You need money to make money…and then some

How much is enough? When it comes to moving up the ladder of life everyone needs a certain amount of capital to get things going - launching a new business, buying a new home, or simply starting a new chapter of life. Yet to be truly financially prepared we need more than just seed capital; we also need a sliver of equity whose sole purpose is, basically, to do absolutely nothing. This silent ‘cushion’ of cash, or capital reserve, is more than an idealistic safeguard against the unexpected and, ultimately, forms the bedrock for any successful business or personal financial plan.

I cringe at success stories that romanticize a person’s character traits - risk taking, cunning decision making, ambition - as the key ingredients that set him/her apart, whilst downplaying the integral role of sound financial planning. Those boring bank accounts get no cred, when in fact it was these unsexy engines that greased the wheels for the Bill Gateses, Richard Bransons, Elon Musks and other iconic entrepreneurs from their earliest moments.

Reserving a slice of equity is vital, for two reasons: Not only does it ensure we can weather those unexpected bumps, it also serves as a barometer of our credit worthiness which, in our uncertain world, is an increasingly important measure of our stability. Having a chunk of cash speaks for itself. It’s like a letterpressed calling card, or an Ivy League education, on our financial resume. A cash reserve that isn’t earmarked for use isn’t a poor allocation of capital, nor is it a last-resort pot of money for bad times. Instead, it is a workhorse and facilitator that bridges gaps in the timing of payments so that the rest of the machine continues to run smoothly.

Many of us don’t recognize the value of a cash reserve until we learn the hard way when we don’t have one: We get rejected by a landlord in favor of another tenant. The bank turns us down for a credit card. We don’t qualify for a business loan. Sometimes it gets thrust in our faces without forewarning, as was the case recently for thousands of merchants who use Square, the online payment management service owned by Twitter’s Jack Dorsey, that began withholding a portion of cash flows as a credit measure during the pandemic. The move was meant to buffer the impact of higher cancellations and returns due to the lockdown; merchants will eventually receive their withheld cash flows after 120 days.

Some merchants are up in arms about the change, saying they’ve been forced to let go of employees, sell assets and eliminate services to cover for the missing cash. One business owner told the New York Times: "It may not be the Coronavirus that puts us out of business but actually the greed of Square that breaks the camel’s back,” adding that he’s had to sell personal property including a boat to keep his company operating.

That’s ridiculous. Those are the words of an ill-prepared business owner. Regardless if the merchant’s revenues were impacted by the pandemic, the move by Square was a change in timing, one that was arguably designed to help business owners by simplifying returns and cancellations directly with customers. I don’t know about you, but if I needed to cancel a trip or event but was told by a company that my deposit wouldn’t be returned until further notice I’d be a pretty peeved customer - nor would I be returning anytime soon. Square was doing that business a favor in my book by saving his face to his customers.

Without a cash reserve, the business owner’s finances couldn’t adapt to the changing environment and he needed to make decisions that impacted his operations and his lifestyle. This is separate from the economic shock of the Coronavirus, which has materially impacted trading across the economy. Looking longer term, we can see how the business owner’s financial mentality is inefficient and, ultimately, unprofitable. If every time there’s a glitch in one part of a business engine - a delay in payment, a change in provider, a tax reform - such that the whole business comes to halt, then the business is not being optimally run. When things don’t operate smoothly it usually manifests itself in terms of our credit. And when our credit suffers more things tend to go badly after that: Banks don’t want to lend us more money, customers lose confidence, employees leave, and future opportunities are lost.

As the global economy wrestles to recover from the unprecedented shock of the Coronavirus pandemic, now more than ever is the right time to appreciate the invaluable role of a cash reserve. Money that is meant to do nothing actually does quite a lot; over the long term that silent bed of cash is responsible for smoothing innumberable gaps in the bumpy road of true success. Give it the credit it is due.