Too Big to Fail?

By EMMA BROWN and NICHOLAS KUSNETZ

Serious and persistent fiscal problems have put Mission Neighborhood Centers, one of the oldest and largest community-serving organizations in the neighborhood and the one responsible for producing last weekend’s Carnaval, at risk of losing nearly half of the government grants on which it depends, according to Executive Director Sam Ruiz.

The nonprofit offers unduplicated services for low-income and minority seniors, teens and preschoolers, and many of those services are praised as effective and essential by clients and by outside overseers such as San Francisco State University. But as the organization grew rapidly over the last few years, an understaffed administrative team was unable to cope, leading to poor accounting, financial strain and mounting debt, Ruiz said.

The cash-poor organization has assets totaling more than $10 million, but most of that is real estate—four properties that house MNC’s programs and therefore can be sold “only as a last resort,” Ruiz said.

Now MNC is trying to solve its cash flow and accounting problems before June 1, when a triennial federal review of its Head Start early education program will begin. In 2007, after the last such review, MNC nearly lost its Head Start contract, which amounts to 30 percent of the organization’s revenue and serves a quarter of the children in San Francisco who attend Head Start programs. At stake now, should MNC fail to cure its administrative ills, is not just the federal contract but $1.1 million in state and local grants that are tied to Head Start—altogether, more than 40 percent of MNC’s budget.

MNC’s story is particularly important now, as the nationwide recession threatens to push nonprofits even deeper into fiscal trouble, and municipal governments—which are managing their own financial worries—struggle with how to help. It’s a particularly worrisome situation in San Francisco, where city government has a stated policy of relying on community organizations to offer services that in many other cities are provided by government, according to Carol Silverman, a University of San Francisco professor who studies nonprofit organizations. The city has granted MNC more than $235,000 since October in cash and services to help the organization stabilize its finances.

Quick Growth, Weak Accounting and Then a Surprise From Wells Fargo

MNC, founded in 1959, has grown nearly 50 percent over the past four years to reach operating expenses in 2008 of nearly $8.7 million, making it the fifth largest nonprofit in the Mission after KQED public radio, St. Luke’s Hospital, Mission Neighborhood Health Center and New Leadership charter school. Government grants, including $2.5 million from the City of San Francisco, accounted for some 90 percent of the nonprofit’s revenue last year, according to tax records.

Most of San Francisco’s 7,600 registered nonprofits are struggling to raise enough money in the midst of this historic recession and subsequent spending cuts, according to a recent report by Silverman and her colleagues at the University of San Francisco. But MNC’s problems began long before the current economic crisis forced local and state officials to trim budgets.

Fiscal officers never stayed long, due largely to low pay, and over the last eight years the organization came to rely largely on contract workers, Ruiz said. MNC gets its revenue from 36 funding streams, he said, and until recently did not have an acceptable cost allocation plan, or a way to track money and show it was being used for the purposes it was granted. Producing the annual Carnaval parade and festival that ran this weekend was supposed to be a fundraiser, but most years it lost money.

Cost overruns for Carnaval and other programs were paid with a $300,000 line of credit with Wells Fargo. In the last year and a half, the organization’s cash crunch became more severe when Wells Fargo changed the repayment terms. At the time, MNC was making interest-only payments on the line of credit, but it had never missed a payment, Ruiz said.

The bank, however, deemed MNC a credit risk and converted the line of credit into a three-year loan.

This meant the organization’s monthly payments to Wells Fargo jumped from around $2,000 a month to nearly $10,000 a month—enough to pay the salary for two senior managers, Ruiz added.

“That’s what’s choking us,” he said.

Wells Fargo declined to comment on the terms of the loan or the possibility of renegotiating it, citing confidentiality concerns.

In addition, MNC’s worker’s compensation insurers, Illinois Midwest and the Zenith Group, raised premiums last year, leaving the organization with an unexpected and unbudgeted $111,000 charge. MNC has been paying off that bill in monthly installments of more than $12,000. Just two weeks ago, the two insurers decided to allow MNC to lower that monthly payment to $4,000.

By the end of April, MNC’s projected deficit for this year was $100,000, according to a letter Ruiz sent to Wells Fargo asking that the repayment terms for that loan also be restructured.

If MNC were a business and he the owner, Ruiz said, “I would have filed for bankruptcy already, honest. I mean personally, I would have done it. I couldn’t stand it.”

What is terrifying, Ruiz said, is that MNC’s fiscal troubles are endangering its major government contracts—especially the federal Head Start contract, which amounts to $2.6 million, or 30 percent of the organization’s annual revenue.

At the beginning of the 2007-2008 school year, a San Francisco State University board recommended stripping MNC of its federal Head Start funding, according to board meeting minutes. SFSU is the local administrator of the national program, which gives free preschool to poor families. It was considering the cut because of a slew of problems with MNC’s finances, according to letters sent by a federal Head Start administrator and the SFSU program.

MNC’s Head Start programs provide services to 380 of the 1,398 children who attend Head Start programs in the city. Most of MNC’s students are from immigrant Latino families, according to Ruiz.

The organization runs nine separate centers out of a total of 33 in the city, according to the program’s executive assistant, Fatima Sequeira.

Minutes from an August 9, 2007 meeting of the Head Start Policy Council at SFSU said MNC had a “long history of fiscal problems” and had failed in “Monitoring and Human Resource Management, as it pertains to hiring key staff such as a qualified Fiscal Officer and the stability for that position.”

MNC lacked internal controls, such as requiring co-signatures on checks or approvals for credit card expenditures. The council resolved to give MNC 90 days to fix those problems or lose the contract.

Among the financial problems identified was $88,000 in contributions to a 401(k) plan that the organization billed to the federal government despite never having made the payments. Ruiz said the mistake happened because the organization billed Head Start at the beginning of the year, while the 401(k) payments were scheduled for the end of the year. But, because MNC was running a deficit at the end of the year, it could not (and was not required to) make the payments. He said MNC later repaid Head Start the money.

SFSU’s Head Start administrator, Juanita Santana, would neither confirm nor deny whether the payment was made. But after MNC hired a new accountant and made other changes, it was deemed compliant in a September 2007 letter from Santana, and SFSU did not revoke the grant.

Santana said she has continued to work with MNC to improve its fiscal structure and that the organization’s programs are excellent.

“They’re doing an outstanding job for the children and families in the program,” she said.

But she would also neither confirm nor deny what Ruiz said: that the SFSU board recently said it may not renew MNC’s contract when it expires next year if the organization continues to struggle financially. Santana would only say that financial issues are always one of the criteria the board looks at when it examines the contracts.

Like Other Nonprofits, MNC Has Little Money for Administration

At the root of all the organization’s fiscal trouble, Ruiz said, are the restrictions on government grants that prevent MNC from using more than a certain proportion—usually, 15 percent—for administration and management.

“We’re bottom heavy,” said Ruiz. “There aren’t sufficient managers and senior managers in place to support the organization,” he added, pointing out that because of the 15 percent restriction, the 120-employee nonprofit has no one dedicated to human resources, no development director to focus on raising money, and no facilities manager to deal with maintaining MNC’s 13 separate properties, four of which it owns.

Ruiz said MNC used to be able to function without those high-level managers, but can’t anymore because of its rapid expansion over the last seven years. Some of that expansion has come from other nonprofits folding or underperforming and MNC picking up the programs so they could continue.

Five years ago, for example, MNC gained an annual $500,000 grant when it took over the Mission Girls program from the YWCA. In 2006, taking on the Mission Beacon, an after-school program at Everett Middle School, added more than $300,000 a year in new government funds.

And managing colorful Carnaval each year tacked on another $1.3 million to annual expenditures, according to a 2008 audit of MNC’s finances, though the organization does receive some city funds for the event—$103,000 this year, Ruiz said.

Nonprofits like MNC generally raise money from private donors and foundations, and those often less-restricted funds can help pay for administrative costs uncovered by the 15% or less allowed by government grants. But MNC, lacking a full-time fundraiser, has instead made ends meet by borrowing.

Using its Capp Street headquarters, which it owns free and clear, as collateral, the organization has established two lines of credit. One, with the California Economic Development Lending Initiative, carried a balance of more than $284,000 as of June 2008.

The other is the Wells Fargo loan, this principal of which was down to $195,354 as of the end of April.

The organization also owed roughly $2,500 to CostCo, which means it incurs a $250 monthly finance charge.

“It’s really disappointing that MNC relies so much on government contracts,” said a city official who requested anonymity to protect her relationship with MNC. “They have to be able to get money from other pots that are unrestricted.”

The official acknowledged that the 15 percent requirement on administrative funds is insufficient, but said this is exactly why organizations need to be able to raise their own cash.

“For someone of MNC’s size, scope and history, I’m just a little shocked,” the official said. “They’re not supposed to be in this situation.”

But according to a report published in April by the University of San Francisco, MNC’s fiscal problems are not terribly unusual among the city’s nonprofit sector. About three-quarters of San Francisco’s 7,600 nonprofits reported trouble raising unrestricted general operating funds, and 61 percent lacked confidence in their ability to raise enough money to meet their current budgets.

A city task force charged with strengthening the nonprofit sector recommended in April that nonprofits merge to share overhead costs, and use third-party companies to help with fiscal management and administration.

“There is tremendous pressure on nonprofit organizations. They often operate without adequate funding for infrastructure—receiving and spending all of their money for direct services,” wrote Margaret Brodkin in an email. Brodkin, the former director of the city’s Department of Children, Youth and their Families, was asked to resign in January.

“Maintaining buildings, managing administration and finances, and HR often take second place to responding to immediate needs for service from clients,” she wrote. “I like to think that government’s response is to try to help solve the problems of important agencies like MNC.”

Poor Record Keeping Grows into Bigger Problems

In February of this year, MNC was again on the verge of losing grant money because of its weak record keeping.

MNC runs Mission Beacon at Everett Middle School, one of the city’s seven after-school Beacon programs for teens. In its proposal for next year’s budget, DCYF slated Mission Beacon for a $50,000 cut—by far the largest cut to any Beacon—citing poor attendance and MNC’s fiscal problems.

Beacon staff said they were accidentally underreporting their numbers. After intense lobbying and appeals from Mission Beacon’s director, Valerie Tulier, DCYF reduced the proposed cut to $30,000, still the largest to any of the Beacon centers’ base funds.

The organization also has failed to keep accurate, up-to-date records on its employees’ tuberculosis tests. Federal law requires that anyone working with youth and seniors have a valid TB test.

In addition, MNC’s status with the state as a charitable organization eligible for government grants is currently delinquent due to misfiled paperwork.

“We’re lousy at tracking and part of the reason we do such an unacceptable job is dollars,” said Ruiz. “Funding for tracking is almost never available.”

Even when the money is available, MNC doesn’t always have the expertise and person-power to use it. For example, the organization applied for and was granted $100,000 in federal money to install a wheelchair lift at Precita Center in 2005, thereby making that property compliant with the American with Disabilities Act—and eligible for otherwise off-limits state money that is set aside for after-school programs.

About a year ago, Ruiz said, the Mayor’s Office of Community Investment, which administered the federal grant, threatened to withdraw the money because it wasn’t being spent. With the dollars sitting unused in the bank, MNC was prohibited from applying for new grants that require wheelchair accessibility.

Today, Precita Center is still without a wheelchair lift and is still ineligible for state grants that require receiving facilities to be handicapped-accessible. MNC was able to redirect the $100,000 to construction at a new Head Start facility they are opening, at Third Street and Evans Avenue. Ruiz said they have since been awarded a new grant for the lift at Precita for $160,000, with the rest of the $40,000 required to build it to come from private donations.

The City Steps In

It’s a vicious cycle: MNC doesn’t have a strong fundraising program, which means it doesn’t have the money to hire a fundraiser or any of the other managers to strengthen its infrastructure—which looks bad to potential donors, including the government.

To put an end to the cycle, DCYF together with HSA granted the organization $200,000 in October 2008 for building infrastructure. The money, to be used before August 2009, is meant to help make MNC more sustainable by allowing it to hire a facilities manager, a development director, a grant writer and a human resources manager.

So far, the organization has hired a facilities manager, though that person recently resigned to take a higher-paying job elsewhere. MNC also hired a grant-writing consultant, who has raised more than $100,000 in private donations since October, and two accountants who are helping design a new fiscal accountability plan. The human resources manager and development director still have not been hired.

In addition, the Controller’s Office recently signed a five-month, $35,000 contract with another fiscal consultant to assess MNC’s infrastructure needs and offer recommendations for sustainability.

“The stress that we were experiencing for some time has decreased,” said Ruiz. “We’re better off.”

Ruiz is trying to renegotiate the terms of loan payments to Wells Fargo to free up more money each month. The organization’s board has brought on the manager of a Wells Fargo branch and is looking for more potential members with experience in fundraising and fiscal management. And MNC has created a subsidiary nonprofit, San Francisco Cultural Arts Traditions, to insulate itself from the liability—and losses—associated with producing Carnaval and Cinco de Mayo events.

But the organization is still seeking a long-term, sustainable strategy to keep it solvent, he said. The organization briefly considered running a bingo hall on Cesar Chavez but decided that was inconsistent with its mission.

Another model was running a mixed-income, Spanish-immersion preschool at Potrero Hill’s Daniel Webster Elementary School. The idea was that wealthy families would pay fees to help offset the costs of providing services to low-income families. That experiment failed after just three months, in December, Ruiz said—not because the model was flawed but because MNC attempted to open the site too quickly, before hiring a director or head teacher. They could not successfully run a program without those staff members, he said. Now another nonprofit is running the preschool.

Ruiz has not given up on this model, and hopes to convert several of MNC’s Head Start sites‚where, currently, all children attend for free thanks to federal subsidies—to mixed-income sites where some children pay tuition. He is also considering a deal with Mission restaurateur Gus Murad to build a new Head Start facility at the New Mission Theater site, which Murad is developing. Murad would donate 5,000 square feet of space, Ruiz said, and MNC would foot the building costs—an estimated $1 million.

Asked how he could consider taking on further debt when the organization is already struggling, Ruiz said it does indeed make him nervous, but it might be necessary to begin generating revenue.

Another plan is to raise money by building and renting affordable housing. MNC owns two lots at the corner of 24th and Harrison streets that were rezoned under the Eastern Neighborhood Plans to allow for a 55-foot height limit. It bought the lots in 1994—in part, Ruiz said, to prevent PepsiCo from opening a Taco Bell there.

Ruiz envisions a mixed-used development on that corner, including the Head Start facility already on the site, youth counseling services, a community center, one commercial retail space and affordable apartments for seniors.

The organization has already issued a request for proposals and will select a developer by the end of July. Ruiz said the developer will pay for the project in exchange for some concessions from MNC, which will retain ownership. He did not give details of what he envisions, but Harry Wong, an architect with Asian Neighborhood Design, which is consulting on the project, said that generally a developer will help a nonprofit raise funds or secure financing for the project in exchange for a fee or part ownership.

Meanwhile, Ruiz is looking for a bank willing to give MNC a $500,000 loan, amortized over 20 years. That would allow the organization to cover its debt, with a little cushion, and would lower monthly payments by nearly half—enough, Ruiz hopes, to convince government grant makers that the organization is stable enough to continue running youth and senior programs in the Mission.