Cash Reserves: How much should a business save?

I maybe writing this during a time of a pandemic, but this is something you should think about at any time. Yes, It’s 2020 and we are all home trying to suppress the Corona virus’s spread. Unfortunately business or personal, money is going to be tight. Government has been thinking of rolling out a stimulus, but the numbers they are thinking about are not going to be making a major dent. We should all really start to be frugal before the time of need. via GIPHY One financial decision all people in general, need to make is how much to save. Save too much you take away from your growth. You will have less to purchase assets or buy tools etc. Save too less, and when you don’t have enough revenue you will suffer and possibly even go out of business. In reality there is no one-size-fits-all approach that applies to everyone’s business. You need to assess where your company is in its lifecycle, as well as a look at some quantitative factors and a bit of worst-case scenario planning. If you’ve got an early-stage company without much revenue, then it probably isn’t practical or sensible to stash away enough cash to cover six months or more of operating expenses. But it’s definitely smart to start planning for the future and adopting a prudent approach to cash management. Strategize to Determine Your Cash Reserves In my opinion startups should consider setting aside a small portion of their revenues, five to ten percent, in a reserve account and then re-assessing their needs as the business grows. Only once you are past the start up phase and have a steady revenue stream, you can start to determine the right size for your cash reserves:

Get your most recent balance sheet and income statement from your accountant
On the balance sheet, subtract your current liabilities from your current assets to determine your working capital, which represents your firm’s short-term liquidity.
Take a look at your total operating expenses for the past 12 months on the income statement, and divide that figure by 365 (number of days in year) to calculate your daily operating expense (this is the amount it costs to run your business each day).
Then divide your working capital by your daily operating expense and you can see how many days of funds you have on hand to cover operations.

Let’s be honest there is no real magic number that you’re looking for, you should have enough to cover at least a few months, and if your business is seasonal or depends on big orders that can be fluctuating, then you are definitely going to want a larger cash reserve. Be prudent in addition to performing the preceding quantitative exercise, ask what if questions that can help you prepare for sudden circumstances. Questions like, “What if I lose my biggest customer or my rainmaker sales person?” Try to assign a dollar value to each scenario as well as the probability that it will occur. For example, if losing your top sales person would cost you $10,000 and there is a 10% chance that he will leave this year based on your company’s turnover history, then you should set aside $1,000 in cash to cover this possibility. Being reasonable and doing a similar financial analysis will help you in deciding on a good number for what your cash reserves should look like. This way if stuff hits the fan, you are prepared, but also you have enough money to continue growing properly. via GIPHY Please remember this is food for thought

Disclaimer:

THE AUTHOR OF THIS BLOG ARTICLE IS NOT A LAWYER AND THAREJA, INC. IS NOT A LAW FIRM. THE ARTICLE ABOVE IS NOT INTENDED AS LEGAL ADVICE AND SHOULD NOT BE TAKEN AS LEGAL ADVICE. THIS SHORT ARTICLE IS STRICTLY TO MENTION SOME ASPECTS OF CORPORATION LAWS AND/OR LAWS RELATING TO OTHER FORMS OF ENTITIES WHICH YOU MAY NOT BE FAMILIAR WITH. WE RECOMMEND THAT YOU CONSULT WITH A LAWYER BEFORE FORMULATING A STRATEGY WHICH WILL BE SUITABLE FOR YOUR SPECIFIC CASE.