Why do businesses need an emergency savings account? To help protect business assets and success, here's how to create an emergency savings account.
In business as in our personal lives, it’s a financial best practice to have funds to fall back on when unexpected situations arise. But as the Coronavirus crisis has reminded individuals everywhere, building up emergency savings is more than just a good idea—it’s an effort that can make a dramatic, instantaneous difference in your ability to survive day-to-day in troubled times.
Achieving robust savings isn’t easy for any person or company, but having enough money set aside to get through and respond to emergency situations is a goal every small-business owner needs to take seriously. Here are a few key reasons why.
Prepare for Unpredictable Times
The swift and drastic impact of the Coronavirus pandemic has shown U.S. companies that there are some events (and economic repercussions) for which it's difficult to fully prepare. The many ricocheting effects of the COVID-19 pandemic—and any other widespread health or natural-disaster catastrophes to follow it—might take many months or even several years to play out in full.
As that full impact takes shape, related events, policy changes and socioeconomic forces will also shake up business leaders’ assumptions of what their future businesses can and should look like. Depending on a company’s industry, its market may also be susceptible to the financial implications of regulatory shifts or trade tensions that could result from possible changes in federal or state leadership following upcoming elections—heightening uncertainty for both short and long-term planning and forecasting.
Without adequate cash reserves, this exceptional degree of uncertainty can lead business owners to make risky or unsound decisions—such as over-leveraging assets, over-extending credit lines, or making new deals on terms the company is unlikely to be able to meet. These kinds of choices often make it harder for the business to bounce back from trying times.
To effectively operate amid uncertainty with minimum risk of permanent closure, business owners should ideally: 1) have enough funds available to cover at least six months of company expenses; and 2) keep those funds accessible to ownership in some sort of secure, interest-generating business savings or checking account.
Slowness & Seasonality
Most business owners are accustomed to some degree of uncertainty already, and craft their financial and business plans with slow periods and seasonal fluctuations in mind. Yet in today’s fast-changing, pandemic-affected business landscape, the depth and scope of seasonal changes and slowdowns may be far more volatile or dramatic for companies in the months and years ahead.
This is especially true for those in industries like retail and restaurants, whose business models were already being tested by rising trends in online commerce and delivery. For these and many other kinds of companies, making difficult staffing, resourcing and other decisions in the middle of a worse-than-planned quarter is never advisable.
Even in more stable economic times than the present, having an emergency business savings account reduces the pressure seasonal shifts place on leaders’ decision-making strategies and processes simply by providing enough cover for the company’s expenses and payroll through any potential fluctuations. If the business grows, the availability of savings then becomes advantageous for meeting additional roles or needs for capital application.
Reserves for More
Some experts advise viewing your small business savings account less as an “emergency” fund than simply as a pool of available capital for applying to any number of short- to long-term strategy decisions. These may include emergencies, as well as things like infrastructure investments, discretionary budget adjustments, or resource outlays for unexpected or high-potential sales opportunities.
This approach treats savings as less an “emergency fund” than a pool of reserves for both maintaining the business and supporting its potential for growth. It affords small business leaders the security to act fast when big opportunities arise—or even pivot the business model in response to market shifts—without needing to sell equity or borrow capital (both of which add risks to the company’s financial circumstances).
Using reserves to finance new investments and solutions that support product development, innovation or new efficiencies can also help leaders position the business for future success. That said, any funds that get applied to new investments or strategic changes become funds that aren’t available in the event of an emergency. Business leaders must decide for themselves which approach to spending to their savings—be it “emergencies only,” or a more flexible approach—is best for their circumstances.
Unique to Your Needs
Ultimately, small-business leaders’ approach to business savings is often just as personalized as the way they manage their individual finances. In some instances, industry expectations or business goals make having substantive emergency savings unlikely (such as for small restaurants or bars that expect to rely almost exclusively on cash flow). In others, business owners may be highly active savers or cautious spenders by nature (making them more likely to have reserves on hand for more than just emergencies).
Having enough money banked to keep the business afloat for six months, however, is the only way to ensure that a pandemic-level crisis (or other emergency event) doesn’t decimate a company’s ability to operate. As business leaders work toward that goal, it’s worthwhile to keep additional savings objectives in mind—aiming for enough funds to both survive lean times and respond in ways that help the company adapt to thrive.