Just like any large business, a small nonprofit needs to understand its financial health. This analysis can only come from good accounting and the ability to comprehend financial ratios. Accounting should be completed using Generally Accepted Accounting Principles, or GAAP, to create financial statements, from which ratios can be generated. Financial ratios are used to ascertain the financial strength of a business and offer evidence of the company’s risks and management's strengths. They can be broken down into four general categories.

Income Ratios

Income ratios look at the revenue stream of your nonprofit company. The most important of income ratios for a nonprofit are the reliance ratios. These ratios are a percentage of revenue from a specific funding source. They give you the reliance on a funding stream and allow you to assess risk based on this dependence. Due to the nature of grant funding, a nonprofit can end up with a disproportionate amount of its funding coming from one source. This would give a high reliance ratio and indicate a significant risk to the company if that grant source were to stop its funding.

Management Ratios

The management ratios give executives an idea of the profitability strength of the company. Of particular interest for a nonprofit is the change in unrestricted net assets, or CUNA, ratio. The CUNA ratio is the unrestricted net assets divided by the total unrestricted income. This ratio is important for a nonprofit because grant funding and some donation funds are generally restricted funds that must be used for a specific program or purpose. Restricted funds do not help establish a business's overall strength. Unrestricted funds can be used for whatever overall expense is necessary, including administrative expenses and savings used for cash flow.

Cash Ratios

One of the most important cash ratios is the current ratio. This analytic tool is the proportion of current assets to current liabilities. In essence, this ratio indicates whether a company can pay bills on time. Because nonprofits often have irregular funding schedules, having enough cash on hand to pay bills is important. This ratio and an analysis of funding patterns will give management an idea of how much cash is needed in reserve to maintain healthy payment capacity.

Debt Ratios

Debt ratios give you a solid idea of how much is owed by a company. Of importance to a small nonprofit are the aged accounts payable ratio and the aged accounts receivable ratio. These are ratios of aged accounts over 90 days and they give the nonprofit a good idea of how much is owed to and from the agency. If the accounts receivable is too long, the company may need to maintain extra funds in reserve or find other funding streams. If the accounts payable is too high, the company may have debt payment issues.