Ever wonder how much cash your business needs to keep on hand?

Every business needs cash and most want more of it, but when it comes to cash how do you know when enough is enough? 

Conventional wisdom says (otherwise known as “they say”) that you should have the cash equivalent of 3 to 6 months of operational expenses on hand.  The reason why is that should you experience a major drop in revenue you’d still have time to react and respond accordingly without triggering a state of emergency.  

With that said, if you really want to understand how much cash on hand you should optimally have there is a lot more to consider beyond your operational expenses.  

Here is a list of factors (not limited to) that should play a role in deciding what to target your bank balance at.  Too much cash can surprisingly be a problem too – although it is rare.

How quickly are you spending cash? 

Firstly, turn to your financial plan or budget and confirm your monthly spend plan for the next 12-18 months. If you haven’t laid out a plan that breaks down costs by month and includes your current operating and overhead costs as well as planned growth initiatives, you need to do so before you can accurately forecast your cash spend. 

Next you want to keep in mind how much cash you will be spending over the next 3 months, 5 months, etc? If you have been in business awhile these costs are more known than if you are launching a brand-new business and are still discovering unknown hidden business expenses. 

How much cash do you expect to receive from paying customers?  

Consider the stage of your business when you are considering the probabilities associated with your cash inflow predictions.  I remember when I co-launched Givopoly (an online gift delivery marketplace) just in time for Mothers Day in 2012.  I was ready to be ready for some big sales because you just never know what can happen on the internet – but we had 2 customers – and one of them was my mother.  But 5  years later we were able to predict orders by occasion within a 10% margin of error based on historical sales trends.  The point I’m trying to make is that the longer you are in business the more assurance you have that your predictions will be somewhat accurate.  Any assumptions you have should have a conservative weighting applied for the unknowns and based on your historical data.

Forecasting your customer receipts (or in other words the cash you expect from your customers)

Break this category down into 3 estimates. 

  1. How much do you expect to receive from the status quo of business. If you stay the course how much can you reasonably expect customers to pay you? 
  2. Your organic growth trend.  If you have been experiencing consistent year over year growth then you can likely rely a little more heavily on this trend continuing. 
  3. If you have recently launched additional growth campaigns – you would be expecting to see this additional growth as well – although the probability is lower than your historically organic growth trend and certainly lower than your forecasts from existing clients.  

When you are forecasting receipts just keep in mind these 3 groupings of receipts so you can look at expected, better and best scenarios.

With the Spend and Receipts estimated you essentially know what your monthly burn rate is going to look like.  If we go back to the conventional wisdom “they say” that you should have 3-6 months of the burn rate in the bank.

Sources of Cash

The above doesn’t really factor in how long it will take to get more cash – outside of customers?  That is a huge piece of your puzzle.  It’s like having a reserve tank of gas – if you had a reserve readily available you could worry less about running out of gas. 

Let’s now consider your sources of cash:

If you are in the privileged position of having personal savings, or Business Line of credit – you may only need 24 hours to easily transfer funds
Bank Loan – expect it to take 2 months assuming you qualify
Angel investors – 6 to 9 months minimum

The more you are relying on others for additional sources of cash, the more you need to increase the risk factor associated with running out of cash.  You aren’t going to worry about your cash getting to a low number if you can easily transfer funds.  

This essentially sets the tone for your cash risk profile.  

Administration time

One consideration that business owners often overlook is the administration time spent actually managing cash flow. If you are having to update your cash flow forecast more frequently than monthly you are wasting precious resources and habitually driving your gas tank with the light flashing. 

Financial processes all run on a monthly cadence and so should cash flow management.  Just think about it – bank accounts are reconciled monthly.  To be monitoring banks on a daily or weekly basis is resulting in a lot of inefficiency, not to mention distracting management away from growth initiatives. At a bare minimum you’ll want to ensure you have a full month of expenses available as either cash or cash plus available line of credit so that you can save yourself the time and expense of additional administration.


If you need any assistance with your cash flow our team at Numbercrunch can help you today!

Author: Susan Richards

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