An emergency fund is typically defined as a cash reserve set aside for unforeseen expenses or financial emergencies, and having one in place can help even the most substantial companies survive the tough times that inevitably come for all of us.
Emergency funds are especially important for small businesses that operate with the additional risk of outstanding collections, which can throw a wrench into expected cash flow at any moment. If you are running one of these companies, there is no time like the present to assess and plan for the risk those collection accounts can pose to your business.
Understanding the Threat of Outstanding Collections
The first step in assessing your emergency fund’s size is to fully comprehend the threat that outstanding collection accounts can pose to your business. It is essential to recover those accounts to ensure cash flow and financial planning.
Not only do outstanding collection accounts drain your company’s cash flow, but they can also trickle down to impacting other aspects of business like the ability to fund expansion plans or the strain that could be placed on business relationships.
The Importance of an Emergency Fund
Once you fully understand the threat outstanding collections can have on a business, you are already well on your way to appreciating the importance of having an emergency fund as a financial safety net for your company.
Having that financial backstop in place will allow you to maintain consistency despite the ups and downs of your debt collection operation. It also provides peace of mind, allowing your business to prioritize operations instead of dwelling on financial concerns.
Calculating the Right Amount for Your Emergency Fund
Calculating the necessary amount of cash reserves for your business is a process that typically starts by looking up the industry standards and benchmarks as a starting point. Once you have that general idea, you can adjust the number based on your needs.
During this part of the process, you will also want to analyze your fixed and variable costs comprehensively. You should also consider your collection patterns and discuss how those collections have impacted business operations in the past.
Once you have all the information collected and organized, it’s just a matter of determining how conservative you want to be with the number you choose.
Building and Managing Your Emergency Fund
After establishing the correct number for your operation, the only remaining task is accumulating enough savings to hit that number. The best approach here is to start small and build gradually, reminding yourself regularly that MOST cash crunches are not true emergencies that warrant dipping into those savings.
Opening a separate account to hold these emergency fund savings and setting a strategy for consistently accumulating the funds is imperative to accomplishing the task at hand.
Whether your company is a brand new operation or a well-established business, getting the ball rolling on your emergency fund is critical to surviving whatever lies ahead. Put together your plan today and start the process of saving for a rainy day. When that day eventually comes, you will be eternally grateful that you did!
