The Six-Month Reserves Rule

"Have six months of cash on hand at all times is ... the holy grail of financial comfort for many non profit managers," observes Thomas McLaughlin in The Non Profit Times (April 1, 2012; thenonprofittimes.com).  But McLaughlin argues that this also might be silly and non-productive.  Instead, he recommends that non profits engage in some old-fashioned number crunching to determine their need for reserves:

"Start with the classic determinants of desirable cash balances — the value of services you have already delivered but haven't yet billed.  Add an amount to cover the average length of time it takes for your invoices to be prepared and then paid by outsiders, such as consumers or government entities.  This formula is sometimes known as the cash conversion cycle and it will vary depending on the diversification of your revenue streams...

"Logic and common sense would suggest that any non profit would want to have enough cash on hand to cover a normal month's worth of expenses.  And since bad news happens regularly, one might want a cushion of an additional week or two.  Even adding a fudge factor of another week, that's not close to six months."

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