A good cash management plan involves more than watching your bank account, it includes having a plan for large purchases, tough economic times, and leveraging debt when needed.
A general outline would involve a few bank accounts and a line of credit. Not all of this is necessary, but it can go a long way to help manage your company’s cash flow.
Maintain a minimum balance of at least two pay periods. You don’t want to be so cash-strapped you can’t even pay your staff, including yourself.
An alternative to this is to have a separate account for Payroll and your Operating Account is just for income and expenses. This would help force you to limit your spending.
This is your rainy day fund and generally maintains 10 – 30% of your revenue.
To determine your reserves use the chart below and score 10 or 30 depending on where you think your business is and then average your total score by dividing by ten. In my business, I use 15% since we’re somewhere in the middle. For your business, you may find that 10% is just fine or you may need as much as 30%. This will come out to be two to six months of expenses.
One last thing about this account, you don’t have to put all your money in at once. Just transfer the amount of your reserve once a month until the balance reaches its goal. For example, if your company makes approximately $10,000 in a single month, transfer $1,000 per month (10% revenue) until you reach $12,000. (10% of $120,000 in yearly revenue).
This account is funded each month and is based on 40% of your Net Income. This comes in handy each quarter when it’s time to send in estimated tax payments and lowers your tax anxiety at the end of the year.
Line of Credit
It’s recommended to have a Line of Credit that has the same balance as your Cash Reserves. This can come in handy if you have a large purchase you want to make or if your reserves become depleted for any reason. This is your rainy, rainy day fund.
Have questions regarding your company’s accounting processes? Feel free to drop us a line.