Alice in Wonderland World
of Charity Valuation
in the August 2011 issue of the Charity Rating Guide &
If I had a world
of my own, everything would be nonsense. Nothing would be what it
is, because everything would be what it isn't. And contrary wise,
what it is, it wouldn't be. And what it wouldn't be, it would. You
-Alice in Wonderland, Disney movie
inputs are inputs that reflect the reporting entity's own assumptions
about the assumptions that market participants would use in pricing...
-The accounting profession's version of Alice in Wonderland, FASB
Standard No. 157
In the wonderful world of charitable
gifts-in-kind (GIK) where lives are saved and suffering is lessened,
nonprofit executives can fully utilize their creative abilities
when measuring the value of the donated goods they receive such
as medicine, food, clothing, books, and other materials that flow
through a charity's financial statements. Charities that place high
values on GIK donations can falsely appear to be spending a higher
percentage of their funds on programs than other groups that receive
mostly cash contributions. Donors who rely on these charities' claimed
program percentages when making giving decisions might think they
are giving to highly efficient organizations when in fact most of
their cash donations are being spent on overhead.
This past June the American Institute
of Philanthropy obtained Feed the Children's (FC) fiscal
2010 audited financial statements and was surprised to see this
charity admitting that $544 million in deworming pills, which accounted
for 45% of its total fiscal 2009 income, would now be valued at
only $21 million based on the new accounting guidance it is using.
This means that in 2009 FC had valued its pills at least 24.9
times higher or 2,490% more than in 2010. AIP made multiple
requests to the group for a per-pill breakout of how it valued its
drugs. FC finally disclosed to us that the very same mebendazole
deworming pills that it valued at $9.07 in 2009 were now being valued
at $.35 in 2010. FC said that its valuation methodology followed
standard industry practice for each of these years.
Just imagine if a for-profit company
or mutual fund had overvalued its income by a similarly unreasonable
amountinvestors would be outraged and demand a thorough investigation
by regulatory authorities with a public accounting of what had occurred.
Yet many American charities have been bending reality for quite
some time by greatly exaggerating the value of their GIK without
much notice from the public, the media or government regulators.
What makes the GIK valuation issue all
the more troubling is that charities are not required by the IRS
or their outside auditors to disclose what specific products they
receive and distribute, or at what prices they value these items.
example, say Charity A and Charity B receive and distribute exactly
the same amount and type of aid to the same geographic area in a
given year. Because Charity A has inflated the value of these in-kind
goods, it can report that its program spending is much higher than
Charity B's, and will also appear to be larger and more efficient.
This is unfair to Charity B which is being made to look comparatively
less efficient simply because it is being more honest and reasonable
when valuing its GIK. If charities were required to shine light
on the details of their GIK, the public would be able to compare
valuations and determine which ones are reasonable and which are
inflated. Charities placing unreasonable values on donated medicines
and other aid would readily be exposed.
A number of charities, including Feed
the Children, defend the inflated values they formerly placed on
medicines like deworming pills by saying that they were merely following
earlier accounting guidance which allowed them to value these items
based on U.S. prices. They argue that the new accounting guidance
no longer allows them to use the typically higher U.S. prices, and
this accounts for the drastic drop in their GIK income and expenses.
AIP is not buying this argument and strongly believes that these
charities should not have been using U.S. prices in the first place.
Worms are not a medical problem in the U.S., and the 500 milligram
mebendazole deworming pills that are used to help people in the
developing world cannot even be legally sold here because they lack
FDA approval. Any FDA-approved deworming pill for humans sold in
the U.S. would be priced extremely high compared to the drugs that
are available in the developing world. Charities that used the old
accounting guidance as a free pass to value their GIK unreasonably
high were not following the spirit of these rules.
Don't be confused by a charity's explanation
of how it is now valuing in-kind donations. For example, FC's fiscal
2010 audit says that international GIK "are valued based upon the
estimated wholesale market value of the items within the countries
that represent the principal market of use." The principal market
of use is not the end use market or the place where GIK is
given to poor or needy people, such as Ethiopia or the Philippines.
Rather, it is the market, real or hypothetical, where its value
can be maximized. So even when a drug is available for purchase
in a poor country at a cheap price, a charity can value it at an
expensive price based on what it would be priced at in an active
market or an imaginary one. This makes sense for valuing investments
or for-profit business inventory but does not make sense for valuing
a charity's GIK. So while the new guidance offers some improvements,
it will not prevent some charities from continuing to value GIK
One charity, Brother's Brother Foundation
(BBF), should be commended for recognizing that it needed to lower
the value it placed on its pharmaceutical donations before the new
accounting rules required it to do so. In 2009 BBF set an example
by using significantly lower valuations and calling for other charities
to do the same. BBF's income was reduced to $266 million from the
$623 million at which it would have been reported under its old
valuation method, according to the charity's audit. BBF has paid
a price for its honesty. Before implementing its valuation change
BBF received publicity for being among the top spots on lists of
America's largest charities. It has since been kicked down from
6th to 59th on the Chronicle of Philanthropy's Philanthropy
400 list primarily because it is being more honest about how it
values its GIK donations.
Some charities inflate the contributions
they report receiving by waving a wand and magically turning a purchase
into a donation. This is how some nonprofit executives say off the
record how it can be done: charities like to receive donations of
certain types of products whose values are easy to inflate. When
a charity is not successful in soliciting donations of such products
in large volumes directly from donors or companies it will purchase
them instead. The charity will then claim that what they paid for
these products was simply a "handling fee" and that the products
themselves were donated. Of course, these supposed "handling fees"
often exceed what a person would pay on the open market to purchase
the goods in question. By calling these transactions "donations"
instead of purchases, this frees up the charity to wildly inflate
the value of these products in its financial reporting.
Some charities have other tricks up their
sleeves for using GIK to inflate their contributions. One scenario,
as told off the record to AIP by charity executives, is for a charity
to buy very cheap and low quality medicine made in India and flow
the purchase through a European company. The European seller can
be referred to as an "anonymous donor" on the charity's tax form.
As a condition of the sale, the charity can require that a receipt
be provided that values the Indian products at expensive European
prices. The difference between the European value and the purchased
Indian value boosts on paper the reported value of a charity's income,
thereby making it appear to be larger and more efficient than it
Examples of the Alice in Wonderland World of GIK
In 2010 the Canadian Revenue Agency
revoked the charitable registration of The Orion Foundation,
a bogus AIDS charity purporting to help Africans. It bought
medicine for 30 cents per unit and valued it at $11.50 per unit,
making enough purchases to issue $91 million dollars in donor
receipts. The auditors could not tell if the medicine was actually
received, used, or distributed in Africa.
MAP International in 2009
reported that it was distributing donated drugs from Operation
Blessing to the African nation of Ivory Coast. The GIK consisted
of two shipments each of 7.5 million deworming pills worth nearly
$80 million each. In other words they were claiming that a pill
that can readily be bought from multiple sources for as little
as 2 cents is worth $10.66. This valuation is absurd on its
face because, according to WHO (World Health Organization),
it would represent over 60% of total Ivory Coast government
spending on health in 2009.
AmeriCares in its 2009 audit
counts as program services expense $42 million dollars worth
of GIK that it never distributed. Accounting rules allow charities
to write-off expired or unusable GIK and count it as a program
In 2008 a person who identified
herself as a former employee of Feed the Children called AIP's
president and told him that she bought 2 cent deworming pills
from a Dutch company that the charity valued at $12 per pill.
Based on the volume purchased this amounted to a $300+ million
"donation" of medicine to the charity. Two officials at the
charity disputed this, including spokesperson Tony Sellars,
who called it "a total inaccuracy and a nice story."
Charities are willing to speak in general
terms about the complex valuation schemes they have utilized to
value their GIK. They are rarely, however, willing to disclose the
actual dollar amount they used to value specific types of donated
goods that account for major portions of their income and expenses.
For example, Feed the Children placed a value of $544 million on
the mebendazole deworming pills it received from one unidentified
source in 2009, which accounted for 50% of its total GIK. Yet FC,
like most charities, does not publicly disclose in its financial
reports at what price it valued each pill. Only after AIP asked
them a number of times did they disclose this information. Even
the highly regarded humanitarian charity World Vision would
not disclose to AIP the price at which it valued its deworming pills.
Unless you know the exact amount being used to value a product it
is impossible to determine if the valuation is reasonable. It is
analogous to buying a car and having the salesman go on and on about
what a great deal he has for you without telling you the actual
selling price of the car. He can talk until he is blue in the face
about how his price beats the competition, it's a special sale,
it's marked down from the sticker price, etc… but unless you know
the actual selling price you do not have a way of verifying whether
or not you are really getting a fair deal.
Charities have been using pharmaceutical
pricing guides that determine average wholesale prices (AWP) based
on an honor system of unconfirmed reports on prevailing prices.
People in the field joke that AWP really stands for "ain't what's
paid." Some pharmaceutical companies have been sued for fraud for
reporting AWP prices to the government to obtain inflated Medicare
and Medicaid reimbursements for pharmacies and doctors. A partner
at a major accounting firm told 2010 AICPA conference attendees
that the drug pricing guide nicknamed the "red book," which has
been frequently used by charities, valued deworming pills at $12
to $16 each even though she could go online and buy the same pills
for ten cents. She said that some prices in the red book may be
fine but that it is the responsibility of the charity's accountant
to determine if the book's listed prices are reasonable.
Even charities following the new FAS
157 accounting guidance have wide latitude in how they choose to
value GIK. FAS 157 was primarily written to provide guidance to
for-profit companies on valuing investments and other business assets;
it does not even mention GIK. It does not make sense for non-profits
that receive donated goods for free and give them out to people
who are too poor to pay for them to base GIK valuations on a framework
designed for businesses to maximize the fair value of their assets.
Another accountability black hole exists
with respect to how charities are allowed to report their international
aid distributions on their tax forms. When a charity makes a grant
or distributes aid within the U.S. worth $5,000 or more it is required
to disclose the name and address of the organization that received
it. However, a charity distributing international aid is allowed
in its public disclosures to hide the name and address of the foreign
recipient and only disclose the major region of the world, for example,
Africa, South America, or Europe, where it is distributed. Such
aid is described by charities in only very general terms such as
"medical supplies," "household & educational items," or "building
materials." This lack of disclosure is very convenient for any charity
that wants to wildly inflate the value of its GIK because it knows
there are no public records that an independent watchdog or donor
can use to determine whether its valuation of an in-kind grant is
reasonable or was even received by the reported recipient. (AIP
has pressed the IRS to begin requiring charities to disclose the
names of their international grantees and to accurately and specifically
The Breast Cancer Charities of America
(BCCA) states in its 2009 tax form that it made a GIK grant of over
a million dollars to Water Missions International (WMI) of
Charleston, SC. The grant, which accounted for 92% of BCCA's total
program expenses in 2009, was reported by the charity to consist
of $908,400 in "medical supplies" and $100,000 in "water purification
systems" in Honduras. This disclosure presented a rare opportunity
for AIP to attempt to verify an international GIK grant.
AIP contacted WMI and spoke with its
VP of Finance, Cynthia Pennington, to confirm that the charity had
received the in-kind goods BCCA claims to have granted for WMI's
programs in Honduras. Pennington had never heard of BCCA and told
us that while WMI does provide aid in Honduras, it does not collect
or distribute any medical supplies there or anywhere else. She also
said that WMI does not accept donations of water purification systems
from other charities because her group deals only with specific,
proprietary systems designed to serve more than 25,000 people. This
is interesting considering that BCCA's executive director, Erica
Harvey, told AIP that WMI is a charity her group regularly works
AIP contacted BCCA to get to the bottom
of this discrepancy. It turns out that BCCA had paid freight costs
of about $5,000 to send a container to Honduras containing supplies
owned by multiple charities. According to WMI, the container included
WMI's shipment of its own water equipment to its international office.
BCCA took credit for the value of WMI's water equipment in its financial
statements simply because it paid to ship it to Honduras. As for
the medical supplies, these were donated to BCCA by another charity
and were not delivered to WMI but to an employee of WMI's international
office for a non-WMI project. Therefore, BCCA should not be taking
credit for donating these items to WMI. It is AIP's view that BCCA,
which was in its first year of operation at the time the alleged
grant was made, was attempting to gain credibility with donors by
claiming to have a working relationship with WMI.
The following year BCCA's reported GIK
quadrupled to $4.3 million, according to its 2010 tax form. It no
longer provided breakouts, however, of who received these medical
supplies or how they were used since all the grants in 2010 were
outside the U.S. and charities are exempt from publicly disclosing
this information. BCCA did not respond to AIP's question about who
received these GIK medical supplies and how they were valued.
Charity Services International (CSI)
arranges for the collection and distribution of GIK for BCCA, according
to its 2009 tax form. CSI's web site says that it is a small business
that offers turn-key GIK services. Two of the benefits that CSI
lists for its charity clients are: "Receive high value donations
of items whose value is booked as revenue" and "Reduce fundraising
percentages by booking large gift values for a low service fee."
CSI is not shy about offering "high" and "large" value GIK to boost
a charity's reported income and improve its fundraising ratio.
When AIP questioned an IRS official
about why it would require disclosure of domestic grant recipients
but not foreign ones, the response was that charities were concerned
that this information could lead to terrorist attacks against a
charity or its grant recipients. AIP appreciates that some charities
operate in dangerous places such as Iraq or Somalia where it might
be advisable to conceal the identity of grant recipients. But if
a charity is providing aid to organizations in Japan, Haiti or other
non-terrorist hotbeds, AIP believes there ought to be disclosure
of the recipient organization.
Fortunately, many charities have begun
lowering their inflated GIK valuations, due in part to new accounting
rules. (The chart above shows the change in medical GIK from fiscal
'09 to '10 for six major charities.) But unfortunately, even with
the new accounting guidance, we do not know whether most charities
are now reasonably or consistently valuing in-kind goods because
charities are not required to disclose the value of the specific
goods they receive and distribute. For instance Feed the Children
drastically lowered its deworming pill valuations in 2010 but is
still inflating its valuations by over 17 times what the pills could
readily be purchased for from multiple suppliers. Therefore, AIP
strongly urges donors to follow the cash and subtract out in-kind
goods when calculating efficiency ratios.
The good news is that as a user of AIP's
Guide, you have not been fooled by a charity's inflated GIK valuations.
Among major charity evaluation agencies, only AIP's rating methodology
excludes GIK from its financial ratios. AIP strives to give donors
a clearer understanding of how a charity spends its money to help
them avoid being misled by a group that pumps up its program ratio
and lowers its fundraising ratio through unidentified and overvalued