Todd “The Tool Man” Traylor just lost his local TV show’s biggest sponsor: Hammertime Tools. This big-name tool brand is pivoting their business to focus on manufacturing heavy machinery, so they no longer need to advertise to the DIY and local handyman market.
This move may be a good one for Hammertime Tools, but it’s thrown a wrench in Todd’s well-oiled machine of a business. Hammertime Tools has been a consistent and steady revenue stream for years, providing 15% of the show’s annual revenue. 15% may not seem like a lot, but this sudden loss left Todd unable to pay his staff and unable to purchase materials for upcoming “on air” projects. Within 30 days, the show was cancelled.
UGH – I hate sad endings. Let’s rewind and imagine a world in which Todd made better business decisions…
About a year ago, business was going really well. Despite this sunny season, Todd hired a Fractional CFO to ensure things stayed that way. Through this new partnership, Todd discovered his net profit from the previous year was 12%. A red flag was raised regarding sponsorship; if Hammertime Tools (their biggest sponsor) were to cut ties, the show would lose its healthy bottom line and begin losing money. The Fractional CFO recommended building up an emergency fund, should something unexpected like that happen. Ever the wise business owner, Todd followed this sound financial advice and started saving.
Fast forward to today, the unexpected happened: Hammertime Tools dropped their sponsorship. Thankfully, Todd’s emergency funds will keep the show up and running while he secures another sponsor. It will take a little time, but he’s confident he can get another sponsor lined up before the emergency funds run out. And he does! The show continues to air, and the business continues to be profitable.
Which scenario do you prefer? Don’t be like the first Todd and wait until it’s too late to realize you need an emergency fund. If you don’t have one when it’s needed, you could be out of business before you say “Hammertime Tools.” As a Fractional CFO, I’d love to serve as your proactive “In Case Of Emergency” contact, helping you plan ahead so that emergencies don’t immediately put you out of business. Schedule a free consultation with me today to start planning.
Does my business need an emergency fund?
Every business needs an emergency fund, which is money set aside for use when something bad happens… such as losing a big client or when an economic crisis unfolds.
Many businesses that permanently closed during the COVID-19 pandemic would have had more time to regain their footing if they had a proper emergency fund in place. Or when the U.S. tariffs began see-sawing back and forth, businesses with an emergency fund could have pre-purchased materials at pre-tariff prices.
You should be prepared to weather whatever business storms come your way, including inevitable economic slowdowns or recessions.
Emergency Pro tip: A great way to know what’s coming is to keep an eye on the news. Watch the news through a business lens and ask yourself, “what is happening that can potentially impact my business?” For example, we heard about COVID-19 in the news weeks before it reached the U.S., potential tariff talks were underway before they were implemented, etc. It may still seem sudden, but even a few days’ warning is helpful.
How much money should be in an emergency fund for my business?
The target amount for your business emergency fund depends on profitability and whether you have consistent sales year-round.
1-2 months of expenses plus a quarterly estimated tax payment are sufficient if you are a profitable business with consistent sales all year.
A profitable, seasonal business should conserve enough cash during the busy season to cover losses during the slower seasons, plus have 1-2 months of expenses in reserves. Refer to Using Cash Runway To Make Resilient Business Decisions for help with seasonal business financial planning – and business with losses.
You may be wondering, “how do I build up such a large amount for an emergency fund?”
The best way to do this is to gradually build the fund over time. If you are starting from zero, set a target of taking 1-2 years to build it.
Here’s a handy formula:
Calculate your average monthly expenses and multiply that by the number of months you want to have in savings. Then, divide that number by the number of months you want to take to build up the savings. This will give you how much you should save each month for your emergency fund.
Once you know how much to save, and how to build up the fund, it’s best to open a separate bank account to store your emergency cash reserves. A savings account or a money market fund are great options, so you earn interest. Keeping the fund separate from your regular bank account will keep you from being tempted to touch it. Out of sight, out of mind!
Emergency Pro Tip: I recommend not storing the money in bank CDs or other places that charge a penalty upon withdrawal. You do want to keep it liquid… in case of emergency.
When is it OK to use my business emergency funds?
The role of emergency funds is maintaining operations during a downturn. Don’t raid it ahead of time, but don’t expect it to be the only thing to save you either.
Having savings allows you time to make thoughtful decisions rather than rash decisions under stress or crisis. When a recession hits (as it inevitably will), an emergency fund gives you time to make long-term adjustments in your business. For example, when business slumps, an emergency fund allows you to make thoughtful reductions to your staff instead of suddenly cutting critical teammates that will hurt business long-term. Adjusting working hours, reducing the variety of services offered for sale, increasing prices, etc., are all examples of good business decisions that can be properly thought through and made when an emergency fund is in place – even under dire business circumstances. You’ll still need to make uncomfortable changes to keep business afloat, but you’ll have more time to adjust and make good decisions rather than having to make them under the gun.
Your “In Case of Emergency” Contact
Every financially savvy business needs to set up an emergency fund and know how and when to use it. During difficult times for your business, it may make it difficult to think clearly and objectively when it comes to your finances. I can help you figure out the thoughtful adjustments needed in your business should an emergency arise. Having a Fractional CFO like me in your back pocket is a great supplement to your emergency fund.
I’d love to serve as your “In Case of Emergency” contact, helping you draw the line in the sand for when to use your emergency funds, but also to guide your cash flow management in a way that may avoid having to use it at all. Contact me today to start the conversation.
