I hope you’re having a great day, and in today’s video what I want to do is talk about how much money should a business hold for emergencies? I hope you’re having a great day and just remember if you find this video useful like, share, follow and subscribe. And also if you want bit more advice or have a discussion about the finances in your business or the general direction of your business, please make sure to book yourself in for a strategy session with myself.
I’ll get into it. A business needs to have emergency funds in its bank account. Most people know this, and a lot of business owners I come across they do keep something in their company bank account so they typically don’t spend all of their money. They will set aside enough for their taxes, they’ll set aside enough to play employees and suppliers. And then they’ll also set aside a certain amount of money for emergencies.
This is something I want to cover today. There’s quite a good book, it’s called Profit First by a guy called Mike Michalowicz, and he actually does go into this a bit because as part of the Profit First principle you’ve got to be paying yourself. And because you’re paying yourself, you’ve also got to know how much to pay yourself. And a lot of the time if you pay yourself, you’ve got to make sure that you haven’t paid yourself so much that there is no money left over in the bank afterwards.
What Mike Michalowicz says is firstly always be aware of what your tax bills are and what your other working capital requirements are. Working capital, by that I mean paying staff, paying suppliers, getting your marketing sorted. But what Mike Michalowicz said is okay, once you’ve got enough money in your bank account to cover all your taxes and working capital requirements for the foreseeable future, what you also need to do is keep money in your account to cover emergencies. And Mike Michalowicz, what he actually says is the amount of money that you should keep in your business is three months worth of overheads.
So, if you work it out like your premises, your staff. Maybe not necessarily all your marketing costs, but some of your marketing costs, and any other running costs within your business. Let’s say they come to 20 Grand a month. Mike Michalowicz recommends that you hold three months of worth of that, so it’s £60,000 in your bank account for emergencies. And then on top of that you need all the money that you set aside to cover your tax bills and any other commitments.
The reason I wanted to talk about this is firstly before COVID that would have sounded like overkill, and no one could have expected lockdowns and shutdowns. So, that emergency money it’s there for unforeseen expenditures and issues, but what it’s also there for is if something does go completely wrong, like COVID, what it’s there for is it’s there to give your business some breathing room so you can actually reconfigure the business and adapt the business to the new world order.
That’s one of the main things that that money’s there for. It’s not just to cover unforeseen costs, it’s your oxygen supply if something goes completely wrong in your industry or in the world and you actually need some time to be able to change your business so it’s still relevant to those changes.
One of the things though I believe Mike has, definitely post COVID, I believe Mike’s definitely got it right in that sense. One of the things I’d always say though is that’s just a generic rule of thumb that he’s worked out. But what you could also do is you should also build a contingency plan for your business. So, if you said, “Okay, if half my sales disappeared overnight, what would I need to do to make the business profitable again?” That’s another way to look at it. Mike just says three months worth of your overheads, but if you wanted to put a bit more thought into how much money you should actually hold in your bank account, then the starting point of that is creating a contingency plan for what happens if something went severely wrong.
And part of that is what costs would you have to cut? What kind of marketing would you have to do to bring more revenue in? And how long would that marketing take to pay off? And how long would those costs take to cut? And if you’ve got a good understanding of that, then you can also base your emergency funds and your business around that understanding.
There’s two kind of ways to really do it. You can actually work it out based on your contingency plan, or you could just take Mike Michalowicz’s blanket figure of three months times your overheads.
It’s definitely worth thinking about how much money your business should hold for emergencies, because obviously if it doesn’t hold enough then that’s going to impact your survivability in the case of another COVID or another life changing event like that. But the other side of it is your business can have too much money in the bank. There’s two things I mean by that. Firstly, you can physically have too much money in the bank where you are not covered by the financial services compensation scheme. I think it’s £85,000 that’s the limit, which you probably need multiple bank accounts with different banks.
The other side of it as well is if you’ve got too much money in your bank, that represents a lost opportunity. You could have invested that money in the growth of your business. You could have brought in new members to the team. You could have spent the money on marketing. And I do come across business owners sometimes where they’ve just got too much money in the bank because they’re too afraid of everything going wrong and the bottom falling out of the market and the sky falling. There are some people, and sometimes the amount of money a business holds it can also be a psychological issue as well, but I can’t really go into that because I’m not particularly qualified. But what I can say is if you’ve got too much money in the bank, then you’ve got to think about investing it, or you’ve got to think about taking it out and spending it, or putting it into pensions, or into some other kind of personal savings because ultimately that money if you don’t want to invest it, that’s your money. Obviously there’s tax efficient ways to take it out, so that’s definitely worth having a conversation with a good accountant like ourselves.
What I’d like to do is I’d like to invite you once again to a free strategy meeting. We can help you understand the current value of your business. We can help you understand what the value could be with a few improvements. And we can give you targets for bank balances, we can give you targets for cashflow, all that kind of stuff that makes a business healthy and gives it healthy finances. Take me up on that offer please, but otherwise I’ll see you at the next video and have a great day.