You’ve invested countless long, hard hours in building a stable, profitable business with a bright future. But negative economic forces can strike at any time, destabilizing your finances and possibly even endangering the survival of your business. This is one of the main reasons it’s so important to build and maintain healthy cash reserves.
Cash reserves serve many important purposes including helping business owners meet unexpected expenses while also stabilizing cash flow and easing overall financial stress.
This guide to cash reserves explains why it’s so important for a business to have extra funds on hand at all times. Learn healthy levels to target when building cash reserves, how to better manage your business cash flow, and how smart banking relationships can help.
Business Cash Reserves: How Much Should You Have?
First things first: How much in cash reserves do you need for business use? Business banking experts usually advise business owners to save enough cash to cover three to six months’ worth of operating expenses. But if you’re extra cautious, you might want to extend the cash reserve to cover up to one year of regular operations.
At the same time, the precise amount to target also depends on business-specific factors. For instance, a new company with only a few employees can likely manage with a smaller cash reserve. Meanwhile, a larger company with more employees and complex operations should consider maintaining more reserves.
When business operations generate excess cash, it’s important to evaluate those dollars before you decide what to do with them. First, determine how much money is, in fact, excess and available. In general, any money you could remove from your balance sheet without endangering your company’s near-term financial stability can be safely assigned to your cash reserve.
Next, consider where you’re going to assign that excess cash. When building a cash reserve for business use, commercial banking experts stress the importance of liquidity. It’s fine to park the money in an interest-bearing asset, as long as that asset is both safe and liquid. Examples include:
- High-interest savings accounts
- Money market funds
- Short-term certificates of deposit (CDs)
When you’re building a cash reserve for business operations to reduce your risk exposure, it’s wiser to choose the safest possible investments.
Why Cash Reserves Matter
The Covid-19 pandemic is an excellent reminder of why it’s important for a business to have cash reserves. You never know when a crisis or economic event of that magnitude will occur. If you don’t have a sizable cash reserve, you’re essentially betting that the current economic status quo will continue. That’s a big risk to take.
Cash reserves can also help your business better manage both its regular and emergency financial needs. They help provide:
- A stable, immediately accessible financial cushion
- Smart, forward-looking risk management
- A vehicle for funding growth and expansion
- Support for business continuity planning
- A buffer against unforeseen financial events, such as large-scale refund requests or chargebacks
Most businesses can’t survive for very long without revenue. Business News Daily reports typical ranges of 16–47 days, depending on the industry. Without an adequate cash reserve, your business likely won’t last long should revenue suddenly stop coming in.
Building and Leveraging Cash Reserves
To build cash reserves for business use, first determine the amount you want to save. Three to six months’ worth of expenses is a good initial target. However, a financial partner with cash flow management expertise can help you set a precise amount that closely matches your unique needs.
From there, take a disciplined approach. Put aside a small but consistent percentage of your profits and deposit those funds into a separate account. Dedicate that account solely for emergency use.
When using your cash reserves, follow a few principles:
- Don’t use the money for anything other than pressing financial emergencies.
- Replace any funds you use as quickly as possible.
- Consider ways to offset the opportunity costs that come with business cash reserves.
Financial vehicles like business loans and business lines of credit can help you take advantage of unexpected growth and expansion opportunities without compromising your cash reserves.
Understanding Cash Flow Management
In addition to building cash reserves for business emergencies, you should also develop solid cash flow management strategies. The basic principle of effective cash flow management is to collect receivables as quickly as possible but resolve payables at the latest possible date.
You can further optimize your cash flow management with advanced principles and niche technological tools. For instance:
- Integrated Payables: Integrated payable services enable businesses to consolidate their vendor payments into a single streamlined process. They help you protect and manage vendor relationships and provide more effective and accurate cash flow management.
- Remote Deposit Capture: With remote deposit capture, you can place incoming checks in your regular or cash reserve account without visiting a physical bank. Available through specialized software providers, these services save time and improve your cash flow.
- Online Payment Platforms: Make it easier for your customers to pay you with online payment platforms. Providing your customers a simplified and convenient way to pay can encourage early payment and help further acerate your accounts receivable while also allowing you to taking advantage of automated payment reminders.
Cash sweep services are another great solution to help with cash flow management. These services can either automatically transfer excess cash to pay down outstanding debt or to an account that earns higher interest. Leveraging a cash sweep to pay down a loan can reduce interest costs. Sweeping funds from an operating account to a higher-yield account allows you to earn interest on ideal funds thus maximizing return and helping you build a healthier financial future.
Banking Relationships: An Ace up Your Sleeve
The value of a strong business banking relationship is often underestimated. In reality, banking partners can help you better manage your cash flow needs.
They can also optimize your funding through a combination of specialized services and financial products, such as:
- Cash flow analysis
- Accurate cash flow forecasting
- Strategies to streamline your accounts payable and accounts receivable
- Flexible, specialized financing options to support healthier cash flow management
Business credit cards, lines of credit, fraud prevention and comprehensive treasury management solutions are key examples of banking tools you can use to enhance and protect your cash flow.
Get Expert Assistance to Build Strong Cash Reserves
Expert insights to help business leaders build smart and effective cash flow management strategies to establish and maintain strong cash reserves. While also serving as a partner to provide education that will help leaders better understand the correlation between emergency savings and cash flow management.
Contact our team at Minnesota Bank & Trust, a division of HTLF Bank to gain access to expertise that will support your cash flow and emergency funding needs. We provide sound advice, personalized financial planning assistance, and flexible financial products and services. As a result, you can build, maintain, and leverage cash reserves for business emergencies while safeguarding the overall financial health of your business.
Contact Minnesota Bank & Trust, a division of HTLF Bank to connect with a banker today.
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