What is a cash reserve for businesses?
It is important to have a contingency plan for any eventuality in your business. As the adage goes, nothing beats preparedness. If anything, this is what the onslaught of the COVID-19 pandemic taught us. One of the many ways that you could protect your business is by putting up a cash reserve.
This pertains to the funds allocated for any emergency. Cash reserve for businesses is made specifically to prepare for any financial crisis that the company may face. Having one is important if you want your business to thrive.
Why is a cash reserve necessary for businesses?
Your business may face an unexpected event that would disrupt its cash flow. If that event is of a significant scale, it might have a negative impact on your payables such as your suppliers, employees (if any), and other fixed operating expenses. If you have no cash fund already set aside, your profits could be affected, or worse, might put your business in deficit already. This is why a reserve is important: these emergencies can be ironed out by the funds that it will provide, making it possible for your business to continue its operations without disruption.
How to build a cash reserve
A cash reserve for small businesses is something that does not materialize overnight. There is a process for building it up so you can maximize it and help your business with it.
The process of building a cash reserve
Building cash reserve begins with determining how much you need to save. However, it is important to keep in mind that there is no one correct amount when it comes to putting up a secured reserve. The basic practice is to add up all the necessary and fixed expenses in a month and keep a total of two to four times that amount as a reserve. These expenses can include employees’ payouts if you have any, taxes, rent, and more.
Evaluate your finances in order to create a cash reserve that is suitable for you.
Determining the size of the cash fund
We cannot over-emphasize that there is no exact amount of cash a business needs to reserve. It depends on many factors such as the needs, nature of the business, and others.
Here are a few things that you should be on the lookout for to determine the size of the cash reserve:
Determine the stage your business is at:
Is your business just beginning to gain traction, or is it already established? Start-ups and established businesses have different benchmarks for reserves. Start-ups are usually conservative given that they are only beginning to gain momentum in the business and need all the resources that they could get to optimize the business operations.
Look at your monthly cash flow
Note how much your business expenses are. It is important to factor in the expenses first before you decide on how much to allocate for a cash reserve.
Know how much you intend to spend in the immediate future.
Keep in mind purchases of equipment, business expansion, operating expenses, and more. This will help you map out where your business is financially.
After taking note of these things, you can now better decide how much you can and must put away for a cash reserve.
How to maximize the use of a reserve
They say, “The weapon is only as powerful as its wielder.” A cash reserve can only do so much if you know how to maximize it. So, here are a few tips on building a reserve:
1. Make a habit of putting aside a certain amount every end of the week to stash in the reserve account.
2. If there is a windfall in your business, make it a point that you also put a certain percentage of it in the reserve fund.
3. As much as possible, avoid unnecessary expenses while building your reserve.
4. If you have lots of business debts to pay, it may not be ideal for you to put up a large cash reserve, or anything at all. Make sure that if you have debts, it should be the one that gets paid first. Then, if the profits permit, add to the reserve.
