So, you may ask what cash reserves is and why it’s so important for the business to maintain a positive cash reserve.
Depending on the size and nature of the business, it’s critical that companies keep enough cash on hand to meet the short-term needs of the business, this is referred to as cash reserves. Simply put cash reserves are short-term deposits that provide companies with immediate access to funds in case there are issues with delays in revenue, collections and so forth. They ensure that the company is not forced into a negative cash position or unable to meet its commitments. Too large a reserve is not always the right solution either as it ties up cash that could be used to expand the business, limiting profits and growth. So, how much cash reserve should you have?
There is no straight answer as every business is different, but as a general guideline, we recommend approximately a 3-month cash reserve. You should talk to your financial advisor to determine the right number for your business.
The importance of Cash Reserves
Cash reserves are critical in general because they enable a business to meet its financial needs in the event of cash flow issues and to plan for a variety of contingencies. These include operating reserves for the following items
- Revenue losses as a result of market fluctuations or lower-than-normal sales
- Payment delays from receivables that are greater than anticipated
- Cash shortages caused by payables that are due before receivables arrive; and
- Unanticipated operating expenditures
Without the cash reserves, any unexpected emergency would necessitate obtaining a loan, liquidating assets, or, in the worst-case scenario, temporarily closing the company. So, by having cash reserves, small businesses are able to help manage emergencies, make transactions, and cover unavoidable expenses. The key is to have enough and to avoid having too much cash, as the excess could be put to better use.
Cash Reserves Concerns
More than ever today, one of the most difficult tasks for small businesses is to develop their working capital and maintain their cash reserve. According to the survey of 3,316 small business owners, 32% of small businesses had just a month’s worth of cash on hand. Even worse, more than 15% of the small businesses have no financial deposits at all.
If we look at business segments, retailers (consumer goods) have the most cash flow problems based on lower gross margins and more variability in inventory turnover. Restaurants (food and beverage), creative categories (designers, entertainers, and artists), and gym owners and others in the sports and fitness industries are among those who follow.
What can I do to build Reserves?
Use Financing / Loan to build a reserves
One problem with building a reserve is that it has a cost: growth. The money you put into your cash reserve cannot be used to run your business or take on new clients. It’s not an easy trade-off: safety vs. growth.
There is one way to handle this problem. You can use financing to cover some of your business expenses while you build a cash reserve. This method can work well and help you build a reserve. Unfortunately, in most cases, companies only seek these loans when in the midst of a cash shortfall, either due to company or economic factors. At these times securing a loan is also difficult as the crisis makes the likelihood of getting funding approved lower.
At BPF Solutions we recommend you plan ahead and secure your cash reserve in good times, when approval is easier, and maintain it for the bad times.
This may sound counterintuitive, but during these times you aren’t desperate, and your business is in the best position to offers lenders confidence in your ability to service the debt. So, don’t wait. When your sales are strong and have a decent amount of receivables that’s the perfect time to secure a loan for your business.
It’s important to take the time to understand and document what your short- and long-term business objectives are and what’s your plan to get there. Play out both scenarios “Best and Worst” case scenario and define the strategy and action plan to tackle both. Most of the time we focus on the best case and Worse case gets ignored. Your company would do better if you are prepared to carry out your strategy in both scenarios rather than trying to find out what to do next.
The other step that is important is keeping track of your finances with the help of business intelligence. This includes your earnings, expenditures, accounts receivable, and everything else that influences your budget. Keeping a laser eye on your business will help you manage and keep your business health in check.
For detailed and specific information, you may fill out the form, contact 1.877.800.2731, 1.416.222.2909 or firstname.lastname@example.org.