Over on our Palo Alto Software Facebook page, Bernadette Njoku asked:
I’m looking for advice on what small businesses do/should do to build themselves financially over time, e.g., what are some recommendations on what to do if sales come in, should they reinvest into the business, what percentage, are there any ratios, are there recommendations, standard practices, or should we just wing it?
I showed the question to Tim Berry and this was his answer:
Most of this is always on a case-by-case basis. There are a bunch of ratios that measure financial stability, most of them in the debt/equity category, but rules of thumb vary by industry. And then there are the factors like your own sense of risk as an owner. I worked with one very famous entrepreneur who early-on in the company growth was constantly betting the whole company on a new product. He was a huge success, but eventually that high risk preference produced some big drops too. Although he’s worth billions right now.
The most reliable and conservative ratio is cash in the bank.
And then there’s the concept of a “good spend.” As a business owner, I’d rather spend on growing the company than on dividends or cash in the bank. I want the future, not just the present. So I always preferred a good spend to cash in the bank.
Lately a lot of investors talk about runway, as in how many months can you last at your current spending rate before you run out of money. That’s for startups that are spending in deficit, of course.
In the end, the best test is how it feels in your gut. Is this company “safe” or not? There are no general rules.
Thanks for the fantastic question, Bernadette!
Social Media Marketing Manager