Enhancing Third Sector Accountability through Financial Accounting

Opusculum 79 | 02.11.2014 | Regulations and Practices in German-Speaking Countries

1.    Introduction

Undoubtedly, the notion of “accountability” has gained increased momentum in nonprofit research as well as practice over (at least) the past decade. Whereas the idea of accountability itself seems to be an old one[1] and a broad variety of definitions as well as classifications of that term can be found in literature, in its core it addresses the obligation of nonprofits to give account of their effectiveness and efficiency to their stakeholders. Accountability practices are argued to directly affect organizational legitimacy in respect to their stakeholder relationships; for many nonprofits, maintaining this legitimacy has become an increasingly important task to ensure their survival, given increased pressure and demands from these stakeholders (both public and private). One important means to meet these accountability requirements is via accounting practices.

This increased demand for accountability addresses nonprofits both on a program as well as an overall organizational level, posing different challenges to these organizations. Thus, the need for and design of general purpose financial statements (GPFS) by nonprofits has become one emergent issue. This involves two questions: To whom are these organizations accountable and what form should this accountability take (Connolly and Hyndman, 2013)? Concerning the first question, in general, donors seem to be considered almost univocally the key stakeholders of accounting information contained by GPFS, although it ignores that many nonprofit organizations hardly rely on donations. Other stakeholder groups showing interest in GPFS might include creditors, funders, etc.; however, these groups and their needs concerning GPFS seem to receive less attention. The second question, which is a much- and long-disputed issue, asks in the context of GPFS whether financial accounting regulations designed for profit-oriented enterprises can or should be transferred into the context of nonprofit-organizations (e. g. Anthony, 1980 and 1989; Anthony and Young, 1994; Mautz, 1994; Horak and Baumüller, 2013). Here, for-profit and nonprofit organizations show similarities as well as differences that might have an immediate impact on the design of adequate accounting practices (Gordon, 2013). Technical aspects addressed are whether methods for recognition, measurement, presentation and disclosure employed for for-profit organizations can give a true and fair view also in the context of nonprofits; and whether economic events occur in their context which are not covered (or cannot be covered) by for-profit accounting-standards and thus require additional standards.

This has led standard-setters especially in Anglo-Saxon countries (e. g. Australia, U.K., U.S.) to come up with modifications of and additions to the accounting regimes applicable to for-profit-organizations (Hyndman and McMahon, 2010; Gordon, 2013).[2] With regard to international financial reporting standards (such as the IFRS), this issue has recently gained increased momentum too (Haring 2012; Crawford et al., 2014); nonprofits like Médecins Sans Frontières (MSF), an international, independent, medical humanitarian organization, have for instance come up with a modified set of IFRS, developed together with its auditor (KPMG), in order to enable an international, consolidated corporate financial reporting of (what they perceive as) high quality (Médecins Sans Frontières, 2013). In contrast, standard-setters in German-speaking countries (Austria, Germany, and Switzerland) address questions relating to accounting-issues in the context of nonprofits very differently – and sometimes also very reluctantly (Baumüller, 2013b).

Not always do accountability and especially accounting requirements turn out beneficial for nonprofits and their stakeholders; indeed there is vast evidence that potential threats are associated with them as well: inefficient resource allocations, organizations being too much occupied with drawing up elaborate reports instead of serving the main purpose of their organization, and general confusion amongst nonprofits and their stakeholders because of the recent proliferation of different management tools and reporting standards (Ebrahim, 2005; Carman, 2010). Increased accountability demands may in cases also run the risk of damaging the relationships between stakeholders and establishing a culture of distrust (Phillips, 2013). Additionally, too often the perceived expectation of behaving “business-like” (Dart, 2004) makes nonprofits adopt practices from the for-profit-context, which have a potentially harming effect in their nonprofit-context (Theuvsen, 2004; Horak and Baumüller, 2013).

So, accountability definitely is not to be seen as an end in itself. Still, potential benefits can be reaped and are considered to outweigh these threats: Stakeholders have been alarmed by scandals involving misallocations or embezzlements of endowed resources by nonprofits, scandals that may weigh even heavier in the nonprofit context than they do in a nonprofit context given their adverse impact on trust and legitimacy of the respective organization; increasingly, they doubt the effectiveness as well as efficiency of the use of the endowed resources (Carman, 2010). Similar developments in the for-profit context and increased levels of transparency for these organizations as a reaction add to this development. Transparency thus becomes a “third way” between relying on the goodwill of being trusted (as it has been common practice for a long time) and running the risk of ending up in a climate of distrust due to not addressing their stakeholders’ increased demands for information. For nonprofits, increased accounting efforts offer a possibility to build up trust with their stakeholders, secure their relationships and thus facilitate the provision of the various resources required from them, making nonprofit accounting a field of high relevance for research in practice. Accountability, accounting and their improvement thus also have a very pragmatic dimension, although they still seem to be a bit of a double-edged sword as well, requiring a careful design of underlying purposes and regulations (e. g. Cordery, 2013) – circumstances that also serve as an explanation for why nonprofit organizations are still reluctant to improve their transparency.

[1] Whilst authors today sometimes use the expression “accountability movement” to refer to the increased requirements in that respect, its use can be traced back at least to the 1970ies, making it look like a long-lasting issue, which has gained increased momentum in the more recent past. Traced back further, roots might be found already in the age of enlightenment.

[2] Of course there is a wide spectrum of possible regulations addressing the accounting environment of nonprofit organizations. In this paper, mainly the regulations within Austria, Germany, and Switzerland are compared. Traditionally – and also for language-related reasons – these “German-speaking countries” are most often contrasted with the situation in the “Anglo-Saxon countries” in the German-speaking literature. That is of course not to say that their accounting systems would not be worth consideration. However, their inclusion would certainly exceed the scope of this paper.

Josef Baumüller

Josef Baumüller, University of Vienna, Department of Business Administration; since Autumn 2014 Controller Institute, Vienna (Austria). His research interests lie in the fields of nonprofit accounting and management control.

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Nikolai Haring

Nikolai Haring, FHWien of WKW, Institute for Management, Vienna (Austria). His research interests lie in the fields of accounting, management, and risk management.

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