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Budgeting Essentials Blog

Helping you master the practical essentials of Budgeting, Cash Flow, Accounting and Debt Relief.
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Be Prepared – Have an Emergency Fund

Last week I talked about Budgeting – Review Regularly and Adjust as Necessary.  If you missed that post, you can review it HERE.  This week’s post is Be Prepared – Have an Emergency Fund.  Your business is no different than your personal life.  Unexpected things come up that you need to pay for quickly.  The Boy Scouts have a motto: Be Prepared.  That applies to business and life, not just Boy Scouts.  Learn more in this week’s blog.

 

Everything is going along great in your business.  Your sales are consistent and you are paying your bills in the terms that your vendors have given you.  Suddenly a component that is critical to your business goes down and needs to be repaired/replaced now.  What do you do?  For many small businesses, this could spell trouble.  They are operating month by month and the money goes out as soon as it comes in.  What do you do?

Traditional business school advice would be to go to the bank and get a loan.  Depending upon your relationship with your banker, this process could draw out for a couple weeks or longer.  That means that you don’t have that critical equipment generating sales for you while it is down.  The vendor or repair shop may give you payment terms, but the best you could hope for there is net 30.  Then you still need to come up with the cash for that bill in 30 days.

A better solution is to have an emergency fund for your business.  Just as in your personal life, your business needs to be prepared for the unexpected.  It could be the difference between going out of business and continuing to operate smoothly.  If you have employees, it is critical to them also.  Having an emergency fund keeps you in control of your business.  Rather than having to wait for a loan approval, you will be able to begin fixing the issue as soon as you have determined what you need to do.

The size and complexity of your business will determine how big your emergency fund needs to be.  Six months operating funds is the recommended amount for an emergency fund.  That could be a lot of money for your business and you can’t just stop paying bills for six months to fill up the fund.  Vendors and employees like to be paid. 

Knowing that it is going to take you some time to build your emergency fund, how do you approach it?  The best approach would be to determine what the minimum amount you would need to have to replace your key component.  This would be the thing you absolutely have to have to operate.  Get a good estimate on its replacement cost, then add half again to it.  That will give you a buffer.  Buffers are good!

Something you can also consider is having an extra key component on hand to reduce down time.  One way you could do this is to buy a new one before the old one is unusable.  Buy that new one when the old one is between 50% and 75% of its expected life.  Get closer to 50% if you can, because you want the old one to be functional if something happens to your new one.  If your key component is people and processes, start with a one month emergency fund.  This will give you time to correct whatever has gone wrong and give you that buffer to get going again.

Once you have determined how much you need to have in your emergency fund, you have to fund it.  It is unlikely that you will be able to fund the whole thing all at once.  Start by funding your minimum requirement as quickly as you can.  This is going to have to come out of the cash flow of the business.  Make yourself pay the emergency fund every month, just like your vendors.  You have to be aggressive funding that minimum amount.  If something happens, you will be glad you did.  Once you have that minimum funded, you can continue to put money into the emergency fund until you have it fully funded.  At that point you have the option of continuing to grow the fund or choosing to use that money for some other purpose.  Because you won’t be used to having it available, I suggest you keep funding the account to give yourself an additional buffer.  Something will come up that will make you glad you did.  Remember what I said before, buffers are good!

Keep the money in a separate account where the funds are readily available.  You will want to use a savings account or a money market account.  Stay away from Certificates of Deposit or other savings vehicles where you have restrictions on when you can take the money out.  The whole point of an emergency fund is to have the money available when you need it.  You don’t want to have to wait or pay a penalty to use your own money.  You will earn less interest on the funds this way, but again, this money is there to keep you in business when something unexpected happens.  An additional bonus is that you won’t be paying interest on that money.

Having an emergency fund will help keep you in business so you can continue to put money in your pocket every month!

If you know someone this post will help, please share it with them!  Then scroll down to the comments section and leave me a comment on this post.  If you aren’t already a subscriber, sign up to receive notification emails and information on other promotions!

God Bless your week!

Copyright

© 2018 Dan Heiland 2018 Kat Heil, LLC

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