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EXECUTIVE SUMMARY
Introduction
1. The Strategic Funding Review, currently being undertaken jointly by the Scottish Executive, the Convention of Scottish Local Authorities ( COSLA) and the Scottish Council for Voluntary Organisations ( SCVO) has identified Full Cost Recovery ( FCR) as a key component in achieving sustainability for the voluntary sector. The partners have agreed that funding relationships between public and voluntary sectors should be based upon FCR where appropriate.
2.GEN Consulting was commissioned to assess the impact of adopting FCR principles in terms of:-
- Measuring and considering the benefits, risks and costs to both the public and voluntary sectors;
- Creating a realistic picture of FCR's impact given its non-compulsory nature, and the support that both voluntary organisations and public service providers will require going forward; and
- Producing recommendations on implementing FCR in a realistic way.
3. The methodology for the study involved:-
- A literature review and key player interviews to assess the main issues impacting upon FCR;
- A survey of 100 voluntary organisations to identify the extent to which FCR was currently practiced, the extent of underfunding and attitudes to FCR within the sector;
- Focus groups with voluntary sector organisations in contrasting areas to explore issues in more depth;
- A survey of public sector agencies to identify current FCR practices and attitudes to it; and
- Case studies of organisations in the public and voluntary sectors highlighting the diversity of theory and practice in relation to FCR.
Background to full cost recovery
4.FCR in principle means that when a voluntary organisation provides a service for a public body it should be able to recover, not just the direct costs of delivering that service, but also the relevant proportion of overhead costs. These costs include: premises and related costs; central functions, such as, human resources; governance and strategic development; provision for inflation and depreciation; provision for the costs of future regulatory changes; and general fundraising.
5.FCR is widely believed to be a key component in the drive towards a sustainable voluntary sector. The key benefits of greater financial sustainability for the sector include: increased security and retention of staff; greater stability; increased access to other funding streams; more effective long term planning; being able to compete effectively for resources; and having the ability to get more involved in key areas of policy and provision in Scotland.
6. Benefits to service funders could include: more effective use of funding; increased options for service provision; improved value for money; better services as organisations can focus on service delivery rather than fund-raising; and clarity about the costs of providing a service so that strategic funding decisions can be made on the basis of a level playing field.
7. However, in practice, there are a number of barriers to the effective application of FCR, including:-
- Lack of cost information;
- Lack of agreement on which costs should be funded;
- Lack of clear and practical guidance;
- Inconsistency in practice at a local level; and
- Strings being attached to funding.
8. The "cost neutral" scenario seems to be implied by the Executive but was treated with a degree of scepticism by many of the public sector interviewees. This would also seem to contradict the reason for introducing FCR, which is to pay more to the voluntary sector to cover the costs of service provision that are currently funded by other means.
9. Although it is a simple concept in theory, FCR is likely to be problematic in its implementation. For example, there are likely to be difficulties in calculating full costs, (and inconsistencies in approach) whilst some public funders seem likely to be unwilling to implement it. Moreover, it is likely to be applied differentially. Thus it may apply more to certain types of voluntary organisation and some funders are more likely to be willing to pay full costs than others.
Voluntary sector survey
10. A survey of voluntary sector organisations was undertaken. A stratified sample, derived from SCVO's database of all organisations in the voluntary sector with incomes in excess of £25,000, was designed. This was based on: geography (local authority area); type of activities (based on SCVO's 12 fold classification); income band; and year of establishment. The sample size was around 450. One hundred responses were received, giving a response rate of 22%.
11. Around half of organisations surveyed relied on public sector contracts for over 80% of their income.
12. Whilst 80% knew about FCR, only 14% of respondents claimed to practice it on all contracts, though 48% practiced it on some. Around one third were not practising FCR at all. Where organisations did practice FCR they very rarely did this explicitly. Respondents also varied their practices according to what they thought would be acceptable to funders.
13. The majority of the contracts identified between the voluntary sector and public bodies were with local authorities (53%) or the Scottish Executive (23%). Most took the form of grants or service level agreements (81% of all contracts). Most contracts are for under £100,000 per year.
14. Almost three quarters (71%) of the contracts identified were not based explicitly on full costs. When FCR was not being practiced, just under half (46%) of contracts covered between 81% and 99% of the total costs of service delivery. For around a third (32%) 61% to 80% of the full costs were covered. The responses show that there is a significant degree of subsidy of service delivery by the voluntary sector, with larger organisations accounting for most of this.
15. Most voluntary organisations that subsidise public sector contracts tend to do so from a variety of sources. Reserves are used most frequently followed by donations and investment income. There is also cross subsidy from other grant and income sources. Almost half of the organisations stated that they were making some form of efficiency savings in order to cover these subsidies.
16. The impact of subsidising the shortfall implies that the financial health of the organisations is suffering as a result of not receiving the full costs of service provision. As this could undermine longer term sustainability, this raises a broader set of questions about the wider impact on vulnerable people and deprived communities, especially given that these are the target clients and areas for many voluntary organisations.
17. The main reason given by the majority (78%) of respondents for not practising FCR was that they felt that clients would not pay the full costs of service delivery.
18. In terms of impact, almost all (94%) of the organisations surveyed believed that a move to FCR would help them to develop and/or maintain financial reserves. However, there were doubts about the likelihood of public bodies moving to FCR given the perceived limitations of public sector budgets.
Voluntary sector focus groups
19. Three voluntary sector Focus Groups were held in contrasting areas: a remote rural area, Inverary; a semi-rural area, Arbroath in Angus; and an urban area, Clydebank. Attendees tended to be from the larger, small and medium sized organisations. About half of the attendees either knew or had heard about FCR.
20. The attendees were from organisations that were funded by a variety of private and pubic sector bodies. Attempts were generally made to tailor funding applications according to the requirements of funders, often by reducing the level of overhead costs to a level more likely to be acceptable. Organisations experienced difficulties covering core costs and often had to cut costs, cross subsidise from other income sources or generate additional income to survive.
21. Despite the difficulties, the view was that organisations continued to provide services because of the strength of "the voluntary sector ethos" and the fact that often they provide a unique service. Participants recognised that funders were aware of, and often exploited, this ethos.
22. It was felt that FCR could jeopardise the voluntary sector ethos by reducing the need to generate additional income and engage volunteers. It was also feared that there might be a loss of independence if all costs were covered by public sector funders.
23. Whilst Best Value principles could allow the voluntary sector to differentiate itself, in practice, experience was that Best Value was interpreted as meaning lowest cost. This could disadvantage voluntary sector providers.
24. Some time was spent discussing the costs that organisations incurred in delivering services. It was, however, recognised that prescribing a detailed list of items that were eligible to be included in any FCR equation could be counterproductive.
25. A significant rural dimension to FCR was highlighted by some attendees. Key areas where expenses tended to be greater were: travel costs, property rentals and training.
26. Most Focus Group attendees were sceptical about the likelihood of full cost recovery being implemented. The effects of implementation were felt likely to be positive for large organisations (many of which already received full costs) but could lead to further financial constraints for smaller ones.
Public sector interviews
27. Seventeen public sector representatives were interviewed during the research: nine from the Scottish Executive, five from local authorities and three from Non-Departmental Public Bodies. The areas of discussion were: contracting with the voluntary sector; how FCR could be implemented; how FCR fits with Best Value and efficiency targets; and the implications of implementing FCR.
28. Interviewees were involved in contracting with the voluntary sector on a number of levels, across a broad range of areas. Some agencies openly accepted FCR, though none of the local authorities interviewed had explicitly done so.
29. Increased funding was seen as a crucial pre-requisite for FCR's implementation, to allow public agencies to cover the costs involved. There was, however, little consistency of what these increased costs were likely to be and thus a lack of knowledge on the likely impact of FCR's implementation.
30. Interviewees felt that the voluntary sector needed to focus on capacity building. This would allow the sector to be: more business-like; to accurately apportion costs; and develop negotiation skills to ensure that it could participate in any discussions over contracts. It was recognised that a certain amount of reorganisation would be required within the sector, and that this could have extra costs, over and above those likely to be incurred through FCR.
31. The key issue emerging from the public sector interviewees, especially from local government, was that a move to FCR might not fit well with some of the Executive's over-riding policy drivers. Given that they are focused on reducing costs and increasing efficiency, a move that might increase costs was seen as problematic.
32. The view, generally, was that FCR had the potential to have a significant impact, though there was a lack of knowledge as to the extent to which it was currently being practiced. However, whilst potential benefits were identified, the risks and disadvantages were felt to outweigh these.
Case studies
33. Five voluntary sector and four public sector case studies were undertaken, each of which looked at experiences of, and practice in, implementing FCR.
34. The main issues to emerge from the voluntary sector case studies were: the need to develop a clear FCR model; being transparent about what costs were included in this; ensuring that staff were clear as to why FCR was being practiced; the importance of having diverse funding sources; and being willing to withdraw from the provision of services if full costs were not being paid. Underlying these issues was the importance of educating funders and of presenting costs in a way that was palatable to funders.
35. The public sector case studies provided less opportunity to identify good practice as many funders were still in the process of introducing FCR policies and practices. However, the following can be highlighted: developing clear criteria upon which funding decisions can be based; developing a list of overhead costs that are eligible for inclusion in FCR calculations; and developing consistent frameworks to apply these.
36. Two of the public sector case studies showed that FCR was unlikely to be cost neutral. For example, the Big Lottery Fund's experience was that introducing FCR had resulted in cost increases of 5% to 10% for the same level of outcomes.
The costs and implications of FCR implementation
37. There were a number of difficulties in calculating the cost of FCR's implementation. These relate to the extent to which the survey sample was representative of the voluntary sector in Scotland and the accuracy and representativeness of other data about the size of the sector and its income distribution.
38. By using a variety of data sources and making a number of assumptions the "best estimate" is that the direct public sector costs of implementing FCR annually in Scotland range from £106 million to £130 million. This equates to between 4% and 5% of the sector's estimated annual income.
39. In terms of implications of FCR implementation, these would depend on which one of a number of possible scenarios materialise.
40. Continuation of the status quo would mean that the trends that are already evident would continue. For example, large organisations will move towards FCR, medium ones will muddle through and the smaller ones may be funded primarily on a "take it or leave it" basis. The danger for the public sector is that the medium and larger organisations may become less willing to subsidise contracts and may withdraw from delivery. Smaller organisations may face having funding withdrawn.
41. If FCR is implemented, and the costs are fully funded by the Executive, then there would be additional funds coming to the sector which would allow it to diversify its services and remove the need to cross-subsidise and use reserves. However, there would be a need: to decide what FCR was to be applied to; to manage expectations of the sector; to control costs to within the budget ceiling; and to ensure that the full costs were passed on by public bodies.
42. If FCR's implementation was partially funded by the Executive and partially by other public bodies, then the implications would be that: some organisations would receive full costs; the public sector would save money; and there might be new entrants to the market. On the other hand, there could be a move towards greater use of competitive tendering; some voluntary organisations may no longer deliver services; there would be increased scrutiny of organisations' costs; the voluntary sector could begin to fragment; the quality of service may suffer; and there would be a need to ensure that full costs were passed on by public bodies to the sector.
43. Should FCR be implemented with no additional funding from the Executive, the likely implications would be that: organisations delivering statutory services would receive full costs; the public sector would save money; and there would be some new entrants to the market. The negative impacts would be similar, but more pronounced, than those mentioned in Paragraph 42, whilst the diversity of the sector could be threatened.
Action points
44. Sixteen Action Points were highlighted in the report. The main ones were:-
- Greater efforts should be put into:-
- Promoting the national Compact between the voluntary and public sectors and developing local versions; and
- Promoting Best Value to local authorities, in particular stressing that it need not always be about going with the lowest cost option;
- Voluntary sector service providers should be willing to withdraw from contract negotiations and service delivery when public bodies are unwilling to pay what are felt to be reasonable and realistic costs of service delivery;
- The theory and practice of FCR needs to be promoted across the public sector (especially to those who have responsibility for procuring services) and within the voluntary sector, perhaps through seminars and other events. Consideration should be given to the suitability of existing guidance before more is produced;
- The Executive, COSLA, other public bodies and the sector need to:-
- Reach agreement on the items that are eligible for inclusion in any FCR model; and
- Define clearly and unambiguously the type of funding relationships that exist between the public bodies and the voluntary sector within Scotland, and which should fall within the scope of FCR;
- The Executive should consider the increased costs faced by public bodies in implementing FCR, and how this should be reflected in their financial allocations;
- In addition consideration should be given to whether "one-off" financial support should be given to pay for training, with this being spread over two or three years; and
- Individual organisations in the sector should be encouraged to: access such funding programmes as Futurebuilders so that they can develop their capacity to use FCR effectively; and consider how they can work together by sharing specialist staff and back office support in order to increase their financial efficiency.
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