How much should you have in reserve?
Joan M. Renner, CPA, CGMA, Director 501(c)(fit!)
Last week we drove through the mountains to Roanoke where I presented at the Virginia Accounting and Auditing Conference. It was a great opportunity to share with others in the nonprofit community.
At the Conference, I spoke about nonprofit sustainability, discussing how financial leaders can use their unique knowledge, skills and experience to help their organizations assess and strengthen their long-term staying power. This power includes the capability to meet cash flow needs, avoid crisis conditions and be prepared to survive bumps in the road. In fact, sustainability is one of our Six Strengths of FIT Nonprofits™.
We talked about how to decide how much a nonprofit should have in reserve. There are many different ideas out there. According to one nonprofit coalition, nonprofits with less than three months of cash on hand are in financial distress. Some say a good reserve goal is 50% of annual budget. Charity-rating groups encourage nonprofits to have one to three years of expenses in reserve. Obviously, there is no single right answer. The amount your nonprofit should have in reserve is the amount that’s right for your organization’s needs.
A good way to decide how much you need in reserve is through your risk assessment process. During your risk assessment, you identify potential risk events, and design ways to mitigate them. Insurance will mitigate some risk events, like the risk of a lawsuit or a data-breach. You’ll only need a reserve to cover your deductible.
Other risk events are not as easy to tame with insurance, like losing a major grant or a key corporate partner. To tame these risks, you’ll need to develop an action plan. What steps would you take? How much money would you need? Through this kind of analysis, you’ll begin to develop a reserve goal in an amount to get you through adversity.
It was engaging to discuss this information with the Conference participants and hear their thoughts. By the time you read this, I will have presented again in Falls Church, and because this conference has three locations, I’ll also be speaking at the November Conference in Virginia Beach. To find out more about the Virginia Accounting and Auditing Conference contact the VSCPA.
What can we learn?
See where you stand. Evaluate your working capital, or your current assets in excess of your current liabilities. Evaluate your reaction time, or how many days your working capital would last in case of emergency by comparing your working capital to your expenses per day.
Review your cash management policy. New GAAP for nonprofit financial statements will require more disclosure about your liquid assets and your liquidity policy. Draft those notes now to see if you like how they look. Learn more about the new GAAP for nonprofits at 501(c)(fit!) financial leadership training for emerging nonprofit leaders or the In-depth seminar on the new financial reporting GAAP for nonprofit accounting professionals.
Consider your risks. Identify your most severe risks and consider what you need to be prepared.
Learn more about conducting a risk assessment process with our on-demand webinar series, 501(c)(fit!) NEXT—Guided Solutions: Your Nonprofit Risk Assessment.
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