Saturday, June 23, 2018

Grace Church: Living Above its Means and the Cost of Not Saving for the Future

Another example of just how dysfunctional Grace Church and Bob Malm are is the church’s budget. Specifically, the fact that the church now hopes to borrow $600,000 to pay for needed updates to its HVAC systems makes clear that its current cost structures are both ill-advised and unsustainable over time, while financial management is mediocre, at best.

History of these Issues

By way of background, the HVAC systems in the church have undergone two modifications in recent years. Once, in 1994, when they were expanded as part of the overhaul of the building; and about ten years ago, when two new condensing boilers were installed as part of a capital campaign. Note that, at that time, experts advised a major overhaul of the single-line hot water heating system due to the age of the piping, which was nearing end of life. That recommendation was ignored. (The life expectancy of the condensing boilers is greatly reduced by the failure of the church to maintain them in the manner required when mixing aluminum and cast iron HVAC components. But that is a story for another post.)

Of course, when the big 1994 building project was undertaken, it was reasonable to know that much of the HVAC infrastructure would need to be replaced by 2014, as most systems except for the pipes have about a 20-year lifespan. That means that, at the time of the 1994 project, there should have been a plan to start setting aside capital reserves to pay for the eventual replacement of these items. Moreover, HVAC piping, much of it original to the building, has a 65-70 year life, meaning much of it is now at end of life. (The same is true for potable water lines in the building. Anything original is now at end of life.) 

People recognized this, and for many years the church made a token effort to set aside $5,000 annually towards replacement reserves. That’s right—one-half of one percent of the annual budget. That compares against the normal rule of thumb in such cases, which as a rough estimate usually comtemplates about 10 percent of annual revenue going into cash reserves. So, in true Grace church fashion, the church tried to split the difference, and spend today without worrying about tomorrow, while still saying it was taking steps to address the issue.

Nor was the 1994 project well done. Below are photos of the infamous 2014 ruptured pipe, which burst just 20 years after installation, due to the use of improper and non code-compliant pipe in the 1994 project. The upshot? Challenges experienced during the project, including a builder that went belly-up shortly after the project was completed, should have alerted decision makers to the need to increase contributions to replacement reserves.

So what happens when replacement reserves are underfunded? One of two things: Either deferred maintenance or cash flow problems, both of which are now happening at Grace church. Below, for example, is a photo of a leak in the church’s basement, which was ignored for years., resulting in a section of the basement wall collapsing. The actual repairs to address the leak were nominal in cost. Meanwhile, the mold and mildew in this area, which houses air handling equipment for the nave, exposed parishioners to dangerously high levels of airborne pathogens. Note, too, that deferred maintenance typically is the most expensive maintenance, with preventive maintenance typically costing a fraction of deferred maintenance.

Consider, too, that some studies, including one by the Lutherans, note that most churches woefully underfund their replacement reserves, by putting aside an average of just 2 percent per year. That’s right—most churches save four times as much as Grace does when measured as a percentage of budget, yet they have far too little in reserves. Telling, and illustrative of just how cavalier the parish is when it comes to ensuring its future financial stability.

Nor should one be lulled into a false sense of security by looking at existing bank account balances. By law, restricted solicitations cannot be repurposed absent the express consent of donors. That means that funds raised, for example, for the columbarium cannot be reassigned to cover HVAC expenses. To do otherwise is fraud. Given that much of the money in question is restricted, or “funds held for others,” there’s no plan B sitting in the STAMP or checking accounts.

Benefits of Saving

Now, let’s look at the advantages of setting aside funds over time for replacement reserves. Assuming anticipated expenses of $600,000 between 1994 and today and a 5 percent rate of return on investments, the church would have had to set aside $1,244.14 a month to cover the cost. That’s very reasonable.

Even better, the project would only cost the church $531,760.32, with the rest coming from interest. That’s more than $68,000 in “found money.”

Being Prepared to Borrow

Nor is the church really prepared to borrow. Being ready to borrow means having your trustees current (this recently was done), having clean financial reporting, and a recent audit according to generally accepted accounting principles (GAAP). Given the deliberate misuse of memorial donations given by my family in 2015 and the fact that the books are only now getting cleaned up by Beth Callahan, things are, at best, off to a bumpy start. Plus the sharp decline in the number of pledging units and Average Sunday Attendance (ASA) in recent years would make any bank leery. There also is the issue of getting a full-blown audit, which typically would cost somewhere around $20,000. In other words, it is not cheap to borrow money, and Grace’s thin finances already are shaky at best.

The Cost of Borrowing

Now, let’s look at the actual cost of borrowing the $600,000.

Assuming a seven-year loan at 12 percent annual interest (not unusual terms for an unsecured loan), the church would have to make monthly payments of $16,666.67. Interest paid over the life of the loan would total $289,728.01.

Even assuming an annual interest rate of 7 percent over a seven-year period results in some really ugly numbers. The monthly payment would be $9,055.61, and the total cost with interest would be $760,671.07. Yikes—the $1244.41 monthly contribution that would have been needed to save this sum is sounding better by the minute. 

The issue becomes particularly clear when we look at the delta between the cost of this project when funded via savings, versus borrowing. Factoring in the accrued interest that would have been derived from saving the money means this project will, at minimum, cost an extra $220,000 over the life of the loan, and that omits application and origination fees. That’s more than 20 percent of the church’s annual income.

The bottom line: Having to borrow the funds needed to keep HVAC on in the building makes clear that the church has been living above its means for a long time, and has been acting irresponsibly. It’s not like these expenses come as s surprise. Borrowing the money is the most expensive way possible to pay for these capital expenses.  It is irresponsible and a waste of the donations entrusted to the church to borrow, when the church all along has had the ability to save the money by effectively managing its resources, including not wasting money on under-producing employees and lavish clergy bonuses.

Who’s Responsible?

Of course, Bob (never one to be accountable for anything except as a rhetorical matter) will tell you, “Well, that’s not my decision. The vestry handles all that.”

But that ignores that fact that Bob was able to browbeat the vestry into spending more than $1.2 million on his personal residence, while demolishing another $700,000 in the form of the rectory. Then, of course, there’s the $100,000 bonus the vestry gave Bob in 2014. When was the last time you got a bonus of that size?

Plus, Bob has shown that he will unilaterally remove people from church membership via instructions to church staff. So why not a unilateral instruction to staff that there will be a real replacement reserve study? Both David Adams and I have made that recommendation on multiple occasions, but it was ignored. (I actually paid for one such study out of my own funds, but declined to provide the results to the church due to bad behavior by Lisa Medley and Bob Malm. Res ipsa loquitor.)

So, don’t let Bob tell you that he’s not ignoring his responsibilities. Everyone needs to save for a rainy day, and that includes churches. Any rector who can bludgeon his vestry into spending $2 million in total on his personal residence can damned well show the same initiative when it comes to the church’s financial well-being over time. And that’s all the more the case when, as here, the Planet Malm executive committee is appointed by Bob.

Nor does this account for other outrageous and wasteful expenditures, such as the more than $3,000 pulled from Management Reserves to pay for head of school Chris Byrnes’ farewell party. That’s right—the church paid for a party from its savings. Folks, if you are going to spend that kind of money on a party — and there’s good reason not to — it should come from operating funds, not savings. If you can’t afford to pay cash-and-carry for your party, you shouldn’t be partying. Just saying.

As things stand, the church appears to follow the same budget as Bob does at home, which is to keep up appearances at all cost, and never worry about saving for tomorrow. In short, this is one sad church.