If the river represents cash flow to your business, what is a dam?
Simply put, the dam – and the reservoir it creates - represents cash in the bank, also known as retained earnings.
You’re probably familiar with the famed Hoover Dam, a concrete arch-gravity dam in the Black Canyon of the Colorado River, on the border between Nevada and Arizona. Built between 1931 and 1936 during the Great Depression, it was dedicated on September 30, 1935, by President Franklin D. Roosevelt.
The Hoover Dam is responsible for and contains Lake Mead, the largest reservoir in the United States by volume when full.
But what does this have to do with business?
The water of Lake Mead is exactly like reserve cash for your business. When times are good, the reservoir fills. When times are bad, the reservoir provides water when the incoming flow is insufficient. It makes no difference whether we’re talking about the water that flows into Lake Mead from the upper Colorado River, or that cash that flows into your bank account when sales and profits are good.
So the coffers are full. Now what? If your cash reservoir is full, is it time to throw a big party? Buy gold? Invest? Here are a few ways savvy business owners deal with a “full reservoir”.
- Establish Cash Reserves
You need cash savings to ensure you have enough money to cover payroll and bills if revenue wanes. A formula you may want to consider to determine how much cash to set aside could be to project revenues falling by 25% and expenses increasing by 50%. With 2022’s inflation surge, this scenario is possible so you’ll want to set aside sufficient cash to get through to happier times.
- Invest in Your Business
Cash is King and you should always keep as much cash as possible in your business. If you want to develop a new product or service, improve an existing product or service, or expand your marketing campaigns, cash is critical. Here’s where skill in throttling the dam is essential because and lowering of the reservoir must improve cash flow down the road so that the reservoir replenishes.
- Maximize Capital Expenditures
If you have excess cash at the end of the fiscal year, it may be a strategic opportunity to look at buying your building, land, or equipment. Planned properly, these purchases can help you maximize your business deductions for the year (reduce flow past the dam) and increase the reservoir down the road. Caution is warranted though because draining the reservoir to fund a down payment on a lease or mortgage could trigger additional outflows from the reservoir. You need to ensure you can afford the additional outflows because you don’t want to create unaffordable, new fixed costs.
- Buy Another Business
Instead of investing in your own business, you may want to consider buying another business. Here you have 2 options. If you want to diversify, consider buying an existing business that is complementary to your existing business. Look for a business with a client base that can be shared between both companies and a well-trained, competent management team. Alternatively, you can increase market share by buying a competitor and rebranding that business as yours.
- Set Up Retirement Accounts
Most business owners reinvest all their profits back into their businesses. And, especially when just starting out, this is a sound strategy. But, at some point, you’ll want to use your excess funds to build a personal “reservoir”. This is where a competent “power team” of tax accountants, financial planners, and tax attorneys can significantly reduce your tax exposure. Like a dam’s engineering group, these people can steer you away from disaster. Use them.
A reservoir of cash and a competent set of hands controlling the outbound flow from your financial dam can set you up for life. An insufficient reservoir and/or unchecked flow can ruin you. Ruin your business. Planning and prudence will keep you flush.
Let us help you make the money flow into your reservoir.
