Non-Profit Organisations. Kind of not at all what we think.

Here’s a headline:

“Lehman Reaches Beyond Grave to Grab Millions From Nonprofits“

Spicy. It’s Twilight meets the Zombie Apocalypse meets CNBC’s Squawk on the Street.

The background:

Lehman Brothers was the Too Big To Fail bank that failed in 2008.
When the US government let Lehman collapse, the world was suddenly all “You’re joking – we thought that could never happen!!” and proceeded to collapse into a state of depression/recession* that it is yet to really recover from.
At the time that it failed, Lehman had open swap and derivative contracts** with plenty of people and organisations, including non-profits.
In real life, swaps and derivatives are really just bets on a coin flipping one way or the other.
On some bets, Lehman was winning, and it was owed money.
On other bets, Lehman was losing, and it owed money.

The story summary:

Lehman (or, rather, the attorney-office-formerly-known-as-Lehman) is now after the payouts for the bets it was winning in order to pay out the bets it was losing;
And it’s also tacking on 14% interest PER YEAR for any of the winnings that it was owed.
To put that in perspective: five years on, that’s 93% of the original amount owing in interest alone.
And some of the bets that Lehman is winning were bets against non-profits.

Which all sounds really terrible. Because of the non-profits.

But I have significantly less sympathy for non-profits than the journalist writing this article. Maybe I’m jaded (someone is sure to accuse me of that) – but ever since reading the TIME Magazine article about the billing practices of the healthcare industry in the US, I have been a little more circumspect about non-profit organisations.

What Does It Mean To Be Non-Profit?

Being a non-profit organisation does NOT mean that “it doesn’t make any profit”.

What being “a non-profit organisation” actually means is that the organisation/company does not exist with the primary motive of making a profit, and it doesn’t have shareholders and/or owners. So any profits made are usually kept in reserve for future use by the organisation/company, rather than being dished out as dividends.

Because of these two characteristics, non-profits generally get special tax status (ie. no tax on any profits they make).

Some examples: charities, churches, hospitals, schools, universities…

The Key Point

The real distinction between a for-profit and a non-profit company is how-much-tax-they-should-pay. And if you think about it, that’s a strangely unnecessary distinction if a non-profit makes no profit to be taxed in the first place…

In practice, many non-profits are hugely “profitable” (like hospitals), and they’re often the recipients of generous donations (I’m yet to hear of a university that doesn’t send out pleading donation requests to its alumni). So they end up holding massive reserves of funds (what many tax codes like to call “surplus revenues”) that have to be invested and managed until the organisation has need of them in the future.

Sidebar: whenever you hear the word “endowment” used in reference to universities, hospitals and the like – just know that it’s usually referring to the swimming pools of coinage in which non-profit executives are contentedly doing breast-stroke.

In reference to this article, it is that type of non-profit that can engage itself in swap arrangements with big banks like Lehman. We must be serious. No cash-stripped on-the-poverty-line mom-and-pop charity is going to be holding complex swap arrangements with too-big-to-fail banks!

So just don’t feel like Lehman is denying the poor starving children of Africa some sustenance…

*There are some definition issues here. Economists define depressions and recessions as different from each other. And depressions can become recessions, which make recessions a deeper form of depression. But neither of these is a contraction, which is normally symptomatic of both a depression and a recession, but need not necessarily… You get the general idea about terminology: all just ways of describing things not being well.

**Unfortunately, this is not a post about swaps and derivatives – which makes this footnote necessary. Swap and derivative contracts are essentially bets, and an “open” contract means one whose outcome either hadn’t been settled (in the case of a derivative), or one whose outcome was indefinite (in the case of a swap). If I was to describe this in metaphorical terms, a derivative would be a hand of Texas Hold’em where the river card is still to be flipped; and a swap would be a multi-roll bet in a game of craps (a game that no one really understands, but that seems to work out in your favour suspiciously often…until it doesn’t…but you’re still not sure why).