The amount of cash you need depends on your appetite for risk.
If you love risk and the thrill of skating on the edge, only have enough cash to pay your bills and squeak by with payroll each week. Generally, this cash is in your operating account, and there is zero, or close to zero, in a savings account.
If you are risk-averse and take no risks at all with your business, then you probably have at least a year’s worth (or two) of operating expenses in a savings account (either in the business or personally) at all times.
What’s a good middle ground?
The addition of the two numbers is a “middle ground” of the cash to be stored in a savings account.
Some of you already have this amount saved. However, if you don’t and want to use this cash formula, then one of your goals for 2022 would be savings to this level.
How do you do it?
The fastest I’ve ever seen a savings account built on maintenance money savings is $1.7 million in 5 years. You can do it with focus and growth of maintenance.
Your thriving maintenance program
Imagine if maintenance customers paid for the entire overhead of your company. What is that number?
The residential calculation is easier than the commercial calculation. Residentially take the price of your maintenance agreement and divide it by your estimated 2022 overhead. The number will probably be large. However, it is feasible to attain it.
Commercially, take the average dollar amount of your maintenance plans and divide it by your estimated 2022 overhead. Remember, this is an average. You’ll have some maintenance plans that are higher in revenue and some lower. Nevertheless, it should be feasible to attain the average.
Here’s why I use revenues to calculate the number rather than cost: On average, residentially you get $1 in service or replacement revenue for each dollar of maintenance revenue. In addition, the closing ratio is 80% or higher on replacement proposals for maintenance clients.
On average, commercially, you get $2 to $4 in service or replacement revenue for each dollar of maintenance revenue. Unfortunately, the closing ratio is not as high on replacements – many corporations require three bids … even if you are their preferred vendor.
And an even more important reason to grow your maintenance program: Your company is worth more. At some point, you will exit your business. I hope it is by plan rather than due to a surprise health issue. If you sell it to outsiders (nonfamily members or employees), the multiple they will pay partially depends on the number of renewable maintenance agreements you have. They look at maintenance as predictable cash flow.
Beware: If you have 3,000 maintenance agreements, and only 50% renew each year, that is of less value to an investor than having 2,000 maintenance agreements with a 90% renewal each year. This is because they look at the number AND renewal rate.
So, if your renewal rate is under 80%, one of your 2022 goals should be to get the renewal rate to at least 80%. Even if a business sale is not in your plans, a higher renewal rate means less that you have to replace each year.
Grow your cash reserves and your maintenance plans in 2022. Having enough cash in the bank gives you the confidence to handle any cash crisis that occurs. In addition, having enough maintenance plans gives you the confidence that your business is more valuable and your cash flow is more predictable.
Ruth King has more than 25 years of experience in the HVACR industry and has worked with contractors, distributors and manufacturers to help grow their companies and become more profitable. Contact Ruth at email@example.com or at 770-729-0258.
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Ruth King concludes the Stupid Mistakes Series with this final installment, Don’t Make These Mistakes This Fall