Knowing how to handle cash surplus is essential to effectively managing a business. There are usually two ways to deal with it: paying off debts or investing.
They are both good decisions, which makes it hard to decide what to do in some cases. However, here are some perspectives from both sides to aid your decision-making.
Paying off debts
Your first instinct might be to get rid of debts. This can be beneficial if you are paying off high-interest debt. The interest charges will continue to accumulate, which is good for the lender but not you.
Another reason to consider putting debts as a priority is if you’re losing sleep over them. Though you might get a better return on your money by investing, you could be better off repaying them. Peace of mind is desirable in some situations.
Also, if you have enough money to pay off your debts, it can be smart to do so, particularly if you’re neck-deep in it.
This makes sense when you can earn higher interest rates than what’s on your debts. If the profit from your various investment portfolios can clear your debts in the future, you should consider investing.
You can decide on financial instruments like stocks, bonds, mutual funds, ETFs, etc. However, weigh the pros and the cons around the maturity, risk, yield and liquidity before making your investment decisions.
Maturity is basically the duration of an investment. When an investment reaches maturity, the capital and any gains or losses are paid back to the investor.
The maturity should be planned towards when your business will mostly need the cash. You should also spread the maturities so that all your business cash isn’t held up in one investment waiting to reach maturity.
Investments that mature when you don’t need the cash can be reinvested.
The level of risk of an investment is directly proportional to the yield. A higher level of risk will bring a higher yield and vice versa. However, it is advisable to take a conservative approach when investing your surplus business cash.
Liquidity is how easily you can access your cash in an investment. When investing your excess business cash, consider the liquidity. For example, investing your cash surplus in money market funds is very liquid. You can pull cash when you need it without any charges.
However, liquidity affects the yield of your investment. A highly liquid investment like money market will result in a lower yield. A low level of liquidity, such as Certificates of Deposits (CD), will provide you with a higher yield.
Once you’ve determined the maturity, risk level and liquidity, you’ve narrowed your options, and the yield is pretty much determined.
Is it better to pay debts or invest?
Getting rid of debts doesn’t have to be a case of one or the other. Instead, you can map out a plan that accommodates both if you have sufficient surplus cash.
What should a business do with excess cash?
Make a list of your business needs, such as employing new staff to increase workflow, purchasing tools to aid productivity, etc. – needs that would further accelerate your income growth. Treat those that need urgent attention. Invest the rest. You can also decide to put the money into an emergency fund, where you can always throw in more surplus funds.
Paying off your debts quickly means you have fewer financial responsibilities. More so, there’s room to borrow more if you need to in future. With investing, you’re on the journey to multiplying your wealth. Both, however, puts you in a better financial situation.
Grow your business cash with Sprout
With Sprout by Cowrywise, you can invest your surplus business cash and create an additional income stream for your business. You have access to diverse, business-friendly investments such as a money market index fund and several low-risk mutual funds from top fund managers in Nigeria.
Watch this video on how to invest your surplus business cash: