project Value (USD) Actual expenditure

7% charge 8.4% charge

A 55,000 50,000 3,500 4,200

B 78,000 65,000 4,550 5,460

C 72,000 70,000 4,900 5,880

D 130,000 124,000 8,680 10,416

E 65,000 55,000 3,850 3,850

Total 335,000 309,000 21,630 25,956

When project E is removed and the indirect cost rate is:

Not adjusted (7 per cent) Under recovery: 28,000 – 21,630 = 6,370 US dollars

Adjusted (Indirect cost rate: 28,000 ÷ 335,000 = 8.4 per cent) Under recovery: 28,000 – 25,956 = 2,044 US dollars

Although the under-recovery is lower in the latter case, the rate is higher and the share by project has increased. Note: under-recovery cannot be eliminated because the rate is calculated on the budget/income.

Scenario 3: The number of project increases.

Project Value (USD) Actual expenditure

7% charge 5.8% charge

A 55,000 50,000 3,500 2,900

B 78,000 65,000 4,550 3,770

C 72,000 70,000 4,900 4,060

D 130,000 124,000 8,680 7,192

E 65,000 55,000 3,850 3,190

F 80,000 77,000 5,390 4,466

Total 480,000 441,000 30,870 25,578

If project F is introduced and indirect cost rate is:

Not adjusted (7 per cent) Over-recovery: 30,870 – 28,000 = 2,870 US dollars

Adjusted Indirect cost rate: 28,000 ÷ 480,000 US dollars = 5.8 per cent Under-recovery: 28,000 – 25,578 = 2,422 US dollars

Although the 7 per cent rate protects against under-recovery, the rate and share by project is higher.

In the scenarios above, indirect costs remained at 28,000 US dollars. Changes to this amount would affect the recovery. Adjustment to the rate above was also based on project value not on actual expenditure. If rates were adjusted to actual expenditure, there will be no under- or over-recoveries. In practice, adjustments cannot be done each time a project is closed, and it is highly complex to manage a system that calculates a fluctuating rate based on actual expenditure, even if the highly unpredictable rate is acceptable to partners.

Actual expenditure that is different from budget, change in number of projects or donors, and change

in cumulative value of projects, will cause under- or over-recoveries, when the rate is constant and the indirect costs do not change proportionately with activity level. This provides a rule of thumb:

Indirect cost rate

Indirect costs by Project

Indirect cost by Donor

Number of Projects

Number of Donors

Value of Projects

Value of Actual Expenditure

Ratio for indirect cost should take into account historical data and trend analysis but should also factor cost behaviour illustrated above, to decide the most appropriate indirect cost recovery rate.

3.5 RATES

In order to recover indirect costs, organizations often apply rates on programme expenditure. The rates are calculated to represent a percentage of actual project value. There are different types of rates, and organizations differ in their preference, influenced by their required degree of accuracy, flexibility, and simplicity.

I. Single or multiple rates

Some organizations use a single rate system that is unconditional (e.g. a flat 5 per cent on all programme expenditure) whereas some use a multi-rate system that is tiered and often conditional (e.g. 3 per cent for programmes exceeding 1 million

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US dollars, 5 per cent for emergencies, and 10 per cent for long-term development programmes). The single rate is more rigid but easier to manage and, while the latter appeals to most stakeholders for the flexibility, the system itself may be difficult to manage.

A. Single rate system Fixed or flat rate is preferred by some organizations because it is simpler to use. The rate is consistent and predictable, and this helps in budgeting and planning. Managing a single rate is undoubtedly easier, but determining a single rate is a challenge as it relies on the National Society to accurately forecast its indirect costs for one to three years. Even an organization with sophisticated systems may only achieve this with reasonable accuracy.

B. Multi-rate system The use of tiered or sliding rates is liked by many National Societies since this offers the flexibility to charge different rates, depending on the size and nature of projects. This is also popular among partners, as it suggests a way to mitigate the risk of over-recovery that occurs when a high rate is applied on a large project. The flexibility comes with some challenges:

Subjectivity The multi-rate system offers flexibility for a National Society to negotiate with partners to agree different rates, but it creates a platform for negotiations that may bring forward an unfavourable arrangement. By having a set of rates to choose from, although each rate is

specified to type or volume of programme, the National Society may be compelled to agree on donor-driven or funding-biased rates as compared to nature-driven rates.

Complexity Managing a multi-rate system can be very complex. The system has to be designed in such a detailed manner to ensure that the different rates applied on the different volume of projects – given the uncertainty of the rate of actual expenditure, future budget, and income levels – will contribute a fair yet adequate share towards recovering the indirect costs. Often, the systems are not designed to this extent, and this turns the perceived benefit of risk mitigation into a false promise.

A National Society that uses up to four rates cannot guarantee that all partners will pay the rates. Often, sliding rates encourages partners to negotiate for rates in between the established percentages. In the end, the indirect costs may not be fully recovered and it would leave the National Society with an insurmountable task to monitor, account, and report to stakeholders.

II. Predetermined or provisional rates

Some prefer to use predetermined rates that are reviewed and adjusted once every few years whereas others prefer provisional rates, which are adjusted for actuals at the end of the reporting period based on audited financial statements. The latter increases accuracy but it is more complex.

A. Predetermined rate A predetermined rate allows the organization some leniency in managing the recoveries in that they do not have to audit the rate and make adjustments on an annual basis. It is simpler to use but requires an organization to forecast its direct and indirect costs for the next two to three years as accurately as possible. If the indirect cost is underestimated or the direct cost is overestimated, the National Society will recover less than needed, creating a shortfall. And if the indirect costs are overestimated and direct costs are underestimated, this will result in a windfall. A predetermined rate does not waive the need for audit, but it allows time for review and revision.

B. Provisional rates Some organizations may choose to charge provisional rates instead of rates that have been systematically calculated. In this instance, there are more steps involved. The National Society should:

I. Select the rate based on market or industry practice

II. Maintain healthy cash flow to meet actual costs, if they are higher than expected

III. Have the books of accounts audited at financial year-end to determine the actual rate

IV. Adjust the liability of each partner, either up or down

V. Inform partners of the new rate before implementation

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24 > METHODOLOGY

This would mean the rates would change annually. This method is more complex as it renders the rates unpredictable, reflects inconsistent application, and assumes that partners are able to accommodate the differences at year-end or subsequent year. A provisional rate does not avoid under- or over-recoveries but only helps to manage them on an annual basis.

Using recovery rates would inevitably result in under- or over-recoveries, which must be treated across all donors in a fair and consistent manner. In the short term, where volume of projects are significantly different from those anticipated (used in forecasting), it may appear that the donors are not charged a fair share for the services they receive. However, when viewed over a number of years, with periodic review and adjustment, the use of rates appear most practical. There are many reasons why under- or over-recoveries occur, and this is covered in the next section.

The type of rate is influenced by the degree of accuracy, flexibility and simplicity required by the National Society and its partners. The diagram below shows how rates affect simplicity and accuracy.

Single rate Combination Multi rate

Predetermined rate Provisional rate

Simple Flexible Accurate

It is impossible to achieve high levels of accuracy, flexibility, and simplicity at the same time. Accuracy usually takes priority, although a highly accurate system may not be the easiest to understand or the most practical to use. Simplicity deserves equal

priority, although it is not good business management to choose a system purely because it is simple to manage. Flexibility should be strongly considered, but never at the expense of accuracy and simplicity. A highly flexible system may be easier to apply but it would compromise effectiveness.

If an organization chooses an ambitious model that is based on needs but is beyond its ability to manage, the system will suffer over time, losing effectiveness and causing frustration to internal and external stakeholders. For this reason, although it is ideal to have a highly accurate system, National Societies should always start with the simplest system first. Once they are able to manage the system effectively over a period of time, the National Society can then progress to a system that is more complex and more accurate, if that is warranted.

“It is impossible to achieve high levels of accuracy, flexibility, and

simplicity at the same time.”

Limitation with rates

When using an arbitrary rate, indirect costs are recovered using a pre-determined rate, derived based on a budget and not on actual consumption of services. Therefore, if the organization’s budget was understated or the programme budget was overstated, the indirect costs would be under-recovered. As much as it is important not to understate budgets, it is equally important not to purposely overstate budgets. Since it is impossible to eliminate variances between budgets and actual expenditure, and material variance would affect recovery, it is necessary to have a system to manage the contingency. National Societies that undertake indirect cost recovery should outline in its procedure the approaches for treating under- or over-recoveries.

Reasonable and unique

Comparing rates between organizations could provide valuable information, but it should not unduly influence the rate of an organization, as each entity has a unique budget architecture and cost structure. In addition to comparing rates within the Red Cross and Red Crescent Movement, a National Society would benefit comparing its rate with similar organizations within the country and region, to appreciate the market condition, and to ensure the rates are reasonable.

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4.1 UNDER- OR OVER-RECOVERY

Under- or over-recovery is inherent in any cost recovery system due to the various factors that drive costs. This is based on the notion that actual expenditure would almost always be different from budgets, causing the indirect cost recovery that is based on programme expenditure to fluctuate between years and within a year. The unpredictability of emergency operations and its volume and value further suggests that recoveries may significantly exceed estimates used in the calculation exercises. Inconsistent application of indirect cost charge, non-systematic calculation of rates, or improper management of the cost recovery systems further limits organizations from being able to fully recover their indirect costs.

When there is an under-recovery, National Societies are often positioned to absorb them using their own reserves, or to seek partners to share the deficits. When there is over-recovery and this is perceived as significant, there is usually a concern on the part of donors, and pressure on the part of National Societies, on how these over-recoveries will be managed and treated.

In the event of over-recovery, National Societies have been known to:

I. Return surplus to donors The National Society could provide a rebate, either as a lump sum in the following financial

year or as an adjustment to the percentage in the same year. A mid-year review will help to foresee the potential surplus and to reduce the percentage for the remaining months.

II. Carry over surplus to reserves This is dependent on the costing policy, which provides the treatment, stating the allowable amount or level as agreed by the partners. This influences the restriction of that reserve.

In the event of under-recovery, National Societies have been known to:

I. Request additional funding from donors This is often a difficult exercise as the budgets and funds available may not permit any additional charge. This may be overcome by conducting a mid-year review and by giving the projects and corresponding donors advance notice of the potential shortfall, allowing time to revise budgets or to set aside funds before the end of the financial year. However, there is no certainty that the donors or the projects will be able to absorb the unplanned charge. The additional charge, although a commonly used option, may rely heavily on negotiation with donors. The donors’ willingness to pay may depend on the materiality of the amount as a percentage of the donor’s contribution.

II. Allocate indirect costs as direct costs Allocating indirect costs as direct costs into

programmes is, in principle, not appropriate. Even if it were with the donor’s consent, capturing indirect costs as direct programme costs (e.g. allocating the full costs of staff into programmes where they have spent less than half their time) would present inaccurate financial information. Wider users of financial reports would be misled in their understanding and in using financial information for comparability purposes. If done without the donor’s knowledge, this raises ethical concerns and may lead to losing donor confidence or trust. Sometimes, incorrect allocation is unintended as indirect costs are camouflaged as direct costs and vice versa.

III. Freeze staff employment and remuneration until funding is available Absorbing staff as ‘volunteers’ is an organization’s internal decision but, in doing so, the full cost of a programme is then understated. The organization may also place itself at risk for not meeting national regulations or employment law. This creates a false impression that the National Society is able to continue its existence and activities without risking bankruptcy, when in reality there are “going concern”11 issues.

4 APPROACHES

11. The going concern assumption is a fundamental principle in the preparation of financial statements. Under the assumption, an entity is viewed as continuing in business for the foreseeable future with neither the intention nor the necessity of liquidation, ceasing operation or seeking protection from creditors.

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IV. Cover using own funds or reserves A National Society may at times use its own funds to cover all or part of the shortfall. This is heavily dependent on the amount involved, the unrestricted funds available, and the National Society’s ability to use the funds for this purpose (a governance decision). This is not a popular option as it diminishes the organization’s resources, and therefore should remain an exceptional measure. However, applied under a policy that allows the reverse (surplus added to reserves), this method is part of the recommended approach.

Recommended approach

The best method for treating under- or over-recoveries is to allow time to balance them out: a surplus or deficit should be carried forward to offset against future years’ under- or over-recovery. The outcome viewed over time (e.g. five years) will show that the under- and over-recoveries usually equal out (this excludes significant under- or over-recoveries that are not anticipated). The challenge with this approach is the partners’ patience, as not all donors will be partnering with a National Society for long durations to see the result. This drives the next important consideration – materiality.

If under- or over-recoveries are significant, they should be managed differently and the special treatment should be provided for in the procedure e.g. standard treatment may be to absorb deficits whereas special treatment may include review and adjustment of the rate. “Significant” is relative and should be decided and formally disclosed in the costing policy. It usually corresponds to a percentage

in comparison with total indirect cost budget, the answer to the question “what is the acceptable over-coverage of the indirect cost budget?”

Capping is usually suggested as one method to control significant over-recoveries but it is important to establish how it would be done. Waiver introduces a risk as it limits an organization’s ability to use surpluses to offset against future deficit, whereas designating excess as reserves offers the National Society an option to use the surpluses either for the project that necessitated the over-recovery or for other programmes or services as decided by the governing board, based on applicable reserves policy and funding strategy. The capping, used with a single rate system, substitutes one of the main benefits of using a multi-rate system where a lower rate is applied for emergency operations that exceed a certain threshold, to avoid generating excess recoveries.

A significant under-recovery is an alarm for the National Society to analyse the causes and ensure corrective measures are taken to avoid its recurrence. The information may also prove valuable for the National Society to better understand its costs and its approach to costs. If there is a serious under-recovery due to use of inappropriate rate, the National Society should take all possible measures to rectify the situation to avoid substantial losses over the years. This includes reviewing and adjusting the rate on an ad hoc basis instead of waiting for a scheduled review. Such adjustment should be kept infrequent, lest it reflects inconsistency and donors would have doubts on the rates altogether. If the significant under-recovery is caused by lower programme

expenditure compared to budgets, this may lead to query on programme implementation to understand and address challenges that cause delays.

Some National Societies react to under-recovery by restructuring or by reducing their number of staff. This can either be positive or negative. It would be positive if the exercise is not an ad hoc, random dismissal of staff but rather a careful human resources restructuring that results in the right-sizing of the organization. This is usually necessary when the material under-recovery is caused by a large structure and where the indirect cost is not commensurate with programme needs. When a large-scale project ends (e.g. after an emergency operation), the amount of resources needed by the National Society – such as staffing and vehicles – should be reduced accordingly. The expansion of a National Society’s structure in the event of an emergency operation is usually rapid, but the reverse is usually progressive and sometimes delayed. This causes high indirect costs that are not relevant to actual programme needs. If the exit plan of the large programme does not include a reduction in structure or if this is not implemented, it would likely be reflected in an under-recovery in the medium to long term.

Changing the structure would be a negative thing if the organization has to resort to downsizing an already right-sized structure, which would result in reduced resources and eventually reduced capacity.

Risk with over-recovery

Sometimes, over-recovery may be used by the organization to spend legitimate budget lines that would otherwise not be possible due to lack

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of funding. This is a creative method to grow the expenditure into the rate, to avoid having to revise the rate downwards. Spending within budget is allowed but when surplus is used significantly at the end of the financial year, it may raise questions. This includes capital expenditure, especially when incurred at the end of the project period or financial year. It is difficult to directly deny or accept such legitimate expenditure.

The National Society has a responsibility to demonstrate that it has spent unrestricted budgets based on its strategy and not purely to keep the rate (e.g. budget revision at the end of the financial year and sudden acquisition of assets to use surpluses in order to keep the rate). Partners usually speculate that such spending at year-end is falsely motivated, but they should also be reasonable to allow National Societies to manage their own rates and recoveries. The surplus available for expenditure based on normal growth of an organization is also referred to as “the conversation area”12. This is to emphasize the importance of communication between fund recipient and donor on how the surplus will be spent, before they are incurred, and formalise the treatment of over-recoveries, all through a documented costing policy.

Consistency

The National Society should remain consistent in its approach regarding under- or over-recoveries. If the National Society charges the partners for a shortfall, it should also return an excess to the partners. There should be only one approach at any given time to ensure that all projects receive the same and fair treatment and this should be

clearly stated in the cost recovery policy and procedure documents. Changing the approach should be done only when the present approach has failed to provide a satisfactory result to the National Society and its partners. Change should be infrequent as it interrupts prior year treatments and impairs future comparison.

“The method chosen is not more important than using the method of choice in a consistent manner.”

Under- or over-recoveries are inevitable and measures should be in place to treat them in the most equitable and consistent manner possible. Realignment or reclassification of costs at regular intervals helps to ensure direct costs and indirect costs are categorised correctly, which leads to better cost recovery and helps to control under-or over-recoveries. The method chosen is not more important than using the method of choice in a consistent manner.

4.2 EXCEPTIONS

Some partners have policies for paying indirect cost to fund recipients. This specifies the conditions for payment and the limits on the amounts. Some partners have overhead caps, where they set a standard rate irrespective of the actual needs of the different fund recipients. This may address the issue temporarily for fund recipients who do not have proper recovery systems but, in the long term, it contributes negatively towards the recipient’s ability to fully cover indirect costs. In some cases, partners are paying a pre-determined rate due to back donor’s strict requirements.

Another scenario is when a National Society is receiving a Government grant that disallows indirect costs. As a humanitarian organization with a specific mandate, the National Society may not be able to refuse such grants or projects for exclusion of indirect costs. But the National Society has a responsibility to persuade the Government and its partners of the necessity and the normality of indirect cost recovery. They should be able to explain the importance of the cost recovery system, its relevance to the funding of the entire organization, and the financial risks involved with making exceptions to it.

Partners should also do their part by reviewing their policies and advocating to their back donors as needed. Some partners may be passive in their advocacy because they do not have confidence in an operating National Society’s cost recovery system, but they can be motivated by satisfactory information on the use of recovery income. In cases where a partner is unable to pay due to unavoidable limitations, the National Society may calculate the amount and include them directly in the project budget, where this is allowed. However, this should remain an exception and the number of such exceptions should be limited. The problem with flexibility is that it weakens the entire system and may encourage other partners to follow suit, even when they are not subjected to the same restrictions.

In order to remain consistent and to reflect the equity of its indirect cost system, the National Society should not waive the rates under any

12. Core Costs and NGO Sustainability 2001, Pact Inc.

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circumstances. In order to protect the integrity of the system, the National Society should cap its recovery of indirect costs as recommended in the earlier chapter. This becomes important when the number of projects increases significantly, as in the case of emergency operations.

Some National Societies feel that under specific circumstances, such as the humanitarian imperative argument, there should be exceptions or exemptions. This includes the obligation of the National Society to provide humanitarian assistance when it is needed. At the moment of a national calamity and during an intensive emergency relief operation where resources are greatly needed, the National Society may not be in a position to reject funds purely for the reason that it does contribute towards indirect costs. If such exemptions are warranted, they should be included in the costing policy that is approved by the governing board. This would ensure that such exceptions are granted only in those conditions and there would be no room for misuse. This would also encourage programme and management to actively negotiate with potential partners and not easily use exceptions in order to secure funds.

Some organizations in the private sector sometimes choose to accept a contract that makes no profit or even loses some money if it will position the company to attract more profitable businesses, viewing this as an investment, as long as the shortfall is covered by other profits. Similarly, a National Society may choose to accept a certain grant that provides additional value even if it does not cover the fair share of indirect costs, provided the share is covered by the National Society’s own funds and is not subsidized by other donors.

“When the National Society is unwilling to say no, the partners

will be less likely to say yes.”

Some National Societies are not able to turn down offers from donors who are not willing to pay the indirect cost rate. Where there is room for negotiation and undue flexibility in the application of indirect cost rates, it would be almost impossible to achieve an effective recovery system. Sometimes, the National Society may need to reject funds in order to justify its recovery system. In the short term, this is a loss of income and – more importantly – a loss of opportunity to assist vulnerable people. However, in the longer term, the National Societies will earn respect and confidence amongst partners, and may be able to reap the benefits of not compromising. When the National Society is unwilling to say no, the partners will be less likely to say yes.

4.3 OTHER CONSIDERATIONS

There are several other considerations where a National Society may be under pressure to provide exceptions or waiver. These do not necessitate exceptions but it is important to understand them so that the National Society can explain its system and yet remain fair, transparent, and consistent in its approach.

High value, low volume In calculating indirect cost rate, considerations should be made for projects with high value procurement, including but not restricted to capital expenditure e.g. a capital asset purchase may cost the same as a relief distribution activity.

The amount of work involved and the extent they draw on the organization’s general resources may vary significantly. Such expenditure may be exceptional and may not be expected to be repeated in the coming years, and therefore should be adjusted for when calculating forecasts for subsequent years.

Some National Societies use a multi-rate system to address the irregular consumption, in which they charge a lower indirect cost rate on emergency projects or capacity building funds. Some partners require that such “high value, low volume” items are adjusted for when calculating and assigning indirect costs. It may not be practical or cost efficient to make adjustments on an item-by-item basis or by exempting application on procurements exceeding a certain value.

Capacity development This may be for a specific capacity development project where partners may not wish to pay indirect cost charge, e.g. funds for construction of a new building. This could be seen as a strategic funding and contributes to the National Society’s overall growth and development, and it may appear unfair to charge the partner further for indirect costs of the organization. If the funding is substantial and specific to a development project, the National Society may consider making an exception. They should then exclude the specific project’s budget when indirect cost rates are calculated, so that it is consistent with the indirect cost rate application. Often, the rate is calculated based on all projects (without making adjustments) but it is not applied consistently for all projects.

28 > APPROACHES

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Partnership Under a partnership, it is common that each fund recipient receive the same share of indirect costs irrespective of their actual costs. In this instance, where the partnership is entered into for strategic or humanitarian reasons, the National Society – as one of many partners in a consortium – may not be able to apply its indirect cost rate. If the National Society’s rate is lower than what is given under the partnership, this comes as a windfall. Otherwise, the National Society needs to cover the gap using its own resources.

Sub-grants Some partners may provide sub-grants aside from the main grant, and expect a lower indirect cost charge for the additional funding. The assumption is that sub-grants consume fewer resources to administer, but this is not always the case. If an exception is allowed, a National Society may become heavy on sub grants and end up struggling to meet its indirect costs. As a general practice, the National Society should maintain the rate in order to ensure fair treatment for all.

Earmarking and reporting Some funds may be earmarked for a particular activity, which requires the National Society to monitor its usage in detail. Some funds may require many reports, or reports using donors’ formats. These funds require additional resources to administer compared to those that are un-earmarked and with flexible reporting requirements. It may not be fair to charge the same amount of indirect costs to both types of donors. Instead of using two tiered rates,

the National Society can resort to charging earmarking or reporting fees in order to cover the additional costs incurred to carry out the extra work, and to reward the donors who have fewer conditions. This approach is suitable if the funds are a good mixture between unrestricted and restricted income, e.g. if only 10 per cent of donor funds are un-earmarked and with flexible reporting requirements, it would not be practical to charge additional fees, on top of indirect cost rate, to the remaining 90 per cent of donors. The rate should already capture the full costs.

Existing project agreements When policies and procedures are introduced or revised, there will be a timing difference in regards to existing projects with established memorandum of understanding and cost-sharing formulae. Unless revisions can be made, these projects should be exempted from the changes until they are due for extension.

In-kind goods and services Some National Societies may charge a lower indirect cost rate or exempt the indirect cost charge when it comes to in-kind contribution. This could be based on a notion that mobilizing in-kind goods consumes fewer resources, or it could be to meet the expectation of the partners.

National Societies should analyse the situation to ascertain whether using in-kind contributions involves less work and therefore consumes fewer resources compared to cash contribution. This may not always be the case. When a donor transports goods, a National Society often has to spend resources to manage the goods, from

clearing of customs, transportation, warehousing, distribution and monitoring up to reporting. Some donors may be willing to pay for transport and indirect costs whereas others may not.

The volume of in-kind goods would have an implication on the National Society’s resources. Similarly, the value of in-kind goods would have implications for the donors’ willingness to pay for additional costs. Instead of making exceptions, the National Society should cap its indirect costs recovery in order to limit the amount recovered, so that it still represents a fair share.

In FAO’s 2011 support cost policy13, rates were allowed to be adjusted and in some cases exempted for financial support given to recipients for travel assistance, sponsorship, infrastructure improvements, and long term trust funds. Rates were also subjective when activities are jointly funded or where a partnership agreement is present with its distinctive memorandum of understanding and cost sharing formulae.

Exceptions and exemptions are not altogether adverse, but the conditions in which they are granted should be warranted, minimal, and strictly controlled. Where they are allowed, they should not affect the fair share of other partners. Any shortfall should be absorbed using the National Society’s own funds – as it is now the substitute donor – and not unfairly transferred to other partners.

13. Food and Agriculture Organisation of the United Nations, Measures to improve implementation of organization’s support cost policy 2011

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5.1 FAIR SHARE

All partners would expect to pay only the share relevant to their projects. When they feel that they are paying too much, this creates reluctance or unwillingness to pay. National Societies who operate indirect cost recovery systems have a responsibility to assure partners that they are not paying more than their fair share.

Indirect costs should not only be charged to externally funded projects but also internal ones e.g. a fundraising department and a blood services programme are activities funded by the National Society but they consume the organization’s resources and therefore should absorb a fair share of the indirect costs. In this context, the unrestricted funds of the National Society can be seen as one donor.

Example: Indirect costs: 20,000 US dollars (excludes all costs related to the below projects and departments)

Project/Department Value (USD) % of total programme value

Disaster response 55,000 21%

Health and care 78,000 29%

Youth 72,000 27%

Fundraising 20,000 8%

Blood services 40,000 15%

Total 265,000 100%

Calculation: 20,000 ÷ 265,000 = 7.5 per cent

The argument carries that the disaster management project, which makes up 21 per cent of total programme value, should also absorb 21 per cent of indirect costs. This would be 4,200 US dollars (20,000 x 21 per cent), which is equivalent to 55,000 US dollars x 7.5 per cent. This generally represents fair share.

In reality, the indirect cost rate is calculated based on estimated values for the next two to three years and not based on actual expenditure in the past. Change in the number and value of projects, which cannot be anticipated at the point of calculation, affects the fair share. Therefore, the accuracy of fair share is limited and dependent on difference between actual and expected results. Apart from the inherent limitation, there are many practical ways the National Society can ensure that the partners are only paying their fair share e.g. Indirect cost recovery system relies on an effective vehicle management system.

Certain National Societies use a pool system that allocates vehicles’ running costs to projects based on actual usage. If such system is employed, it should be consistent and should include all relevant costs such as fuel, maintenance, repairs, and insurance. This is to discourage charging certain administrative costs to the root project (which

funded the vehicle purchase in the first place) despite the actual usage. A vehicle replacement/disposal plan would also ensure that the National Society is not paying excessive repair costs.

Example: A Toyota Hilux was purchased under Project A, which is related to the disaster management programme. At the end of the project time frame, the vehicle was returned to the pool system. Depending on the vehicle management system, all running should be charged to the pool system and distributed (e.g. monthly) to the projects based on actual usage, or all running costs should be charged directly to the requesting projects. The former is easier for a pool system as the calculation can be done using logbooks.

It is important that the charge is uplifted to include the maintenance, repair and insurance costs. Otherwise, the costs might be incorrectly directed towards Project A, which is no longer active, or to Project B because that is now running under the disaster management programme.

Project C may have funded a new vehicle purchase but – according to a new vehicle management policy – all vehicles will be managed under a pool system. Although the running, maintenance, and repair costs of a new vehicle are usually lower than those of an older

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vehicle, the average will be higher if the National Society maintains and uses old vehicles that are not in good running order, or those that have exceeded the normal lifespan.

5.2 DONOR CROSS-SUBSIDIZATION

Donor cross-subsidization occurs when not all donors are paying their fair share, and where some donors are subjected to a higher or lower share than other donors.

Once a rate is determined and published, it should be applied consistently. Lower rates should not be agreed with partners to accommodate their requirements, and exemptions should not be offered for the sole reason of securing the funds. Failing to do this would result in an under-recovery and causes the difference to be covered or subsidised by another donor or the National Society’s internal funds.

When donor cross-subsidization happens or is suspected to happen, the system is no longer seen as fair and loses its credibility. Partners who are affected or not benefitting from the act will soon lose their confidence in such a system, and may demand for the negotiation and application of rates lower than those published. After the development of a costing policy and indirect cost recovery system, the National Society faces the enormous task of communicating the new system to its partners. The confidence that the National Society exudes will influence the likelihood of acceptance. Although recovery systems are not open to negotiation, partners’ willingness to pay constitutes an irreplaceable condition. Clear and consistent communication by the National Society affects this willingness.

In most cases, a National Society is modifying its cost recovery methods after designing a new system. This requires changes in programme budgets that affect the donors. Although the system is expected to be cost-neutral, elaborated later under 5.6, this may not be the case if there had been donor cross-subsidization in the past. An analysis of individual projects by donors would help reflect the changes from the old system to the new system, and to identify the inequalities – which projects are subsidizing others, and which projects are being subsidized.

In theory, partners should be more pleased that the new system is more fair and transparent, although slightly more expensive. The concerns may come from those who are presently benefitting significantly by not paying their share of indirect costs, where the new system would mean a large increase in total project costs. The donor analysis by projects would help to communicate cross-subsidization to partners, and assure that the new system, despite the cost implication, promises to enhance understanding, and bring forth clarity and equity.

Sometimes, a donor may be willing to cover more than their fair share. This is usually welcomed, as unrestricted income helps the National Society to pay for items that lack funding, mostly under the unrestricted budget. National Societies should restrict the usage for those purposes and not to subsidise other donors. If the additional unrestricted funding is used as a subsidy, the National Society is under-recovering from the other partners and not presenting to them the full cost of the project.

5.3 VALUE FOR MONEY

Apart from ensuring the cost recovery system is equitable, the other challenge is to ensure that the indirect costs represent value for money.

“Value for money can be simply defined as the optimal use of resources to achieve outcome”14.

The value for money concept is often explained as:

• Economic – resource is employed at the correct and competitive price

• Effective – resource is used to achieve the desired outcome

• Efficient – resource is maximized to achieve desired or better outcome

The underlying principle is to make every dollar count and to create maximum benefit. Partners may be more willing to pay for indirect costs when they feel there is a benefit.

Value for money is not about keeping costs cheap but rather ensuring the cost is commensurate with the quality of the output. When partners pay indirect costs rate, their expectation is increased as they expect value for money. They are indirectly paying for the organization’s structure and support services such as administration, finance, and human resources that are related to the project. The National Society has an obligation to provide the value that is commensurate with the level of investment in the organization. If a

14. UK National audit office defines value for money as being “the optimal use of resources to achieve intended outcomes”, as mentioned in DfID’s Approach to Value for Money dated July 2011

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National Society’s structure is not seen as lean and commensurate with programme size, the partners may prefer to only pay for direct costs that they can understand and relate to the projects.

Sometimes, partners may operate in a parallel manner due a lack of capacity on the fund recipient’s part. In some cases, the partners may carry out many functions that are traditionally assumed by the fund recipient, such as procurement, suppliers’ payments, monitoring, and reporting for the projects to ensure their timely implementation and reporting. This may lead to partners’ reluctance to pay for indirect costs since they do not recognize benefit from the organization structure or value for money. This could be exacerbated if the fund recipient insists that all funds are channelled through its system, even though its capacity is limited, in order to avail from the indirect cost rate. This would jeopardize the project and adversely affect its implementation and reporting.

Failure to fully recover costs of programmes and services may threaten the value for money in both short and long term. In the short term, quality and effectiveness of service may be reduced if the National Society is underfunded or heavily reliant on its own resources e.g. the National Society is not able to hire competent staff, or to invest in the necessary hardware and software needed for information systems. In the long term, funding may be reduced due to low quality of services and this would diminish reserves, risking discontinuity of programmes.

5.4 COMPETITIVE EDGE

Since different National Societies will have different indirect cost rates, partners have the option of choosing to work with one that charges a lower rate. However, partners should be aware that a lower indirect cost charge does not translate into low indirect costs, as each National Society has its unique cost structure and funding strategies. But it does mean that the partner will be paying less when the rate is lower, provided the rate is reasonable and there would not be any surprise charges due to understatement and under-recoveries.

A higher rate may mean that the organization has invested in a structure that is necessary for successful implementation of the projects, or that it has a larger structure than is necessary. A lower rate may indicate that the National Society operates in an efficient manner, or that it lacks capacity as a result of not having invested in a necessary structure. Direct programme costs usually appear more attractive than organizational costs because partners are able to see a more direct link between the funding and the result, and are able to report this to their stakeholders. Partners should understand the importance of indirect costs and their crucial link to successful project implementation or service delivery.

A National Society is sometimes challenged to keep the indirect costs as low as possible to remain competitive. One of the strategies to finance indirect costs is to keep the costs to an appropriate, irreducible minimum without compromising project or service delivery. Inadvertently, low indirect costs translate to a low indirect cost

charge and this increases the likelihood of partners actually paying them, which contributes towards the National Society fully covering its indirect costs. Where the indirect cost is not low, the National Society may strive to compensate for a larger structure by increasing the quality in its programme and service. This suggests that the higher indirect cost may be needed to maintain the capacity to manage projects. This obligates more accountability for project delivery and reporting.

Since indirect cost rates do not give a complete picture of an organization’s costs or its capacity, National Societies should not use lower rates purely to attract donors, if it is not formulated to recover all of its actual indirect costs. Similarly, partners should not base their funding decisions on the indirect cost rates, and should not place unreasonable pressure on the National Society to reduce its rates, as this may only lead to less transparency. Rates are incomparable across National Societies because of differences in:

I. Calculation and application method Two organizations may have the same rate but would have calculated them differently e.g. one may have included in-kind expenditure, and the other may have omitted it. Two organizations may have the same rate but may be applying it differently e.g. one may apply the rate for field office costs only, and the other for overall programme costs.

II. Income value and use Due to value of projects and its expenditure, rates used do not represent recovery income generated e.g. two organizations may generate

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different recoveries despite using the same rate. Recovery income generated from using the same rate may be used for different purposes e.g. one organization may use recovery income to pay for indirect costs, whereas another may set aside some for reinvestment or reserves.

“A percentage rate does not provide a true picture of indirect support costs because the charge is a product of an organisation’s cost structure and factors such as levels of core or unrestricted funding. The rate is not an indication of an organisation’s performance on delivery or its cost-effectiveness. Donor pressure to reduce the rate does not necessarily cause an organization to lower its cost. Instead, it will look for other ways to cover the existing level of costs, which may lead to less transparency. In the past, organisations have lowered their rate by changing the ways in which they calculate the rate or by classifying their costs but they have not reduced income from the indirect support charge rate”15.

5.5 MULTI-LAYER FUNDING

When funds flow through a few layers of an organization, there are implications for the indirect cost charge. In a 2008 study on indirect support costs under the Good Humanitarian Donorship initiative, the Development Initiatives (DI) compared examples from various organizations that received funding from the United Nations, and found that funding flowing through many layers of an organization does not necessarily translate into higher cumulated indirect cost. This is because not all organizations across the layers charge an indirect cost, lowering the cumulative indirect costs to about 10 per cent of total funding. In the final report, DI

recommends that donors, if they wish, could trace indirect costs paid through the layers to examine the impact on their income, as this would track the

“humanitarian dollar from donor to beneficiary”16.

The above-mentioned study does imply that if each organization adopted full cost recovery across its layers and charged appropriate indirect costs, the cumulated indirect costs would appear substantial, thus reducing funds available for direct programme expenses. Indirect costs are inevitable and necessary for any organization to function, and it is not fair to disregard such costs purely to ensure funds are maximized for beneficiaries. Inadvertently, it is also unfair when a substantial portion of funds is absorbed for running costs, and only a meagre portion reaches the beneficiaries. This will adversely affect donors’ motivation in the long term and it may lead them to prefer supporting organizations that are not expensive, even if the actual running cost is understated. Donors and National Societies should explore ways to minimise the number of layers and to keep the indirect costs to a minimum, but they should not avoid them altogether.

Many organizations group all indirect costs incurred across the layers – including their own – and report to their back donors. This amount will almost always be restricted. Some organizations share the indirect costs funding with their fund recipients whereas some do not. Where they are not able to pay the indirect cost rate, some partners make up for the difference by paying the National Society separately or giving them a grant for other development or infrastructure activities.

Example: A back donor allows a maximum of 7 per cent indirect costs. Main partner takes 4 per cent and gives the remaining 3 per cent to final recipient. The recipient, say a National Society, manages its indirect cost, HQ and implementing branches within the available 3 per cent. The National Society includes as many costs as possible into direct budget lines. However, it may not be able to recover the fair share of indirect costs, and the situation becomes difficult if the share of 3 per cent is further reduced or is not available.

It is important to note that operating National Societies implement most of their programmes through the branches and often have to pay for some indirect costs of those branches. These are usually treated as direct costs when they are reported to the partner, as the costs are necessary for the project implementation and would not be incurred otherwise. Similarly, partners should consider the expenditure incurred by the National Society as direct costs when they report to the back donors. This practice considers the expenditure down each layer as direct costs.

Example: When reporting to a back donor, a partner considers all country-level expenditure incurred by the National Society as direct costs and treats their own head office costs as indirect costs. When the

15. Development Initiative’s ‘Good Humanitarian Donorship’ Indirect support cost study – Final report dated 4 July 2008

16. The concern on multi-layer funding was one of the main issues that prompted the study, which was commissioned by the Swedish Government on behalf of the members of the Good Humanitarian Donorship initiative.

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National Society reports to the partner, it considers all expenditure incurred by the branch as direct costs and treats its head office costs as indirect. The actual monetary value that finally reaches the beneficiary and the accumulated indirect costs paid can still be traced from the original source of funds if such information is needed.

5.6 COST NEUTRALITY

When a costing system is improved or an indirect cost recovery system is established, the common assumption is that this would result in a cost neutral outcome for the project budgets. This may not always be the case.

Sometimes, there are hidden costs not reflected in the project budgets because they were recovered through different sources of income, and are due to a disproportionate level of indirect costs absorption under the various projects and donors in the past. When costs are reclassified and traced to correct projects and donors, an increase in full costs is as likely as a decrease e.g. a National Society was applying a 5 per cent rate in the past that was not based on a systematic calculation. Based on the new system, it now applies an 8 per cent rate. This does not mean that the full cost has increased by 3 per cent, as certain costs would now be removed from the projects (indirect costs that will no longer be budgeted directly). But it also does not mean that the 3 per cent is completely offset against project budgets, as there might be new (and previously hidden) costs that are now traced to the projects.

Partners are usually concerned by the net budget implication, mainly due to funding restrictions

based on previously adopted models. In addition, reasonable tests may suggest that the new rate is too high for the present level of programmes, and the cost difference between the old and new models is substantial. Sometimes, the costing policy preparation exercise may not answer all questions but instead pose new ones.

Irrespective of the outcome, the exercise aims to present true costs in the most transparent manner, which could then inform decision-making.

“Sometimes, the costing policy preparation exercise may not

answer all questions but instead pose new ones.”

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6.1 BUDGETING, POLICIES, AND PROCEDURES

In every programme cost, there is an element of direct and indirect cost. Indirect cost should not be seen as the core cost of the National Society. When budgeting, it is legitimate and necessary to present accurate and complete programme costs, and it is the responsibility of the fund recipient to include a fair share of indirect costs in the donor proposal and project budgets. Often, this responsibility falls on the programme managers or those responsible for negotiating donor proposals and preparing project budgets. This is an important, first step to ensure the organization’s indirect costs are fully recovered. There must be a clear function to review that this process is completed.

In some cases, the indirect cost will not be recovered because the proposals and budgets had not been reviewed extensively to ensure they include fair share of all relevant costs. If programme managers do not fully understand the need for indirect costs recovery, they might reduce or waive the charges to make the proposal or budget more appealing to donors. Some National Societies make finance reviews a requirement but there should be a mechanism to ensure each proposal or contract undergoes a comprehensive review with the various technical sectors. Once the proposal or budget is agreed with the partner, it is often difficult to

renegotiate, and the opportunity to recover indirect costs is sometimes lost due to such an omission.

Consideration should also be made for economies of scale, where costs shared across more projects would cause the rate to reduce. This argues that an increase in the number of projects and its volumes should result in lower indirect costs for each project. Failure to include an indirect cost share in the budgets of exempted projects only contributes to a higher indirect cost rate and share for the remaining projects, which is not the intended result. This repercussion should be well understood and can be mitigated by ensuring all projects carry their fair share of indirect costs.

Assumptions in budgeting should be explicitly stated in the budgeting guidelines or procedures so that standard rates are established and are consistent between projects e.g. what the standard rate is for a driver, fuel per litre, per diem for travel etc. There should be a function to ensure there is coherence across all budgets. Contingencies of 5-10 per cent may be included either as a separate budget line item or built into existing budget lines, where this is allowed by the donors. A mid-term review and report will help to monitor performance and adjust the contingency or reallocate the amount to address adverse variances. It might be best to do a review one to two months before the end of the project, so that any potential surplus can be identified and negotiated

with the donor, and used within the project time frame. It helps when organizations use accrual basis accounting instead of cash accounting, where full cost is calculated using past financial information before adjusting for expected cost trends such as changes in programmes or anticipated inflation.

Shared cost is often an area that necessitates lengthy discussions and negotiations before an amicable solution is found. In many cases, partners in-country may occupy a National Society’s office space. Some National Societies may feel obliged to offer the space for free or for a significantly low price, affecting their cost recovery, and preventing them from earning commercial revenue. Shared office space and services should be calculated based on market values, and distributed using appropriate cost drivers (floor space or work station). These costs should be treated differently than the indirect costs of the National Society, as they constitute consumption that can be measured and allocated reliably, on top of indirect costs that are charged to all donors and projects, irrespective of physical presence.

National Societies are responsible for managing their cost recovery system in the most equitable manner possible. This places importance on having a documented costing policy and an indirect cost recovery procedure, ensuring they are regularly updated, and measuring their compliance. The policy and procedure should include, among others:

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I. The costing principle, as adopted by the National Society

II. The method of cost recovery application, both direct and indirect

III. The rates – type and basis of calculation

IV. Management, evaluation and reporting of the recovery system

V. Review procedures – process, frequency and approval

VI. Responsibilities within the organization

VII. Feedback channels

Policies and procedures alone do not guarantee an effective system and they rely on senior management to enforce them and to ensure compliance. It is important that the governing board approves the policies and procedures, as its role includes making policies available to guide and protect the organization’s financial decisions.

6.2 MANAGEMENT, EVALUATION, AND REPORTING

A National Society that chooses to implement an indirect cost recovery system also commits to the responsibilities of managing, evaluating, and reporting on the system. The responsibility will often fall under the finance department, but the senior management and leadership should support this.

Although it is important that the responsibility for managing the indirect cost recovery system is assigned to a particular individual, the

National Society should ensure that the function itself is not person-specific. The design of the recovery system, the processes involved, the monitoring mechanism and the reporting needs should all be documented so that any personnel other than the one responsible can still carry out the function effectively. Some recovery systems have failed because the person in charge, who was responsible to set up the system, has left the organization. In such a situation, the National Society may not notice the deterioration of the system until it is too late.

Some National Societies fail to place importance on the management, evaluation, and reporting aspects of the recovery systems. This could be owed to a misperception that a recovery system, once set up, is able to run automatically. As long as recoveries are made, it is difficult for the management to detect signs of a failing system. Regretfully, some National Societies focus on short-term results and try to carry on with a recovery system for as long as possible even when it is failing. There may not be a proper feedback mechanism to learn of the partners’ satisfaction or frustration. The finance department may be the group that receives most of the complaints but they may not be in the best position to take necessary action, or sometimes their voices may not be heard.

“A recovery system that is regularly reviewed and

improved, based on consultation with its stakeholders, is often

the perfect system.”

Using indirect cost recovery may not be as transparent as a direct charge, as there is a weaker link between the volume of activity in a project and the consumption of quality services. However, tracing indirect costs to the individual projects to the detail required is administratively complex, entails high transaction costs, and is difficult to manage. Indirect cost recovery is widely accepted as a reliable method to assign indirect costs to programmes. The way the system is designed and managed influences its acceptance and effectiveness. A recovery system that is regularly reviewed and improved, based on consultation with its stakeholders, is often the perfect system.

6.3 INFORMATION SYSTEMS

Cost information system

The need for cost information between National Societies differs based on their context and the purpose of the information. The financial system should help the National Society to meet their cost information requirements. To better understand the requirements, three principal applications for cost information are outlined below17:

I. External reporting – historical and descriptive This is generally based on an absorption costing system, whereby direct and indirect costs for a particular project or job can be grouped, analysed, and reported. This information may not adequately support management decisions

17. Evaluating and Improving Costing in Organizations July 2009, International Federation of Accountants

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as they are purely based on recorded financial data and are influenced by accepted financial reporting standards.

II. Performance evaluation and analysis – interpretative and diagnostic Based on the needs of the National Society, some ratio analysis can be built into the reporting system where this is practical and cost effective. This includes efficiency ratios, administrative cost ratios, and financial sustainability ratios. Understanding why certain costs are incurred and what factors influence them helps to control costs and make improvements, and to identify which projects negatively affect the cost recovery system.

III. Planning and decision support – analytical and predictive This will include the ability to exclude resources and related costs that will be affected by a decision e.g. if one project is discontinued, which resources or costs will increase, decrease or remain unchanged as a result, or if the recovery rate is adjusted, what would be the financial implications for the organization’s resources in the short and long term. Depending on the decision-making needs, the cost information may be general or extremely detailed.

Financial information systems

The financial systems should be able to pool costs based on cost classification such as direct and indirect. It should allow tagging of income and expenditure related to indirect cost recovery so that reports can be generated to show under- or over-recoveries in the organizational or unrestricted budget.

“When National Societies are not able to generate clear

information, there is no way of finding out if the indirect cost recovered is enough, too little

or too much.”

Where needed and possible, a chart of accounts could be designed to allow for additional elements that will help in detailed analysis of income and expenditure. This aids in the generation of reports for internal monitoring and external reporting. If income from indirect cost recovery is not analysed separately and is grouped together with other funding, and if there is no mechanism to track expenditure, it would be difficult to demonstrate that the indirect cost charge is a fair share attributed to the projects. Some organizations do not track indirect cost income and expenditure, and as a result face a challenge when such information is needed. Below are some requirements:

I. Budget information – distinguishing restricted, unrestricted and capital budgets

II. Cost categories – distinguishing direct and indirect costs

III. Unallowable costs – identifying and tracking ineligible costs

IV. Cost reports – direct and indirect cost by period and by projects

V. Indirect cost recovery reports – related income and expenditure

If the financial system supports a cost recovery system, the National Society will have the advantage of having reliable and timely cost information. This helps to manage the recovery system better and to provide information to stakeholders when needed. It is not necessary to present individual receipts to substantiate an indirect cost charge, but the National Society should be able to clearly distinguish the group of costs that are paid for by the indirect cost charge and the group of costs that are paid for by other sources of income. When National Societies are not able to generate clear information, there is no way of finding out if the indirect cost recovered is enough, too little or too much.

6.4 ACCOUNTABILITY

Apart from internal evaluation, the indirect cost recovery system should be audited as part of the annual external audit exercise. The audited financial statements could include a segmented disclosure or report on the performance of the cost recovery system, if this disclosure is desired by the governing board. Otherwise, the financial statements and the auditors’ opinion should provide reasonable assurance that the system is effective, that the recoveries are done in an equitable manner, and that the under- or over-recoveries are treated according to policies.

The quality of audit reports plays an important role in maintaining or increasing donor confidence. When National Societies complete audits on time and share the audited financial statements, this adds enormous credibility and strengthens donor confidence: partners would feel that the National

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Society has nothing to hide. Regular feedback mechanisms should be established to provide a platform for partners to raise their concerns and make constructive criticism. It is impossible to have a perfect system where all the partners will be completely satisfied but this should not discourage the National Society from listening to them. Some National Societies may dislike criticism or may be reluctant to admit weaknesses, but this causes partners to avoid confrontation and sometimes resort to other excuses for not wanting to pay.

In some cases, partners have expressed an inability to pay for indirect costs due to limits placed on them by their back donors. But more often, the reluctance to pay is due to lack of reasonable assurance that the cost recovery system is imperative, well managed, and transparent. Some National Societies that exercised good internal control, supported a value for money framework, and made their audited financial statements available publicly, appeared to have benefited from increased donor confidence. This is evidenced by financial stability, effective fundraising activities, and a strong group of partners.

Where the transparency and accountability element of the recovery system is documented, this creates a link to the organization’s accountability framework, leading to a higher sense of priority. It will then be the management’s responsibility to ensure that the requirements are met and that the system functions as intended. In addition, the governing board plays a crucial role to ensure that:

I. Appropriate limitations are placed on the organization’s administration expenditures

II. Appropriate limitations are placed on fund-generating expenditures

III. Accumulation of reserves is prudent as per conditions that decide the level of reserves

IV. Policies are available to guide and protect the organization’s financial decisions

It is difficult to earn confidence but easy to lose it and, once lost, it is more difficult to regain it.

6.5 PRACTICALITY

Once an indirect cost recovery system is developed, the National Society should inform its existing partners before implementation. This can be formalized through an addendum to the existing programme agreements or through exchange of letters. If rates have been revised, a similar process should be followed. It is important for the National Society to map out the current rates paid by partners (including limitations if any) and to assess the practicality of using the new rate e.g. If current partners are paying between 5-7 per cent and there is no possibility of obtaining more due to back donor restrictions, it is not practical for the National Society to introduce a new rate of 15 per cent. The National Society may need to plan its recovery in a more pragmatic manner and only distribute the most programme-related indirect costs to partners i.e. support services costs, and aim to cover the more remote costs on its own.

“Without the partners’ willingness to pay, the rate is

no more than a number.”

Some partners have a policy for paying indirect costs to fund recipients. This provides conditions on which indirect costs would be paid and the limits. National Societies and partners should recognize the interaction between their policies in regards to direct costs and indirect costs. Ideally, they should not contradict each other. It is not fair for donors to restrict the indirect costs allowed for a particular project, not taking into account the actual indirect costs of the fund recipient. In order to achieve an effective indirect cost recovery system, partners and fund recipients should understand the challenges faced by each other, and they should be as flexible as possible. Both parties have an obligation to make their own expectations clear, and to understand the expectations of the other. Where reasonable, partners and National Societies should endeavour to satisfy each other’s expectations and, where this is not possible, they should at least compromise and meet each other half way. Problems arise when the two parties are not able, or willing, to understand and empathize with each other. Without the partners’ willingness to pay, the rate is no more than a number.

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National Societies need to be able to generate their own funds in order to sustain the organization. Many place sustainability as a concern and domestic fundraising as a priority, aiming reduce donor dependence and invest in resource mobilization.

7.1 DOMESTIC FINANCIAL RESOURCES

Some National Societies are able to generate unconditional resources and use these to cover some costs, causing the indirect cost calculation to differ.

Example: Building on the earlier example, if a National Society is able to generate 5,000 US dollars to cover its own indirect costs, then the rate could drop from 7 per cent to 5.75 per cent.

Value (USD)

Total indirect costs 28,000

Less: Own income 5,000

Unfunded indirect costs 23,000

Calculation: 23,000 ÷ 400,000 = 5.75 per cent

With many National Societies, income generated from fundraising activities alone is inadequate to cover the organization costs. Some National Societies who are able to recover indirect costs from programmes may risk relying too heavily on international programmes and donors, and

do not actively pursue fundraising to fully cover organizational costs in the medium to long term. This may work as long as the level of programmes remains constant, i.e. the number and value of projects do not change or reduce. If the number of projects or value decreases, each remaining project will have to take on a higher share of the indirect costs in order to meet the full costs. National Societies could either increase the rate or use their own resources to fill the gap. The former depends on donors’ reluctance or willingness to pay, as frequent changes impair the recovery system and increase concern. The latter may risk depletion of internal resources, if not restricted and carefully managed.

National Societies that raise unrestricted funds can maintain a healthier cash flow, which is often needed to manage a recovery system, as surplus funds will be able to meet possible under-recoveries. Those who raise unrestricted funds will also able to lower their rates and become more competitive. Although rates are not comparable across organizations, donors would be more willing to fund a recipient that has a lower indirect cost charge, resulting in increased programme funding. This discourages a lacklustre attitude towards fundraising and motivates National Societies to steer towards increased sustainability.

Where National Societies are overly dependent on fewer donors and programmes – e.g. because of a

very small and conservative fundraising market, or Government restrictions – the indirect cost rate may be significant. Such National Societies should not be penalised and partners who support programmes in these countries should understand the underlying reasons for the high rate, taking local circumstances into account. They should recognize that by providing funds, the financial contribution goes beyond programme implementation and extends to overall support to the organization, in maintaining its structure and ability to continue programming. The impact of a partner’s contributions reach beyond numbers and, ideally, this should drive funding decisions.

Partners who agree to provide additional support towards organizational costs should not use a shopping list method to choose budget items that they wish to fund, but provide resources towards the general costs. This is to avoid picking attractive budget items and abandoning less attractive ones, e.g. the salary of the secretary general is more attractive than office maintenance costs. This also protects the National Society’s independence, as it discourages partners from demanding unwarranted attention or being involved in the organization’s decision–making process. National Societies also have the obligation to communicate their operating context to partners, and to continue advocacy among their stakeholders. However, this does not eliminate the responsibility to actively

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pursue domestic resources through other resource mobilization initiatives. Some of the usual sources of income for the unrestricted budget are:

I. Government grants

II. Domestic fundraising

III. Investment income

IV. Business activities (includes commercial services)

V. Indirect cost recovery from partners

Some National Societies receive financial assistance or grants from the Government to support the organization’s structure. In some cases, this is tied to the Government’s choice of personnel. Some National Societies are allowed to generate additional funding for their structure whereas some will risk losing the Government assistance if they seek funds from other donors for the same purpose.

The raising of an organization’s own funds and reducing the indirect cost share to partners may imply that full cost recovery principle is not fully practiced, as partners are subsidised and are paying less than their fair share. If a National Society is able to generate funds internally, they need not use this income to fund the entire indirect costs. Instead, they could decide to fund the most remote organization costs that are not programme-related (existence costs that will be incurred even in the absence of programmes), they could fund a share of programmes and services (a combination of direct costs and the fair share of indirect costs), or they could retain the additional income as reserves.

Who you are and who you are with partners

National Societies should be able to assess the financial meaning of who they are independently, and who they are with partners. This is fundamental to harmonise Movement wide support plans. This also provides another possibly suitable method for National Societies to view costs as:

I. Minimum costs These are an organization’s basic costs that are unrelated to the projects and those that will be incurred even in the absence of projects e.g. senior management and governance costs that are necessary for the National Society to exist. It would be a general expectation that the National Society is able to cover minimum costs on its own, and any funds raised should be prioritised for this purpose. This helps to ensure there is no undue dependence on donors, which could compromise independence.

II. Primary project cost These are projects comprising the basic services the National Society is expected to offer under its mandate e.g. it may be expected by its Government and the public to respond to disasters, or it may be expected to provide first aid and ambulance services. The budgets for such basic projects should ideally be funded by domestic resources. The amount of funding will limit the scope and extent of programme or services, such as the number of beneficiaries served and the type of assistance. Provision for mandated programmes and services should be prioritised when unrestricted funds are

raised internally, and it is also important for the National Society to plan its resources to be able to carry out these basic services for the foreseeable future, at least one to two years. Where the National Society is not able to fund these costs on its own, the projects may be shared with partners but the long-term target should be to self-fund from consistent and reliable sources of domestic income. Primary project costs should include a fair share of indirect costs.

Minimum costs and primary project costs also represent what is traditionally known as core costs18.

III. Additional project cost These are projects that are funded by external partners, which the National Society would not undertake alone. The National Society may or may not financially share a part of the project. Indirect costs related to additional projects beyond minimum costs and primary project costs should be recovered from the respective partners. If the National Society raised income and is willing to fund a part of the additional project, it should not only absorb the running costs of the project but also a share of the indirect costs.

Example: Two partners contribute 50,000 and 40,000 US dollars respectively for a particular project that has indirect costs of 5,000 US dollars. If the National Society has internal funds of 15,000 US dollars to spend for this project, it is not

18. The term core costs is not a cost classification and is often understood differently between organizations. This leads to confusion and makes it difficult to harmonise terminologies.

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obliged to pay the entire 5,000 US dollar indirect costs but rather its fair share only, allowing the additional funds to pay for direct costs.

Calculation: Total funds available is 105,000 Total indirect cost is 5,000 Total funds available for programme is 100,000 Indirect cost rate is 5 per cent

All amounts in USD Partner A Partner B National Society

Direct costs 47,619 38,095 14,286

Indirect costs 2,381 1,905 714

Total contribution 50,000 40,000 15,000

Overall project value 105,000

In the above example, the National Society is not only an implementing partner but a funding partner as well. The funds from the partners are not wholly used for direct costs because the National Society has internal funds to cover indirect costs, but the funds are spent for both direct and indirect costs that are relevant to their share of the project.

National Societies that raise unearmarked or unrestricted funds could pay for minimum costs, basic project costs, and a share of additional project costs, in order of priority. This should take into account any withholding for growth and contingency plans, based on the National Society’s strategic plan and its reserves policy.

7.2 FUNDING STRATEGY

This guiding document is a roadmap for National Societies to achieve financial sustainability in the

medium to long term. Management Accounting for NGOs (MANGO) suggests three questions:

I. Where are we now? This is the position of the National Society at the start of the strategy, based on assessments to identify key risks, opportunities, and resources (existing and available). A funding strategy would vary depending on this position, whether starting, growing or maturing.

• Starting organizations have few existing resources and their opportunities are limited. The structure is small and easier to fund. They may depend heavily on a small number of donors and their capacity to grow is limited due to funding constraints

• Growing organizations have more opportunities and more risks. They need more funding sources to gradually decrease dependence on the original donors and to build their capacity. Their risk appetite is usually higher

• Maturing organizations may have a lot of opportunities but they may have the most risks as well, and some may affect their funding opportunities significantly. Their diversified income streams may invite challenges on accountability issues.

National Societies should recognize and balance the need for funds, the diversification of income, and accountability on funds.

II. Where would we like to be? Based on earlier assessment, this is the financial target for the National Society, by years.

• Funding mix – mapping of current and desired funding mix

• Donor dependency – current level of donor dependence and desired ratios

• Reserves level – current level of reserves and desired annual targets.

III. How do we get there? This outlines the action plan to achieve the financial targets set in the previous section. The plan should be realistic and targets should be incremental over a few years e.g. a National Society may not have any general reserves at present. It may target to have 30 days resources in one year’s time and 60 days resources in two years’ time. The plan should include a mechanism to monitor progress.

In most cases, organizations would have a higher level of restricted income compared to unrestricted income. National Societies should increase their unrestricted income levels to improve the desired funding mix, and they should diversify their income sources so that there is no overdependence on one donor. In this way, they would be able to continue without serious impact in the event one of the income sources is affected.

Some National Societies may depend on recovery from programmes to fund the full organizational costs as they faces challenges in raising unrestricted funds domestically. In such instances, the indirect cost rate may be high compared to industry standards. This raises sustainability concerns.

A funding strategy is usually guided by several other organizational policies such as:

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• Reserves policy – conditions to build, maintain, and use reserves

• Investment policy – conditions for investing funds to generate income

• Costing policy – how costs are defined, classified and funded

• Indirect cost policy – how indirect costs are recovered and managed

• Ethical policy – restrictions on source of income; not accepting funds from certain businesses should their work or practices conflict with organizational values, e.g. the arms trade, tobacco, liquor etc.

*The list is suggestive and may not be appropriate or complete for all organizations.

The funding strategy should be approved and adopted by the governing board and it should be reviewed once every few years and revised if needed. Approval and review procedures should also be documented.

7.3 RESERVES 19

The reserves are the resources available to maintain core presence and essential business for a specific period of time, in absence of funding. They are made up of an organization’s net surpluses taking into account accumulated surpluses and deficits incurred since date of incorporation.

Reserves can be held either in cash or in the form of assets and hence either distributable or non-distributable. The conditions on how reserves

may be used will categorise the resource as either restricted or unrestricted.

Unrestricted reserves are not subject to any legal or third party restriction and can be used as the organization sees fit (IFRC). Some common types of reserves or funds20 include:

I. General reserves – the fund is not restricted and is available for emergency or general use.

II. Restricted reserves – the donor has specified the use in a binding donor agreement.

III. Designated reserves – the fund is committed for a purpose specified by the governing body.

IV. Capital fund – the reserves are held in the form of assets (e.g. vehicles, buildings)

V. Endowment fund – the money invested for the income it produces; original sum is not used.

Detailed information on reserves should be presented in the financial statements to inform stakeholders of the level and the types of reserves that the National Society holds at the time of reporting. Such accountability protects the organization from misuse that could arise from the way it builds, manages, or spends its reserves. This increases the importance for National Societies to have annually audited financial statements, even if their national legislation does not require it.

Reserves policy

A reserves policy document should provide guidance on the level of reserves an organization should have, the methods by which it should build its reserves, and the conditions under which the organization

may use the funds. The reserves policy should be made widely available so that stakeholders, including donors and the public, are aware of the purpose and the rationale for the reserves. This protects the organization from undue criticism when general surpluses are retained for future years and not used to pay immediate organizational costs.

National Societies should begin by reviewing their existing funding structure. This should be followed by analysis of current and potential income streams, expenditure patterns, and cash flow needs. The need for reserves and the required level of reserves must be clearly identified.

Why reserves?

National Societies that depend on donor contributions have an equal need as for-profit organizations, if not greater, to maintain reserves. They need healthy levels of reserves to:

• pay for unforeseen expenditure

• fund strategic programme that lacks funding

• sustain the organization if funding drops or discontinues

• fund capital budget – acquire, maintain or replace fixed assets

• cover staff payments that are not direct (maternity leave, insurance, or severance payment)

19. References were made to MANGO’s Building Reserves 2010

20. The term ‘reserves’ and ‘funds’ are often used interchangeably

43GUIDELINES FOR NATIONAL SOCIETY COSTING POLICY

International Federation of Red Cross and Red Crescent Societies

• invest in income generating or business activities to build a new source of income

• invest in the organization’s human resources and infrastructure

• invest in financial markets for interest income

• cover financial deficits and losses

• start new branches or support existing ones.

“When organizations completely depend on donor contribution

to fund their existence costs, an absence of funding would mean

closing down the office.”

Unrestricted reserves give the organization flexibility to use the funds without seeking donor permission, as long as it is within the objectives of the organization as approved by the governing board. Where reserves are used for investment purposes, this must be done within approved policies. Otherwise, this places the organization at financial, legal, and reputational risk. Some organizations, due to limited unrestricted income, struggle to build reserves, exposing themselves to going concern and sustainability risks. When organizations completely depend on donor contribution to fund their existence costs, an absence of funding would mean closing down the office.

As donor funds for projects are restricted and any unspent money is usually returned if not allocated to a different project, National Societies can only build reserves using unrestricted income when there is surplus on the unrestricted budget. Unlike private

corporations, third sector entities are not allowed to make profits, but this does not mean that the organization, through prudent management, cannot make surpluses that will contribute to building reserves.

Level of reserves

There is no standard level of reserves as each National Society is unique and operates in different contexts. The level is usually calculated by the number of days or months that the organization can survive without funding e.g. 60/90 days may be normal for some organizations. In calculating the level of reserves, the National Society should consider:

I. Focus of organization – short-term or long-term activities. The former would necessitate a lower level of reserves compared to the latter.

II. Feasibility to build reserves – availability and flexibility of funds. This affects the organization’s ability to build reserves despite its best intentions.

III. Effect on current spending – short-term sacrifice for longer-term security. Implications for current spending should be reasonable and acceptable.

IV. Risk of income loss – likelihood and impact. The higher the likelihood of losing income in the foreseeable future and the higher the impact of losing the funds, the higher the level of needed reserves.

V. Acceptance by stakeholders – not rich and not poor.

The ideal status is difficult to achieve and good efforts sometimes attract criticism. The National Society should manage this by sharing information in a transparent and consistent manner.

VI. Purpose of reserves – continue, or close. To continue, the reserves should have adequate funds to run for several months whilst securing new income. To close, the reserves should be sufficient for winding down i.e. to pay liabilities and final obligations.

A National Society’s need for resources (including reserves) will increase over time, depending on its structure, volume of programmes, and nature of activities. A periodic review would help to ensure the organization is not spending more than it should and that it has an adequate level of reserves.

Building reserves

Once a level of reserves is calculated, the National Society should plan practical and reasonable methods to build its reserves over a number of years. It is ambitious to have methods that are not suitable for the National Society or its environment, and to attempt building substantial reserves in a short period of time. Some methods to build reserves are suggested below:

I. Maximise unrestricted income. National Societies could:

• Consider charging fees for specific non-programme services, where this is warranted. In some cases, National Societies may provide pro-bono services to its partners and this may be expected. The organization needs to consider the costs associated with such service provision

GUIDELINES FOR NATIONAL SOCIETY COSTING POLICY

International Federation of Red Cross and Red Crescent Societies

44 > FINANCIAL SUSTAINABILITY

and measure them over time. If substantial, they should consider charging for services based on market rates. Free services do not mean that it is free of costs for the National Society.

• Generate income from bank interest. Some National Societies have a treasury department that also explores investment opportunities and advises management to make short-term investments. An investment policy is necessary to guide the organization and to protect its investment decisions. Where possible, National Societies should retain funds in interest-bearing accounts and place short-term fixed deposits.

• Obtain funds from general public donations or income generating activities. National Societies could be innovative in attracting public donations. e.g. in some countries, National Societies place donation boxes in various locations including the airport, and some organizations have agreements with airlines to collect donations from passengers. Others have agreements with consumer goods providers, whereby a small percentage for every item sold is given to them. National Societies could consider the possibility of providing services on a commercial basis – some generate income from activities such as first aid training, ambulance services, and blood services.

• Launch general appeals or campaigns for the organization’s overall objectives. This may be a challenge for some National Societies where it is nearly impossible to raise domestic funds for non-disaster appeals. However, National Societies should continue such efforts relentlessly and be vigilant to changes in the

financial market, e.g. an increase in foreign direct investments in the country may suggest huge potential among corporations, and opportunities should be explored.

• Approach donors for endowment fund. This may be rare but there could be opportunities.

II. Maximise use of project income and restricted income. National Societies should:

• Ensure projects are fully costed. A joint team comprising programme and finance personnel should be involved in budget preparation, as this will allow a more comprehensive budgeting ensuring that relevant costs are not omitted. Budgeting should take into account all possible scenarios, using updated market figures and factoring for inflation. Sometimes, National Societies may end up using own funds to cover non-budgeted or inadequately budgeted items that are necessary for project implementation.

• Use restricted funds to cover genuine budget items. In the absence of a good recovery system, indirect costs are usually absorbed by unrestricted income. It may be easier to charge general costs to general funds, with the intention to recharge them later. Often, it may be too late to charge certain costs to projects due to end of timeframe or non-availability of funds. If costs are genuine and relate to projects, they should be charged immediately.

• Allocate fair share of indirect costs to projects instead of paying with unrestricted income. Where indirect cost charges are used, rates should be appropriate to ensure adequate costs are allocated to projects, and rates should be

applied consistently to discourage subsidization between projects. Both will help to ensure that each project is paying the appropriate amount.

• Run projects efficiently to save costs and generate savings. National Societies should seek to reduce costs where possible. Some donors may allow retention of surplus, provided project delivery is not compromised.

III. Minimise controllable expenditure. National Societies should:

• Promote culture of minimizing waste and the efficient use of resources

• Seek in-kind donations where possible to save money on equipment purchases

• Negotiate discounts from suppliers for bulk purchase and timely payment

• Obtain tax refunds as allowed by the authorities

• Make prompt payments to avoid penalties and late payment charges

• Reduce stock holding to minimise transportation and warehousing costs

• Minimise maintenance and repair costs with proper asset management

• Review and right-size the organizational structure to bring it to an irreducible minimum.

“Some savings may initially appear small but, accumulated over time,

they become substantial resources.”

45GUIDELINES FOR NATIONAL SOCIETY COSTING POLICY

International Federation of Red Cross and Red Crescent Societies

The need for accountability and transparency is often juxtaposed with the need to reduce management costs and overheads, so that more money could reach the final recipients. In the ladder of humanitarian assistance, National Societies stand between the final recipients and funding partners. The passage through which the fund flows, from the first giver to the final recipient, is both natural and inevitable.

While there is a growing need to increase efficiency and value for money, this should not unduly translate into arbitrarily removing the indirect costs of one organization over the other, as it camouflages the actual costs of achieving programme objectives, and it compromises the ability to deliver results as intended. Instead, value for money should be realised based on the notion that each partner in the ladder, strives for cost efficiency and maximises the impact of the funds received.

The process of developing a costing policy begins with an internal assessment, in an effort to improve the methods of classifying and recovering both direct and indirect costs. Adopting a costing policy encourages steps to design or improve systems to facilitate full cost recovery. This would be supported by budget architecture with clearer definition and classification of costs, which enhances cost assignment techniques.

Financial sustainability benefits from an effective costing policy and a well-executed funding strategy. Management and governance of National Societies are instrumental in ensuring the full cost of the programmes and services are recovered, the relevant policies and procedures are in place, and there is a mechanism to ensure full compliance.

An organization’s costing system can be either highly accurate but complex, or simple with relative accuracy, depending on the need of the organization and its ability to manage the system. In their international good practice guidance, IFAC describes 12 costing continuum levels21. The levels represent maturity of a costing system whereby each subsequent level provides greater benefit (such as accuracy, visibility, and insights for analysis and decision-making) but is coupled with increased administrative efforts and costs.

The challenge rests in choosing a level that is both practical and reasonable in terms of cost benefit trade-offs; whereby the design, implementation and improvement of the system, is balanced between the extent and accuracy of detail required, and the cost of acquiring them. This is when the organization should assess whether ‘the view is worth the climb’.

National Societies should ideally begin with a simple model, gradually perfecting the methods, deciding at each milestone, whether each next level is suitable for them. With each incremental step, the system attains greater credibility and, with each effort, the organization is rewarded with benefits. One such benefit is the increase in capacity, to deliver and sustain, humanitarian programmes and services.

“Success is dependent on effort” – Sophocles

21. International Federation of Accountants, Evaluating the Costing Journey: A costing levels continuum maturity model 2009.

CONCLUSION

GUIDELINES FOR NATIONAL SOCIETY COSTING POLICY

International Federation of Red Cross and Red Crescent Societies

46 > REFERENCES

8NS Africa Initiative, 2012. National Society core cost model.

BBB Wise Giving Alliance, Guidestar USA, & Charity Navigator, 2013 and 2014. The Overhead Myth – open letter to American non-profits and donors.

BOND, 2005. Core funding strategies. Guidance notes no. 6.

BOND and MANGO, 2016. Cost recovery: what it means for CSOs.

Department for International Development (DfID), 2011. DfID’s Approach to Value for Money.

Development Initiatives (DI), 2008. Good Humanitarian Donorship. Final report on indirect support cost study.

Esmée Fairbairn Foundation, 2007. Costing projects and programmes in the voluntary sector.

Food and Agriculture Organisation (FAO), 2005. Report on support costs and recoveries.

Food and Agriculture Organisation (FAO), 2011. Measures to improve Implementation of Organization’s Support Cost Policy.

NPC, ACEVO & KPMG, 2014. Full Cost Recovery: A guide and toolkit on cost allocation (supported by Big Lottery Fund, Active Communities and Northern Rock Foundation)

Government of South Australia, 2010. Primary Industries and Resources SA – cost recovery policy.

International Federation of Accountants (IFAC), 2000. Evaluating the costing journey – a costing levels continuum maturity model.

International Federation of Accountants (IFAC), 2000. Perspectives on cost accounting for government – International Public sector study.

International Federation of Accountants (IFAC), 2009. International good practice guidance on Evaluating and Improving costing in organizations.

International Federation of Red Cross and Red Crescent Societies, 2007. Review of overheads along the Federation value chain and Review of Secretariat overhead recovery mechanism.

International Federation of Red Cross and Red Crescent Societies, 2008. Secretariat and National Societies – a cost comparison study.

International Federation of Red Cross and Red Crescent Societies, 2013. National Society Development Framework.

MANGO, 2010. Building Reserves.

MANGO, 2010. Developing a Financing strategy.

MANGO, 2010. The Challenge of Core costs.

National Audit Office (UK), 2007. Implementation of Full cost recovery, Office of the Third sector.

PACT International, 2001. Core costs and NGO sustainability (study on behalf of USAID, The Nature Conservancy, The Summit Foundation, and Pact).

Queensland Government, Australia, 2010. Full Cost pricing policy.

BIBLIOGRAPHY

International Federation of Red Cross and Red Crescent Societies Annual report 2011

47ANNUAL REPORT 2011

THE FUNDAMENTAL PRINCIPLES OF

THE INTERNATIONAL RED CROSS AND

RED CRESCENT MOVEMENT

HumanityThe International Red Cross and Red Crescent Movement, born of a desire to bring assistance without discrimination to the wounded on the battlefield, endeavours, in its inter-national and national capacity, to prevent and alleviate human suffering wherever it may be found. Its purpose is to protect life and health and to ensure respect for the hu-man being. It promotes mutual understanding, friendship, cooperation and lasting peace among all peoples.

ImpartialityIt makes no discrimination as to nationality, race, reli-gious beliefs, class or political opinions. It endeavours to relieve the suffering of individuals, being guided solely by their needs, and to give priority to the most urgent cases of distress.

NeutralityIn order to continue to enjoy the confidence of all, the Movement may not take sides in hostilities or engage at any time in controversies of a political, racial, religious or ideological nature.

IndependenceThe Movement is independent. The National Societies, while auxiliaries in the humanitarian services of their governments and subject to the laws of their respective countries, must always maintain their autonomy so that they may be able at all times to act in accordance with the principles of the Movement.

Voluntary serviceIt is a voluntary relief movement not prompted in any manner by desire for gain.

UnityThere can be only one Red Cross or Red Crescent society in any one country. It must be open to all. It must carry on its humanitarian work throughout its territory.

UniversalityThe International Red Cross and Red Crescent Move-ment, in which all societies have equal status and share equal responsibilities and duties in helping each other, is worldwide.

International Federation of Red Cross and Red Crescent Societies

P.O. Box 303CH-1211 Geneva 19SwitzerlandTelephone: +41 22 730 4222Telefax: +41 22 733 0395E-mail: [email protected]