SME cash reserves

Published by Abbey Watkins on 9 January 2024

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Research from Allica Bank suggests that small and medium-sized businesses are holding an astonishing £273 billion in cash in low or no interest bank accounts.

But just what should businesses do with cash reserves to make them work harder, asks Abbey Watkins and John Walsham.

SMEs are the engines of the UK economy. The Federation of Small Businesses, a trade body, reports that there are 5.5 million small businesses in the UK, employing over 16 million people, accounting for half of the turnover of the UK’s entire private sector. The financial health and success of SMEs matters.

The SME landscape is, of course, nuanced, with many businesses enormously successful holding considerable cash reserves and with others operating on a more hand-to-mouth basis. SMEs have felt the economic crunch of the pandemic and subsequent cost of living crisis harder and deeper.

Yet, Allica Bank’s research, published in a report called The Great British Savings Squeeze: A report into the state of the UK business savings market, is astonishing. Of the £272 billion in cash reserves, £149 billion sits languishing in accounts with zero interest with the remainder typically earning less than 2%. Allica Bank suggests that £7.5 billion a year is effectively being lost from this interest rate deficit.

For many, holding cash reserves has been a lifeline, keeping businesses going through some of the toughest trading conditions in recent memory. But it does beg the question just what should a business do with cash reserves in bank accounts that offer little in way of return? What other options are open to them and what are the risks?

Making cash reserves work harder for a business will always be a balancing act between ease of access, liquidity requirements and appetite for risk. Here are a few options that businesses might want to consider. There is of course the caveat that business owners and directors should always take professional advice before taking action.

High interest accounts. It is still possible to find high yield savings accounts offered by business banks. Interest rates are unlikely to be high – perhaps between 3.5% and 4.8% – and will require a minimum balance to be retained.

Money market accounts. Typically, money market accounts require a fixed deposit held for a set period of time. Interest will be calculated depending on the size of the deposit and agreed length, which can be anywhere from a few days, months or years. Cash deposits will be tied to the agreed deposit period.

Certificates of Deposit. A certificate of deposit is a savings product that offers higher rates of interest on lump sum deposits. However, cash must be committed for an agreed period of time with penalties for early withdrawal.

Stocks and shares. Whilst there is scope for higher returns, the stock market does fluctuate making it a riskier investment. A diversified investment portfolio can counter that risk.

Peer to peer investment platforms. P2P platforms allow businesses and individuals with cash to invest in other businesses. They have the potential for higher returns yet with the risk of higher default, low liquidity and no insurance cover.

There are other more niche options open to businesses, such as currency exchange and digital currencies, that are considerably higher risk and not always a sensible option for inexperienced investors.

Businesses should also note that the Financial Services Compensation Fund offers protection on savings held by banks of up to £85,000 (per bank, not individual account) should that funder collapse. This protection is not extended, for example, to peer to peer investment platforms.

Build the business

Whilst savings and investment products have a valuable role to play, perhaps the best option for business owners is to invest and grow their business.

That might be through the investment in plant and machinery to improve efficiency (with attractive tax incentives), commercial premises for the business itself or to lease to other businesses, or in the people employed. In a tight labour market ensuring you continue to attract and retain the very best people is a significant competitive advantage.

Looking to future growth, a business with significant cash reserves might want to explore acquiring key parts of its supply chain or competitors to build a bigger and more resilient business. We recognise that most entrepreneurs do not start a business with growth through acquisition as a strategy or priority and this might at first seem a daunting prospect. Yet with specialist advisers working alongside the business, it can relatively straightforward process.

Directors should not overlook their own personal financial future and take advantage of the generous tax position on pension contributions.

In reality, businesses with strong cash reserves are likely to adopt a mix of different approaches depending on the needs of the business. But leaving cash in poorly performing bank accounts makes little commercial sense.

If you would like further information, please get in touch.

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